Open Question: Depositors' Collateral
Should depositors' collateral be used to maintain a tight peg?
Hey all, this isn’t really an article but rather some thoughts I have and want to communicate them to you all to think about the answer and discuss below if you have any strong opinions or insights!
Background: synthetic assets often allow you to create a particular asset by depositing some form of valuable collateral you own. However, if you purchase the synthetic asset that doesn’t mean you can redeem it against the underlying collateral.
Question: should the synthetic asset holder be given the right to redeem against funds deposited inside the protocol? By allowing the ability to do so, a tight peg can be maintained. However, the downside is any collateral you deposit (as a user) in the platform will decrease over time which means you’re effectively selling it without knowing when or how much.
Scenario:
You start off with $100k of collateral and $50k of debt
There's too much supply of the minted synthetic asset (suppose it’s a stablecoin)
The price of the stablecoin ends up reaching $0.95
We'll assume that a vault is able to be redeemed against this stablecoin.
Arb comes along and buys 10k stablecoins for $9.5k
Arb uses 10k stables to redeem against your $100k of collateral for $10k
Your new position is now $90k Collateral and $40k debt. You have effectively sold $10k of your collateral.
The comments on this post are enabled so feel free to discuss below!
Hi Kerman, I'm working on a project on UMA protocol and for this reason they have two types of synthetic assets: Expiring and Perpetual. Perpetual cannot be redeemed except when market price diverges from target price, in a sort of arbitrage mechanism. Expiring synthetic assets can only be redeemed after the expiry period.
Hi Kermann, when you said "However, if you purchase the synthetic asset that doesn’t mean you can redeem it against the underlying collateral." can you eloborate a bit?
Also can you reword you main question from the email as well? I'm working on a concept that involves crypto synthetics right now and if I understand correctly, it's an interesting question you're asking.