Foreword

Oracle is an important factor in the DeFi world. Although the security of different protocols is usually inherited from the underlying smart contract network, its normal operation still depends on the oracle. If an oracle of a protocol is attacked or destroyed, the entire protocol will be manipulated. Recently, new DeFi creators are creating new narratives by conceiving new lending and derivative architectures, and the common point of these protocol changes is no longer relying on the oracle.

DeFi Risk and Remediation

The biggest appeal of DeFi comes from its decentralization. In a broad sense, it is an open financial system with permissionless payment protocols. Compared to traditional finance, its rules, profits, and even risks are disclosed in a more "obscure" way, but it still has a very strong degree of openness.

However, after several years of development, the DeFi field has also accumulated billions of dollars in theft [1], and even the most fervent believers will constantly question whether it can become the mainstream of future finance. In 2022 alone, hackers stole more than $3.8 billion through DeFi protocols and cross-chain bridges, making it the year with the highest amount of theft in crypto history. If we want to bring a larger group of people into the crypto world and rely on DeFi in the future, security is the primary factor that needs to be addressed.

Source: Chainalysis

Risks and "Source Code" of Oracle

The organization Nascent, composed of builders, believes that the concept of "no Oracle agreement" will provide a more robust and secure technical architecture for DeFi from the ground up. Today, DeFi hopes to define itself as "primitives" and hopes that more teams will build products or combination protocols on their basis. Once the contract is mixed with any external dependencies, they will inherit all relevant risks. At the same time, in order to carry a larger system ecology, the contract will be upgraded, and this management-style upgrade variable will involve the current and future changeable environment, bringing more risk factors. As the name suggests, the introduction of Oracle creates a dependency relationship with external data, which can bring potential risks. Therefore, Dan Elitzer, a member of Nascent, proposed a brand new definition: to meet the conditions of primitives, in addition to contracts deployed on the blockchain, it cannot rely on any external factors, such as governance, contract upgradability, and oracles.

But the reality is that DeFi protocols that meet this basic definition are very rare today, with the most representative being Uniswap V1. However, even Uniswap V2 and V3, which are consistent with the definition proposed above, do not qualify from a security perspective because they allow governance over certain functions, such as closing protocol fees and introducing fee tiers for pools.

However, this narrow governance function has not caused systemic risks due to the large-scale upgrades in other protocols, so the reason why Uniswap has achieved great success in all versions so far is the absence of Oracle and full-chain, two key factors.

Undoubtedly, Uniswap is the leader in decentralized trading, achieving tremendous success and spawning many experiments in decentralized exchanges. For example, Uniswap V3 introduced the concept of non-fungible liquidity positions, allowing liquidity providers (LPs) to concentrate their liquidity within a specific range. This enables LPs to capture a larger share of trading fees generated within that range and profit from it, but there may also be uncompensated losses due to price fluctuations. This has led to more efficient use of capital and specialization of the LP portion in the market, resulting in a series of position management tools such as Arrakis, Gamma, and Sommelier. Although this is very friendly to DEXs, lending protocols still require oracles.

In March of this year, Euler Finance's lending protocol was hacked, resulting in a loss of up to $200 million. The protocol allows users to decide on collateral and borrow funds. In short, the issue occurred in a specific function that was not properly secured, allowing users to disrupt the fundamental invariant of the lending market. For more information on the details of this attack, please refer to [2].

For loan agreements, qualified collateral is limited to assets with reliable price feedback from an oracle. Loan parameters (such as loan-to-value ratio [3]) are governed by their agreements, so any bad debts are the responsibility of the agreement rather than individual borrowers. Similarly, derivative agreements that rely on oracles for pricing, lacking internal price discovery mechanisms, are susceptible to price lag and lack of updates, severely limiting their scale and user experience. As mentioned in the preface, this also explains why trader Avraham Eisenberg was able to successfully attack Mango Markets and withdraw $116 million from the cryptocurrency trading platform.

Why Uniswap is currently secure

AMM can have the simplest basic invariant in any DeFi source code (Primitives): tokenBalanceX * tokenBalanceY = k (such as constant product). For example, the Pair interface in Uniswap V2 is implemented based on the following four function invariants:

Mint: Add to k;

Burn: Subtract from k;

Swap: Move x and y while keeping k constant;

Skim: readjust tokenBalanceX * tokenBalanceY to equal k.

The Security of Uniswap V2: a simple core invariant that all functions serve. The only controversial aspect is its governance mode, which can switch the fee switch, but this does not touch the core invariant, only affects the distribution of token balance ownership. It is precisely because of their simplicity in security (non-upgradable smart contracts and basic invariants) that Uniswap itself has never been hacked.

Reconstruction Loan Agreement

Source: Author Balakov

Recently, we have noticed many projects that involve lending agreements without oracles, such as Ajna, Ethereum Credit Guild, the Automated Tranche Maker protocol by MetaStreet, and the Blend hybrid protocol launched in collaboration with Blur and Paradig [4].

Unlike traditional DeFi lending markets, Gauntlet does not have collateral or a single universal oracle like Chainlink to provide "real" asset price sources for all users and protocol functions. Instead, borrowers need to assess risks to determine the collateral they require from borrowers, and must update their borrowing standards when asset prices change. The way it works is that borrowers choose the specified collateral they are willing to accept, such as BAYC Token and individual Bored Ape NFTs, the reference assets (such as USDC) they are willing to provide as collateral for borrowers, and the ratio of reference assets to collateral assets that they will require borrowers to be liquidated. Finally, borrowers can post collateral and borrow reference assets at the current market rate.

Please note that, since both the borrower and the lender have agreed that the settlement of the loan is determined by the ratio of the unit quantity of each asset rather than the US dollar price, no oracle is required. However, if the relative US dollar value of any asset changes, the lender will adjust the terms of the current or future loan to achieve the collateral ratio they deem safe.

These methods' greatest advantage is that the protocol is essentially immune to bankruptcy. This is because each lender is ultimately responsible for their own ability to repay the loan, so there is no concept of "bad debt", which may be borne by DAO treasury/insurance funds or handled among lenders.

The Blend protocol of Blur assumes "the existence of more complex lenders who can participate in complex on-chain and off-chain protocols, evaluate risks, and use their own funds." This makes sense in the context of Blur being a primary trading venue for professional NFT traders, but it seems much more complex for ordinary users to borrow on Aave or Compound.

无 Oracle 的新面孔

Translation:

A New Face Without Oracle

According to Chase Devens, a researcher at Messari, the definition architecture of non-oracle can be divided into two categories: peer-to-peer and hybrid types based on AMM. The main characteristics of these two types are as follows:

Point-to-Point

Supports any type of on-chain collateral.

The user bears the loan parameters and the risk of bad debts (no longer the contract's risk), and the borrower no longer defines the interest rate and LTV parameters, but decides the value comparison by themselves. Removing the oracle from the protocol mechanism means that these loans can be created by any on-chain collateral.

Active management of positions is required to ensure that the provided liquidity is effectively utilized. Users must actively manage their positions in a manner similar to centralized liquidity positions such as Uniswap V3.

Based on AMM, hybrid types (lending/derivatives-LPs liquidity providers)

Supports any type of on-chain collateral.

The underlying LP position provides pricing data for settlement and derivative contracts, and is also the main market for liquidation. This allows the protocol to calculate the results of settlement and derivative contracts from its underlying liquidity pool, essentially making the LP position itself like an oracle. In addition, these LP positions provide a primary market for unloading protocol inventory during liquidation or contract expiration, without the need to settle collateral on external platforms.

Example:

Ajna.finance

Ajna is a lending protocol designed specifically for EVM, without governance, permissions, or external price supply (oracle). It can be used to borrow and lend our entire investment portfolio (including NFTs). Two core issues of other lending projects that have reached critical mass are: (1) token governance systems are insufficient to analyze complex risks, and (2) using external price feedback (oracle) limits asset scope to "blue chip" with liquidity in secondary markets. These flaws have caused catastrophic losses in the DeFi lending market and limited the ability to support new assets. Ajna solves these problems through some key innovations.

(1) Asset pricing provided by the lender: When the borrower uses the Ajna protocol, they will inform the contract of their willingness to pledge assets at a certain price. This effectively allows them to input their own lifecycle value and transform it from governance parameters to market parameters.

(2) Automatic interest rate discovery: In each Ajna market, there is an equilibrium state determined by internal indicators. If the market is out of balance, anyone can change the exchange rate by 10% every 12 hours. If not, no changes will be made.

(3) Clearing margin: As Ajna does not have an oracle, it relies on users to tell it when to liquidate loans. This is achieved by having a clearing agent post margin to trigger the liquidation. If they are honest, they will be rewarded. If not, they will be punished.

So what's the point? These innovations allow Ajna to provide services for the "entire" ecosystem. Anyone can create a lending market with any asset (even NFTs). Governance processes are no longer laborious and there is no longer any concern about liquidity, secondary markets, and oracles.

Blend