Premia AMM & Meta Vaults 🤖⚖️
Enabling liquidity providers to earn yield by providing traders the options they are looking for at fair prices.
tldr; Options AMM coming soon w/ liquidity vault strategies for longing/shorting specific tokens, while earning yield from trading fees, premiums, and Premia liquidity mining program.
Premia’s most important problem to solve right now is liquidity. Traders need to be able to find the options they are looking for on the marketplace, when they want them, at prices that make sense. The problem is, it is difficult for option writers to know which options to write each week and how to price them best for sale. This creates the well-known chicken-and-egg situation that all new marketplaces deal with in their beginning stages.
A marketplace must bring a sufficient number of both buyers and sellers to its platform, simultaneously, before either buyers or sellers will use the marketplace.
In DeFi, this solution is most commonly solved through the use of automated market makers (AMMs). This is for good reason, as existing AMM models allow for liquidity providers (LPs) to “set-and-forget” their yield-earning positions over time while providing instantaneous liquidity to traders in the marketplace at fair prices.
Other marketplace jump-starting initiatives have been attempted, such as order book mining and Premia’s own interaction mining, however, none of these have been anywhere near as successful as the constant function AMM models made famous by DeFi applications such as Balancer, Uniswap, and SushiSwap (hint: SushiSwap also has some additional secret sauce).
After thoroughly researching each of the possible incentivization mechanisms and marketplace jump-starting initiatives, the Premia team believes the most successful solution is likely to be an automated market maker, that works similar to Uniswap’s model.
How do AMMs work? ⚖️📡
Automated market makers in DeFi are smart contracts that allow users to deposit liquidity in the token(s) of their choice, to then earn trading fees by providing liquidity to the market. This allows traders to find the trade they are looking for instantly, at a model-determined fair market rate.
From Binance Academy,
You could think of an automated market maker as a robot that’s always willing to quote you a price between two assets. Not only can you trade trustlessly using an AMM, but you can also become the house by providing liquidity to a liquidity pool. This allows essentially anyone to become a market maker on an exchange and earn fees for providing liquidity.
Constant Product Market Maker (CPMM)
Each AMM model requires an underlying function to determine the price of each asset within that market. Uniswap brought the constant product function x * y = k to DeFi through its ERC-20 exchange, allowing any two tokens to be priced as a function of each asset’s liquidity reserves. In the function, k is always constant, where x represents the current reserves for one asset, and y represents the current reserves for the other asset.
As the liquidity reserve x decreases, the liquidity reserve y must increase by an equivalent percentage amount in order to keep k constant. This results in the well-known Uniswap pricing curve:
For Uniswap, this has the really nice effect of allowing liquidity providers to easily add any amount of liquidity to the marketplace (with equal values of each token), without changing the underlying price. It also creates an instantaneous trading price for the market, that follows the laws of supply and demand. Meaning as more traders purchase a specific asset from the curve, the price of that asset goes up, and the price of the opposite asset goes down.
So how can we provide a similar experience on the Premia platform?
Introducing Meta Vaults 🤖⏳🏦
First, we need to get a large amount of lasting liquidity into the marketplace. We’ve come up with an array of unique token vaults, called meta vaults, which will allow users to provide liquidity to the marketplace in the token(s) of their choice (e.g. DAI, ETH, LINK, YFI, SUSHI, BADGER, UNI, etc.) and earn yield through collecting trading fees, options premiums, and Premia tokens.
Each vault follows a unique trading strategy, to manage risk expectations for the users providing liquidity to that pool, and allowing users to provide capital only to the strategies that make sense for their portfolio. Each meta vault will buy and sell options from users on the marketplace who interact with the AMM, only when it makes sense for that vault’s strategy.
Essentially, each meta vault contributes its liquidity to the larger pool of liquidity available to the AMM. This has the effect of creating one large AMM quasi-vault, with liquidity sourced from multiple different underlying strategies.
For example, when a user buys an option from the AMM, the AMM contract will first make sure it can source the liquidity for the option from one of the meta vaults, before writing the option and selling it to the user.
This means that options in the AMM are only ever written on-demand, and liquidity in the pool is always ready to be traded or write options with. Once a pool has been selected to sell (or buy) an option, the pool runs its strategy and sells (buys) the option to (from) the user. Some strategies, such as the delta-hedging strategies, also involve hedging the option’s risk with other assets, in order to stay positioned for specific market moves.
The market rate (instantaneous price) that each option is quoted at is determined by the AMM’s constant function pricing model. In our latest code, the market rate is a modified function of the current Black Scholes price and the reserves available for each side of the trade. It aims to stabilize prices and reduce impermanent loss (IL) risk for liquidity providers.
We are actively researching multiple convex optimization pricing models to determine which will provide the best trade-offs for both LPs and traders. It is possible the final pricing function will not work exactly as detailed above, if a different function is determined to fit our marketplace better.
Unhedged Strategy (higher risk)
The simplest meta vault strategy, which we will likely provide on AMM release, is the unhedged LP strategy. This allows users to provide any amount of liquidity to the marketplace in the token(s) of their choice, and any capital in the pool will be available to be used to write, buy, or sell options at the market rate to users of the AMM.
This does not expose users to additional IL risk, contrary to existing LP pools such as Uniswap and Hegic, since liquidity providers are only required to undewrite a single side of each trade.
Delta-hedging Strategies
The next group of strategies, which we will likely not provide on the AMM release, is the set of delta-hedging strategies. These vaults allow users to provide liquidity for a specific asset and have the pool follow a strict trading strategy to intentionally direct risk whenever an option is written, bought, or sold. For example, the following pools are being actively researched:
- Long Token (Long or Partial-Long) — Provide liquidity to the AMM, earn yield, while staying Long the token(s) of your choice.
- Short Token (Short or Partial-Short) — Provide liquidity to the AMM, earn yield, while staying Short the token(s) of your choice.
More delta-hedging strategies are actively being researched and developed, such as a 1x Long Stablecoin strategy and a Long Volatility strategy, however, these pools are less capital efficient and come with additional financial complexity, and as such, and will take more time to develop.
Future Strategies📡⚙️
Multiple other future strategies for meta vaults are being researched and developed for the platform. One of these strategies, which will not be available on release, is the Market Arbitrage strategy. The strategy will use Keepers to consistently search the marketplace for any arbitrage opportunities, either by exercising an option that is in-the-money (ITM) or by facilitating one or more trades on the order book that are guaranteed to execute at a profit.
There are other strategies to come, which have not been discussed openly yet, but most of these future strategies depend on Keeper and Chainlink price feed integrations, both of which add more time to overall development. These additional strategies will be rolled out to the marketplace overtime when they have been completely tested and are ready for production.
Instant Trading 🚀
The AMM will enable traders to have instant liquidity in the options they want to trade, at fair market rates. This means as long as there is liquidity in the pool, traders will be able to purchase the options they are looking for at a reasonable price. As the reserves for writing calls go down, the price of writing calls will naturally go up to account for the supply and demand of that asset, so the reserves will never completely deplete (similar to Uniswap).
The price traders are quoted for buying and selling a specific option to/from the AMM will be based on the market price function, as defined above, plus a small protocol fee to fund the long-term development of the platform and reward Premia stakers.
As a trader, you will be able to select the token you want to trade options for, select the expiration of the option, the strike price, and the quantity you want to trade. The Premia AMM will instantly quote you a buy or sell price for that specific option. If you like the price, you can instantly trade the option with the pool.
If at a later time, the price of the option you purchased has increased (or decreased), you can sell the option back to the AMM at the current market rate, minus a small fee. The fee charged for selling options back to the pool is intentionally higher than the fee charged for buying options from the pool.
Selling back to the pool will likely not be available on AMM release, simply due to the increased risk implications it incurs. Rather, we will be carefully and methodically adding the selling feature to the AMM in the future, as the process is finalized and audited.
The increased sell fee helps to ensure liquidity providers stay profitable in the case of exogenous pricing movements in the underlying tokens. This allows market makers to purchase options back from traders, despite the increased risk.
✨💧 Liquidity Mining Incentives 💧✨
Now, for the part you’ve all been waiting for. How is liquidity farming going to work on the Premia platform, and how are the Premia rewards reserved from interaction mining going to be re-purposed?
Enter, liquidity mining 👨‍🚀⛏️.
Remember that SushiSwap secret sauce we mentioned earlier? Taking after SushiSwap’s extremely successful liquidity mining program, Premia will be incentivizing all AMM liquidity pools with Premia token rewards. This means that anyone who provides liquidity to a vault strategy on the Premia AMM will earn rewards in the Premia token, based on the size of their deposit versus the size of total deposits in the pool.
To start providing liquidity and earning Premia tokens, anyone holding any of the tokens supported on our platform can stake (lock) those tokens into the vault strategies that make the most sense for them. After tokens are staked, users will start earning Premia rewards, in addition to the fees and premiums earned by facilitating options trades on the platform.
At every block, Premia will be equally distributed as rewards to the depositors of each of the available pools.
However, at the onset, there will be an accelerated rewards period to bootstrap adoption. This is to incentivize early farmers and adopters of the protocol and to help with jump-starting the AMM.
The initial set of available pools and tokens ready at launch(will stagger release dates):
- Call Pool (Denominated in Underlying) — Provide liquidity to the AMM, earn yield, while staying long the token(s) of your choice.
Accepted Tokens: PREMIA, ETH (& WETH), WBTC, YFI, DPI, UNI, BADGER, COVER, LINK, DAI, SUSHI, AAVE, MKR, COMP, SNX, & CRV. - Put Pool (Denominated in Stablecoin) — Provide liquidity to the AMM in DAI, earn yield, while staying short the token(s) of your choice.
Accepted Tokens: DAI
The $PREMIA specific liquidity vaults will reward users at a higher rate than other vaults as a way to compensate users for un-staking their xPremia. In the future, new vault strategies will be added through governance proposals and community vote. While the team has many plans for upcoming strategies, we welcome the community to develop their own strategies for community consideration!
The future of Premia is entirely decentralized. Let’s build it together.
Reward Distribution đź’¸
Users will be able to claim the Premia tokens they earn from liquidity mining at any time while depositing. Any other fees and premiums earned by market-making on the platform will be accumulated as a yield on the initial position. This will be ready to withdraw with the initial deposit, at the time the deposit is unlocked (as determined by the previously detailed locking scheme).
There is currently a 1.5% trading fee charged by the protocol for each trade on the marketplace. This fee will also be charged by the AMM (passed on to the traders via the on-demand BS derived price), to ensure that Premia staking users (xPremia holders) are sufficiently rewarded by the increased volume on the platform.
The Future of Premia is Bright đź’Ž
We are hard at work preparing these updates to the platform for release. The AMM is still at least a few weeks away from launch, but more and more of the details are being finalized each day and audits of the code are being lined up. We can’t thank you all enough for the support you have shown so far, and we look forward to sharing more progress with the community as the AMM gets closer to release.
P.S. Let’s put Premia on billboards.
