Overview
Synthetix is an Ethereum-based DeFi project that serves as a decentralized exchange (DEX) and issuer of synthetic assets in an open, decentralized, and trust-minimized way. It accomplishes this through a staking-based incentive system, while also using smart contracts and oracles.
Users can speculate on any real asset by creating synthetic assets that track their real-time prices. Anyone can gain exposure to stocks, bonds, real estate, currencies, and just about anything with a price, all in a non-KYC system with no central authority. This can be done by depositing SNX tokens on the platform.
SNX Strengths
- Synthetix (SNX) is a top 10 DeFi token with nearly $1.0B in value locked while showing continued growth since inception.
- SNX staking provides competitive ROI ranging from 5% to nearly ~30% making it attractive to DeFi users seeking yield. SNX also demonstrates an active user base as ~60% of the SNX supply is currently being staked.
- While already proven to be a successful project, SNX has a clear roadmap, growing team, and steady development progress to grow the project which could eventually unlock the global market of trading sythnetics of any asset, currency, commodity, etc.
SNX Weaknesses
- Synthetix is a complex trading platform that integrates various early-stage technologies like Ethereum, smart contracts, oracles, Mintr, and more which creates compounding risk for SNX holders.
- Synthetix is not fully decentralized, immutable, or censorship-resistant like other DeFi projects i.e. Uniswap. In fact, Synthetix has a "pause" feature that the team used to stop trading after an exploit in June 2019.
- SNX staking requires ~750% overcollateralization which is cost-prohibitive to most users and far more cost-intensive than other DeFi projects. This could dissuade some users from using Synthetix and instead seek alternative ways to trade/earn yield in DeFi.
- SNX staking is not as "passive" as other projects and requires some additional oversight. The learning curve associated with SNX staking (and the Synthetix ecosystem in general) is higher than other DeFi projects and may discourage some users.
Important Links
- Whitepaper
- Website
- Github
- Telegram
- Discord
- Blog
- Dapp Radar
Technology
Synthetix’s code is an open-sourced layer 2 protocol on Ethereum. Synthetix removes custodial risk by using smart contracts and price oracles. As of September 2020, Synthetix uses Chainlink oracles rather than their own in order to bridge the real-world price data with its platform. This removes some of the centralized dependency on the Synthetix team and highlights another step towards transitioning the project to decentralized governance.
In Kwenta, Synth’s decentralized exchange (DEX), users can buy and trade 13 cryptocurrencies and inverse cryptocurrencies, synthetic gold and silver, synthetic USD, synthetic Australian dollars, and synthetic Euros. In April 2021, Kwenta launched synthetic stocks like Facebook, Apple, Netflix, Google, Tesla, and more. This enables traders to swap cryptocurrencies like sETH, sLINK, sUNI, and more directly for the stocks without interacting with traditional finance.
Mintr, the exchange where users can mint Synths is a decentralized application (dApp) that traders can use to stake their SNX as collateral to mint Synths. After staking SNX as collateral in Mintr, users can mint sUSD, which is pegged to the US dollar. Every sUSD minted must be backed by almost eight times (~750%) the value of SNX staked on Mintr, ensuring that all collateral is backed by Synths and that stakers incur collateralized debt when creating sUSD. When users mint and stake, they are taking on a portion of the platform’s total debt.
For example, if a user mints 1 sUSD into a debt pool of 100 sUSD, then their debt ratio owed to the network is 1%. The total debt equals the sUSD value of all Synths. If the sUSD value of the debt pool increases more than the minter’s Synth portion, then a loss will be incurred (the opposite is also true). If a staker’s minted Synth account is equal to the relative debt pool, then no losses or gains accrue. One user’s profit equals another user’s loss. Synthetix can create a positive or negative feedback loop from person to person and based upon market volatility.
It should be noted that the SNX token is highly volatile based on the standard deviation of 157% annualized in USD and that is why the over-collateralization ratio is set so high (~750%). Synthetix does not have a liquidation mechanism to protect users from insolvency issues.
The system tracks the debt pool by updating the Cumulative Debt Delta Ratio.
{delta = debt to be burned (debt pool - debt to be burned)}
Each time an SNX holder mints or burns Synths, the system’s ratio is updated. Also, this system uses this data to determine the individual debt of each staker at any time without having to measure the changing debt of each staker. The staker’s final mint or burn transaction is recorded on the Debt Register with their insurance data and the relative index number.
{User debt percentage = (New Debt + Existing Debt) (Previous Debt Pool + New Debt)}
In a practical example, if a staker mints 1,000 sUSD by locking up 8,000 SNX, to eventually retrieve their original 8,000 SNX, they must burn their 1,000 sUSD. However, the original debt will fluctuate with the price of SNX while it was locked up. So, the user may need to burn more or less than the original 1,000 sUSD worth of debt depending on token performance. When the full debt is burned, the Debt Register resets to zero and the staker is no longer part of the debt pool.
As previously mentioned, Synthetix requires all of its synthetic assets to be over-collateralized to 750%. If a user’s stake falls below this threshold, they are no longer eligible to collect trading fees. In order to begin collecting fees again, the user will need to either burn a portion of their mined tokens or add more SNX to their stake.
The overall benefit of this process and Synthetix, in general, is that the entire process is peer-to-contract. Conversions between Synths occur with smart contracts and not a centralized company. There are no third parties, counterparty risk, nor KYC.
Beginning in Q1 2021, Synthetix began integrating its new staking mechanism, in a phased approach, on an Ethereum layer 2 (L2) called Optimistic Ethereum. On this L2, anyone holding the token can validate transactions and earn staking rewards by locking their tokens in the network. However, in its current phase, there is currently no utility for sUSD on this L2.
Traders require both liquidity and stability between a Synth and other crypto assets to make profits from trading. Some Synths trade on the open market, so it is possible for them to fall under the value with the assets they track. Synthetix claims that deviations from the peg are minimal if incentives are effective.
There are three methods to the Synth peg according to the Synthetix lite paper:
• Arbitrage: SNX stakers have created debt by minting Synths, so if the peg drops, they can now profit by buying 1 sUSD at $1 USD.
• sETH liquidity pool on Uniswap: each week, a portion of the SNX added to the supply through the inflationary monetary policy is distributed as a reward to people providing sETH/ETH liquidity on Uniswap.
• SNX auction: A new mechanism with the dFusion protocol (from Gnosis) in which discounted SNX is sold at auction for ETH, then are used to purchase Synths below the peg.
Economics
With synthetics in the traditional market, collateralized debt obligations (CDOs) are types of asset-backed securities. These securities are used as vehicles for refinancing mortgage-backed securities and are IOUs to pay investors based on the cash flow that is collected from the pool of bonds or other assets it owns. In just a few years since its inception, the CDO market grew to hundreds of billions of dollars. In a similar way, synthetics can act as a CDO product. “Synths”, the synthetic version of an asset created on the Synthetix platform, can collateralize fiat currencies, commodities, cryptocurrencies, cryptocurrency indexes, and more.
SNX is the utility token of the Synthetix ecosystem and is necessary to create synths. Once SNX is staked, new Synths can be minted.
Synthetix's original monetary policy featured a fixed supply; however, a new monetary policy was introduced in 2019. This new inflationary monetary policy was heavily front-loaded so that ~50% of all the additional supply would be distributed in the first year and then halving each year after that. For five years after the start of the policy in 2019, the total issuance will be halved, starting at 75M SNX for the first year. The total supply will eventually reach 245,312,500 SNX by 2024. This front-loaded design helped bootstrap the network by incentivizing stakers with early high issuance/staking rewards.
However, this monetary policy also did not last. In November 2019, the SNX community voted and approved a 1.25% weekly rewards decline beginning in December 2019. Additionally, the community also approved a 2.5% annual terminal inflation starting in September 2023. The current monetary policy is illustrated in the charts below.
Initially, 100 million SNX were issued in March 2018 and distributed as follows:
- 60% were allocated to investors in the main ICO sale.
- 20% were allocated to the team.
- 12% were allocated to the Synthetix Foundation.
- 5% were reserved for Partnership Incentives.
- 3% were reserved for marketing.
Synths are minted and backed by staked SNX as collateral using Mintr, a decentralized application for interacting with Synthetix contracts. Stakers increase their debt when they mint Synths, and to exit, or unlock, the platform they must pay back this debt by burning Synths. Community governance mechanisms will dictate the collateralization ratio in the future, but currently, the ratio remains at about 750%.
SNX holders are incentivized to stake in many different ways. One way includes exchange rewards generated when someone exchanges one Synth to another Synth within the platform. Each trade creates an exchange fee that is sent to a fee pool that is then distributed equally to the participants at the end of each week. The exchange fee charges both maker and taker fees of 0.30% to reward the stakers for providing liquidity on the platform.
Another incentive is an inflationary bonus. SNX supply will increase 40% from May 2020 to August 2023 because of its 2.5% annual inflation rate. Every eligible SNX staker will claim rewards from the exchange if they do not fall below the 750% collateral ratio. Long term, eligible stakers may profit at the expense of those that do not stake and those that have undercollateralized stakings, because those SNX staker’s values will be diluted.
SNX’s next use case is that SNX is required to maintain a user’s Collateralization Ratio at the appropriate rate. Synths are backed by collateral to absorb price shocks so if the SNX or Synths shifts, so will every staker’s collateralization ratio. If the ratio gets above 750%, they will be unable to claim fees until they correct their ratio. A staker can adjust their ratio by minting or burning Synths toward a 750% ratio.
SNX stakers incur debt when they mint Synths. This debt can increase or decrease based on the exchange rates and supply of Synths within the network. SNX stakers are a counterparty to all Synth exchanges wherein all the stakers take on the risk of the overall debt in the system. Stakers have an option of hedging their risk by taking positions outside of the platform, but the risk is compensated by earning fees generated by the network.
Another advantage of the Synthetix Exchange is that its pricing oracle assigns exchange rates and supplies unlimited liquidity up to the amount of the collateral ratio to promote zero slippage and permissionless on-chain trading, also called peer-to-contract (P2C) trading. The Synthetix platform may be a very attractive staking system that traders can use to make large trades with low slippage to handle a high volume, but profits, like in many projects, are affected by the current total value of its token, in this case, SNX.
