Expanding the Boundaries of Crypto Assets: A Brief Analysis of the Features and Potential of the DeFi Synthetic Asset Protocol Synthetix

This article was published in the Synthetix community.

The entire year of 2020 can be said to be a breakout year for DeFi (Decentralized Finance), as the bull market effect brought about by Bitcoin breaking new highs brought DeFi into the view of more people.

Many people's initial understanding of DeFi might be decentralized exchanges like Uniswap, which achieve fully market-oriented trading through liquidity pools and automated market makers. After using it, many suddenly raised a question: Is it possible to trade traditional assets in such a market? In fact, just like how the original battery technology in the lab was activated by electric vehicles, Synthetix, which began entering the synthetic asset space at the end of 2018, was finally pushed to the forefront by demand.

What is Synthetix?

Synthetix was originally Havven, a stablecoin project based on a dual-token system, which issued stablecoins nUSD by collateralizing the on-chain native token HAV. At the end of 2018, Havven was renamed Synthetix and shifted from a pure stablecoin project to a synthetic asset project.

The synthetic assets on the Synthetix chain are called Synths. Simply put, synthetic assets are a mapping of real-world assets onto the blockchain. For example, the widely used stablecoin assets pegged to various fiat currencies are essentially "synthetic assets," making it convenient for users to anchor prices on-chain and facilitate trading.

In short, we issue a token pegged to the price of traditional assets using the price feeds from oracles through the Synthetix protocol.

The synthetic assets on Synthetix are not limited to stablecoins; they also include Bitcoin, Ethereum, commodities, precious metals, U.S. stocks, and even stock indices, all of which have investment value. For instance, you can mint sXAU on Synthetix to represent the price of gold, sXAG to represent the price of silver, and sTSLA to represent the stock price of Tesla. Currently, these Synths only correspond to the prices of the respective assets, allowing you to earn profits through buying, selling, or going long or short, but they cannot be exchanged for real-world assets. However, not many people trade stocks for year-end dividends, so with the Synthetix tool, you no longer need to open an account with a broker to easily trade stocks on the blockchain.

Although the purpose has changed, the underlying logic of the project has not. Synthetix still mints sUSD by collateralizing the native token SNX, and sUSD remains pegged to the U.S. dollar at a 1:1 ratio. The difference from the past is that the minted sUSD can be used to purchase the synthetic assets mentioned above, and the purchasing process is realized through smart contracts for direct equivalent exchange, with prices fed by the ChainLink oracle.

Building a "Fast Track" Connecting the On-Chain World and Traditional Financial Markets

Synthetix establishes a bridge to the trillion-dollar traditional financial market for the on-chain world, allowing users to easily access assets like precious metals and U.S. stocks that have certain barriers to entry through Ethereum, while eliminating cumbersome intermediary processes and reducing trading friction caused by policies and regulations. More importantly, trading between clearly defined assets such as indices, precious metals, stocks, and crypto assets, which is almost impossible in traditional markets, can be realized on Synthetix.

In addition to the convenience of trading, Synthetix has cleverly integrated trading models and economic models in its design.

Users mint sTokens by collateralizing multiple times the value of the sToken itself in SNX, which not only creates scarcity for SNX but also builds deep liquidity pools for trading. In traditional DEXs, liquidity is provided by the trading pairs themselves; for example, BTC/USDT requires both liquidity pools to be deep enough to ensure price stability and trading security. In contrast, the Synthetix platform provides liquidity through a dynamic debt pool and uses inflationary designs in its economic model to reward users who provide liquidity to the debt pool.

Dynamic Debt Pool

Unlike traditional static debt, Synthetix employs a dynamic debt design. After users collateralize SNX to mint sUSD, the value of sUSD is considered the system's liability, and when sUSD is bought as sToken, the debt will increase or decrease with the price fluctuations of the sToken.

All users within the Synthetix network collectively bear the risks associated with the rise or fall of the debt. If the price of sBTC rises by 20% while the prices of other sTokens remain unchanged, the SNX collateralizers need to share the debt incurred by the 20% increase in sBTC. As the debt is diluted, users holding sBTC gain profits, while others incur losses.

This is precisely the source of liquidity mentioned earlier. Theoretically, users can mint any sToken using smart contracts and trade using price feeds from oracles, with the over-collateralized SNX providing sufficient depth and eliminating slippage issues found in AMMs.

The synthetic assets on Synthetix consist of indices, precious metals, stocks, crypto assets, etc. This bundle of assets has varying degrees of positive and negative correlation, allowing different types of asset prices to hedge against each other. The more diverse the types of assets, the more volatility of the entire debt pool can be mitigated, reducing risk factors. This helps maintain the collateralization ratio of SNX within a relatively stable range.

Derivative Trading of Synthetic Assets May Have Greater Potential

The debt pool design of Synthetix essentially uses SNX as a large base, on which a bundle of synthetic assets including sUSD, sBTC, sETH, and even indices, stocks, and precious metals operate. SNX supports the value of this bundle of assets through over-collateralization. This bundle of assets connects externally through oracles and external prices, and internally achieves free exchange, creating a connection with no slippage and high depth. One can imagine this bundle of synthetic assets as small cars freely running on the SNX base with low friction.

This also provides imaginative space for future derivative trading, where various futures, options, and other derivatives can be freely designed on the blockchain. The essence of synthetic assets is to tokenize traditional financial assets, bringing various assets from traditional financial markets "on-chain" to Synthetix, and based on this, constructing various futures and options derivative trading. One can imagine how large this market could be in the future.

In the synthetic asset space, as more and more traditional assets are tokenized, the imaginative space for Synthetix will be highly anticipated.