Fundamentally our architecture is quite simple - individual stable pools between ETH and individual LSTs, which while independent of one another, are all represented by the LP token - $tapETH.
However, we’ve been asked various questions about why we chose this model such as:
“Why not a large multi-asset pool?”
“Having ETH in your pools means there’s a portion of your LP won’t be yield generating!”
“Aren’t you compromising on APR and simplicity?”
These comments are quite reasonable and understandable, however we believe we’ve made certain compromises and choices to benefit not only the protocol but also users and tapETH holder alike.
There are fundamentally 4 specific reasons for our silo’d stable pools model:
Security and Minimizing Contagion Risk
Simplicity of Integrating New Assets
Maintaining Pricing Stability of Both tapETH and Underlying LSTs
Bootstrapping Meaningful Swap Volume
Stable pools between 2 correlated assets have existed for as long as DeFi has in one form or another and are quite simple to understand, not to mention have been stress tested through countless events within the ecosystem. As a result, each of the individual pools are siloed and while make a portion of the overall tapETH pool, are fundamentally separate which means that the underlying assets are not directly exposed to one another.
Pools with multiple assets (3 or more) however haven't been as prominent with the only meaningful examples of usecases with traction and market testing being stablecoins, such as the 3Pool on Curve Finance between USDC, USDT and DAI, and of course the 4Pool which included UST, and as we saw - led to huge losses and pain for LPers. When the conversation shifts to inherently volatile assets like LSTs, there simply hasn’t been enough time with these being stress tested in the market during multiple demand cycles to be confident in the model at this time.
The pricing curves and mathematics also become increasing complicated as more and more LSTs are added to these pools, which will most likely result in less meaningful arbitrage or trading opportunities due to the sheer number of compromises that'll have to be made to ensure efficient and simple swaps - not to mention, once you surpass 3 or 4 assets, you're entering unexplored territory.
Simple dual-asset liquidity pools however, have been in use for years within DeFi - and as a result, is far less risky to introduce new assets within separate liquidity pools since the risk is compartmentalized (and is also able to be limited by placing a cap on the weighting of the pool within tapETH itself), limiting potential contagion.
Furthermore, in Tapio Finance's pools - issues are local to the specific stable pool, and in times of great strife - governance or the team can detach the stablepool from the protocol (and tapETH) temporarily should it be necessary. This of course is a worst-case scenario failsafe, however simply isn't possible if all the underlying assets are all within the same pool.
As time goes on, more and more LST protocols will become live and rise to prominence, with tapETH containing more and more of these individual assets where this architecture will truly showcase it's effectiveness in protecting users and limiting exposure.
The most significant benefit to having various stable pools for LST protocols is the pricing stability of not only tapETH, but also the underlying LSTs. Because each of the pools is between native ETH and an LST, each supported asset only has to have a pricing curve with ETH, and hence there are far fewer variables involved when it comes to the underlying composition, and what discounts/premiums must be applied.
These stable pools, while existing within the greater tapETH pool - are indeed independent and can be interacted with just like any other LP. Why this is important is that users are able to engage in arbitrage very easily, in a familiar architecture. If an asset is relatively low in a pool, users can either buy it at a discount, or receive a premium on the oversupplied asset, by being able to mint more tapETH for the same amount - without much analysis or due diligence required.
Having tapETH backed by risky assets (LSTs) is of course adding to the risk profile for users, however with a large amount of it's backing being native ETH (a low-risk asset), there is adequate "cushioning" as in the worst-case scenario, the assets will only be drained from a single stable pool, and not the entire overarching pool.
For example, if stETH becomes heavily depegged, ETH will only be drained from the stETH-ETH pool, and not directly from the parallel rETH-ETH or frxETH-ETH pools. ETH deposits from that point on will then be swayed towards that pool (by default, however users can still deposit into any pool they wish), as well as incentivized with premiums on tapETH. This not only ensures tapETH maintains its peg, but also dramatically improves the LSTs' ability to recover from a mispricing event.
When it comes to arbitraging, it is very rarely done between 2 "risky assets" by whales or those with significant size. For example, with LST depeggings, users do not realize their gains with another LST, but instead, the fundamental asset of the ecosystem - native ETH.
As a result, having ETH being within each and every pool means bolstering swap volume and redemptions, both of which generate fees - is far easier than simply relying on the single value proposition of being able to swap between LSTs (which would be the case in traditional baskets or multi-asset pools).
Combined with our synthetic asset pricing as a result of our StableAsset architecture, Tapio’s pools are not only the best place to swap during time of calm (due to how we maintain a constant exchange rate at far more imbalanced compositions versus traditional Curve/Uniswap pools) but also will offer the most attractive discounts and premiums during times of strife.
Standard swaps between LSTs and ETH are the obvious arbitrage opportunity and is of course what typical occurs in a standard liquidity pool, however there are a number of other avenues to also realize these gains that are as a result of tapETH being it’s own independent asset pegged to ETH:
If an LST is oversupplied and hence discounted:
Mint additional tapETH using ETH (which would be undersupplied) and then swap using a tapETH-ETH pool
Redeem tapETH for additional LSTs (due to the discount)
If tapETH is mispriced and worth <1 ETH in the open market:
Standard swap of ETH to tapETH (as tapETH will fundamentally be backed by at least 1:1 ETH assets - since it's a LP token)
Redemption of tapETH for ETH (or LSTs) to result in a quick profit
If tapETH is worth >1 ETH in the open market:
If tapETH is worth >1 ETH in the open market:
Deposit of ETH and/or LSTs to mint tapETH (which will always be 1:1 assuming there are no discounts or premiums applied to the underlying assets at this moment in time)
Swap of tapETH to ETH on the open market, resulting in an arbitrage
Another thing to keep in mind is, arbitrages can occur between each of Tapio's pools, which is not possible if opting for a basket/multipool model - and also allows users to realize arbitrages within our platform natively (i.e. without having to go to another DEX if they so wished).
Of course, once we integrate our pools with other DEX's, this will be less important, but early on as we build our TVL, it'll be exceptionally meaningful. It also goes without saying, but as a result of all these mechanisms working harmoniously together, both swap and redemption volume will be constantly growing as TVL does (due to the attractiveness of both exchange rates and arbitrage opportunities), and will contribute to a very attractive real yield APR for $tapETH, even before utilization within DeFi.
We want to work with anyone within the LST and LSDfi ecosystem, and we call on anyone invested in the long-term future of Ethereum and liquid staking, in general, to join us on this journey - follow us on Twitter and join the rest of the community on Discord, as well as our Blog.
Website: https://tapio.finance
Documentation: https://docs.tapio.finance
A rising tide lifts all boats - JFK