Accelerated Proposal for nDEFI

Proposal

The purpose of this proposal is to approve with the community the path to take for our first soft synth (Index) product ahead of its launch. We have outlined below the direction we would like to take and welcome feedback before we post a governance vote to formally approve the nDEFI index and the way it will work.

This proposal will be fast tracked to ensure a vote can be completed before the launch of the index as many of the items have already been discussed with the community or revealed previously. It is expected to be in the concepts section for 1 day before moving to the governance proposals section of the forum for 3 days before going to snapshot vote.

Background

The ETF (Exchanged traded funds) industry has grown to over $6 trillion worldwide since it started 27 years ago. It makes up more than 15% of the estimated $95 trillion global stock market, which demonstrates the incredible market demand for diversified holdings that can be utilized for “set and forget” financial management strategies such as indexes.

‌The total market cap for the crypto markets today is around $2 trillion, and only $1 billion of that total is estimated to be related to crypto ETFs. At the market’s current size, this figure would need to reach $300 billion to reach the same level of saturation as traditional financial markets.

Polly Finance has an exciting opportunity to become a leader in what is expected to be a high growth area of a high growth market over the coming years, as the crypto industry matures.

We plan to do this by offering the most attractive ETFs on the market, selecting tokens from the best projects and putting them to work earning the highest yields. Allowing you to comfortably invest in your preferred sectors with the confidence that your assets are being managed for you.

About

The Polly DeFi Index is divided into key DeFi sectors, which are given a weighting reflecting their maturity and share of the overall market. Within those sectors, each project is weighted on the TVL divided by Fully Diluted Valuation (FDV).

Objective

To generate revenue a defi project needs value deposited into their contracts. This makes Total Value Locked (TVL) a key metric for evaluating a project’s ability to generate revenue. Projects with a high TVL are also likely to gain more traction in the market through the network effects the existing capital provides - capital attracts more capital. A good example of this is with Yearn Finance. Yearn was able to generate massive amounts of revenue as a result of the large amount of capital they attracted. This gave them the resources to further develop and innovate their products in a positive feedback loop. Yearn’s success has led to many projects such as Alchemix and Abracadabra using their products and liquidity as a base layer to build on.

nDEFI is composed of the strongest components in the DeFi ecosystem, striving to provide core coverage of the key building blocks for the future of finance. With nDEFI you’ll have exposure to infrastructure, lending markets, decentralized exchanges, synthetics, and yield aggregators. The unique weighting formula allows the index to invest in projects gaining traction earlier and with a greater weighting than market cap weighted indexes.

The Polly DeFi Index will provide the crypto industry’s first automated value investing, decentralized index fund. When you add the prospect of the underlying assets being put to work to earn yield, it’s easy to see why Polly’s nests make for a cozy place to hold your capital.

Project Inclusion Criteria

For a project to be included in the Polly Defi Index, it must fit the below criteria in order to reduce the risk of the index and fit the desires of the community.

Project Characteristics

  • Be a DeFi project available on the Ethereum blockchain.
  • Listed on DefiLlama
  • Have at least 7.5% of the total supply in circulation and have a predictable token emission over the next 5 years.
  • The protocols will be selected by TVL based on DeFiLlama’s website.
  • The protocol must be running for 3 months before qualifying to be included in the index
  • In the event of a safety incident, the team must have addressed the problem responsibly and promptly, providing users of the protocol a reliable solution and document a detailed, transparent breakdown of the incident.
  • Be Ethereum focused
  • Must be sufficiently decentralized

Index Composition

The statistics for the TVL and FDV were taken in July so are already slightly out of date and may be adjusted pre launch.

Token Weighting %
Yield aggregator 10.00
YFI 1.87
Convex 7.72
Alpha 0.42
Dex 20.00
UNI 1.22
SUSHI 6.12
CRV 7.56
BAL 5.11
Lend 20.00
AAVE 5.92
COMP 5.65
MKR 6.65
ALCX 1.78
Infra 40.00
ETH 30.00
LINK 9.00
MATIC 1.00
Synths 10.00
SNX 7.19
UMA 0.86
BAO 1.95
TOTAL 100.00

Yield Strategy

It is possible for the underlying tokens to follow strategies that will earn yield, maximizing value for nest holders, who benefit from this productivity without having to perform any actions themselves. These strategies will be changed over time to take advantage of new opportunities or to maximize the yield earned. Strategies already available include lending and staking, with more advanced strategies planned to be developed in the future.

To begin with we will make use of the strategies that already existed in the PieDao code and that are available on Polygon - AAVE and Cream lending pools.

The next stage will likely be to develop a Kashi strategy, which will allow us to create our own lending markets for tokens that wouldn’t otherwise have yield options on Polygon as well as furthering our relationship with Sushi.

Index Maintenance

The Index is maintained quarterly in two phases

Determination Phase

The determination phase takes place during the final 2 weeks of the quarter. During this phase the changes needed for the next reconstitution are determined.

The TVL and FDV of each project are recorded, including new projects that qualify for the index and meet the criteria.

Proposed changes will be published on the governance forum for 1 week then a governance vote will run for the community to approve changes.

Reconstitution Phase

In the two weeks following a successful vote, the index components will be adjusted as per the instructions published during the final 2 weeks of the quarter.

Emergency Maintenance

The multisig holders are authorized by the community to re-balance indexes outside of the usual schedule during moments that they collectively deem to be critical emergencies. This clause will allow for quick re-balancing in the event of a protocol or index being in danger of failing. An example of when this would be utilized would be if a stable coin begins losing its peg/ becoming insolvent, or a protocol suffers an exploit that is not dealt with sufficiently.

These scenarios may be time sensitive and require immediate resolution. Thus the team may decide to act without warning and explain their actions in a governance forum post afterwards, or if there is deemed to be time, an emergency governance vote will be posted.

This is intended as a safety mechanism only, to prevent loss of funds for our users and as such would be a power exclusively exercised under extreme circumstances.

Fees

Fees for the index will be used for a combination of burning the governance token, adding to the treasury as well as a unique reflexive payment to current index holders as a way to incentivise long term holders. This will be achieved by distributing ⅓ of exit fees to anyone currently holding the index token. The fees are broken down as follows:

Entry fee 0.5%: used to burn Polly tokens

Annual streaming fee 1%: accumulated by the treasury

Exit fee 1%: 0.66% accumulated by the treasury, 0.33% distributed to current index holders


[edit] The 0.5% entry fee will go to the treasury for the first 3 days while there is no farm to incentivise Polly liquidity. This is to prevent a large volume of buys happening in an illiquid pool, inflating the price for people who then add liquidity for the Polly farms. The community can then vote on what to do with the fees collected, or they can be left to help fund future developments in the project.

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I think that sound good.

Excellent progress :D I am personally feeling more comfortable and safer that I know now, that there will be emergency powers granted to multisig holders to step in when/If things go sideways. At this critical turning point for the project, in my opinion, we’re better off to have a certain amount of centralisation and emergency powers protocols in place and ready to be implemented swiftly and decisively when needed. We’re sailing full speed into mostly uncharted territory so better be safe than sorry.

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Could we add alchemist coin to the dex index?⚗️⚗️

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sounds good lets GOOO

Well laid out, chickn. I have no objections to this.
🥂Here’s to new beginnings!🥂

Could you go more into or reference documentation to better understand how users can provide liquidity to this index? As a BAO holder, can I deposit liquidity into the index and mint nDefi? Apologies if this has been talked about already I’m fairly new to the community.

It is important to note that although this power is there, it doesn’t mean the team will spot a problem or act on it in time - It will be on a best efforts basis.

Everyone involved are pretty tapped into the market, but these things can happen quickly.

Alchemist is not listed on DefiLlama just yet. They do have a DEX but maybe it would fit into another category too, like Yield aggregators - they are quite a unique project which we could think about adding at a future date if thats something the community support, once they are added to defillama

Documentation will be available for you to follow before farming opens. We may also release the index for alpha testing a few days before that, so you should have plenty of time to get familiar with it.

Its very simple though, you use ETH to mint index tokens. The ETH is used to buy the underlying tokens on sushiswap and you are given nDEFI tokens in exchange

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Great, I’m working with alchemist coin to get it added asap

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This is looking great. I’m glad that you explained to the newcomer to the project the rationale behind using TVL as a key metric, too. Well done.

I realize that this proposal pertains to the launch of our new product, but one thing that came to mind during this read was…accountability.

Perhaps not to be added into this proposal, but we should at some point in time propose a mechanism to remove/add multisig holders.
No offence to the current holders, but the community needs to have some recourse in the event is is believed by the community that one/few/many of the multisig holders are not acting in the best interest of the project(s).

…sorry for being a downer ;)

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You are of course right. This is the kind of thing we will be looking into after the polygon launch - there are a number of things we need to do to improve how we work. We haven’t set up multisig for BAO yet, there are a few people from the community we probably want to hire, a proper system for treasury management, cross chain voting amongst other things I’m sure.

You could help expedite the process for this issue by creating a post in #concepts or #brainstorms if you want and suggest the structure you would like to see for rotating multisig holders

This is awesome @Chickn thanks for the very detailed write up.
From my eyes this sounds like a really good start.
I do like what @JohnJohn . I’ll try to brainstorm for ideas or structures in having a safety check on multisig holders.

Thanks!

A quarterly rebalancing (and addition of new projects) determined by the community makes sense. It gives the BAO community a chance to voice their opinion on new additions and removals to the index. However, this causes some issues. The largest being human interaction. Our brains are not wired for investing. When we see large down days most people’s immediate response is to flee. When we see large up days we want to see how long it will last before we potentially sell. Having the community vote on rebalancing and interacting with the index could cause some unintended consequences due to bad behavior.

While I think that voting to include new assets is important, the rebalancing aspect should not be voted on. This should automatically be done without any input from the community. That way emotion is left out of the equation.

In addition, I propose considering opportunistic rebalancing instead of rebalancing over set time periods. Opportunistic rebalancing was a strategy developed by Gobind Daryanani back in 2008 that has basically defined modern rebalancing strategies for money managers. He determined that setting 20% bands on each underlying asset class allows for the most potential return. By doing so it allows for three things - removing bad behavior from trading, maintaining the target asset allocation and the ability to take advantage of “black swan” events. As a quick example of what I mean by 20% bands, let’s take LINK as an example. It’s target allocation is 9%. By setting a 20% band, it will automatically sell any excess once it’s allocation reaches 10.8% of the overall allocation. While it will want to buy more if it reaches 7.2% of the overall allocation. So put simply, it’s automatically selling high and buying low.

The one nice thing about opportunistic rebalancing is that it allows you to take advantage of black swan events. Those periods of time where the market is in flux and you need to be quick to react. Eg: the dot com bubble, housing market crisis or even COVID last year. Our firm employs opportunistic rebalancing which allowed us to take advantage of market downturns whereas timeframe rebalancing would not. Last year we were selling bonds at the height of the pandemic. In turn we were buying stock. This allowed us to generate fantastic returns for our clients. These black swan events can happen fast and you need to be quick to react (or have parameters set in place this will automatically take care of these things for you).

There are some downsides (or unknowns) that might not make this viable for BAO.

  1. Opportunistic rebalancing was developed for traditional markets. There is no proof that a similar strategy would work for crypto markets. It would be very challenging to determine as crypto markets are still so new and we don’t have much data to work with.
  2. Opportunistic rebalancing only works with diversified portfolios. There needs to be low correlation between the underlying assets to trigger rebalancing. Most of the crypto markets seems to move in tandem with each other.
  3. I’m not sure this can even be implemented properly. Or if it would delay the release of Polly. It might be something to consider in the future instead of implementing for Day 1.
  4. This is a relatively “conservative” approach to investing. If an asset shoots up +100%, you’d have sold on the way up to buy other assets. Not taking advantage of those large swings we see in crypto markets. Perhaps we would want to adjust the bands to 25% or 30% to take advantage of the differences in the crypto market over traditional markets.
  5. The largest issue is that if one of the underlying tokens were to go to $0, 20% bands would not prevent liquidity being sucked out from other assets. There would need to be some kind of failsafe implemented (or human interaction) to prevent this type of scenario. Say, you could only buy the asset once a month or something like that.

Bao would be the first of my knowledge to ever implement something like this. Could be a great tool if it’s able to be implemented. If you want to take a look at Daryanani’s whitepaper you can find it here - http://resource.fpanet.org/resource/09BBF2F9-D5B3-9B76-B02E27EB8731C337/daryanani.pdf

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nice work Dunzie, thanks for sharing this. I am always trying to look at crypto with regard to my understanding of economic markets. It’s super cool to have someone with professional experience with economics and portfolio management paying attention and sharing what they know. Much appreciated!

Thanks for your reply @dunzie

The intention of the vote was only to approve or deny a rebalance, it was intended to be based purely on the criteria outlined in the proposal, but maybe that was not clear enough. Projects would change based on their TVL in each of the categories. So for example if a yield aggregator project attracts a lot of TVL it would would be swapped for one it overtook.

I was unsure about including a vote at all as it is likely largely redundant, but you do point out that it gives the opportunity for discussion at least and there could be some circumstances the community choose not to rebalance. We could also decide to increase the number of projects in a category and its weighting if the category changes in market size significantly compared to the others.

I really like the concept behind your proposal but agree that a 20% band may not be enough for a crypto portfolio, which has projects that will make that swing in a day as part of a larger move compared to stocks which typically will not. I do think it is something we should look in to going forward though and implement aspects of the idea in the future.

One other thing to note, one asset going to 0 would not affect the rest of the assets, there is no impermanent loss in our indexes because the assets do not provide liquidity for exchange like a balancer pool or many other index products. This was one of the attractions of using PieDAO code over Balancer amongst other things.

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please note the edit at the bottom of the OP

Love to see $MIST in the mix

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