Vader — The Father of Decentralized Liquidity
(This should not be taken as financial advice, cryptocurrencies can be incredibly risky. Consult a financial advisor before making any investment decision.)
“If You Only Knew The Power Of The Dark Side…”
There’s a new AMM forcing its way onto the scene, and it goes by the name of Vader Protocol. The project is marketed as having the mint-burn mechanism of LUNA, the AMM design of Thorchain, and Protocol Owned Liquidity similar to that of OHM. Given the success and communities of each of these projects, and the meme-able nature of VADER as a token name, this project has made a lot of noise in the recent weeks and has certainly peaked my curiosity.
But with such heavy claims, it’s important to do our due diligence and see whether the project lives up to the hype. Let’s explore what Vader actually does, the benefits of such a protocol, and any potential concerns going forward.
What is Vader?
Calling itself “The Father of Decentralized Liquidity”, Vader is an EVM compatible Stablecoin Anchored Automated Market Maker (AMM) with its hallmark feature being Protocol Owned Liquidity (POL). “Stablecoin Anchored” refers to the fact that all trading pairs will be matched with the native stablecoin to the protocol: USDV.
The mechanism for USDV is based off of the algorithmic stablecoin UST from Terra, where through a process called seignorage users can burn $1 worth of LUNA into UST and vice versa. To mint USDV, VADER can be burned. If you don’t already know how UST works, this seignorage process is what helps the stablecoin maintain peg through arbitrage incentives. For example, if USDV is trading at $1.01, a user can buy $1 worth of VADER, burn it to mint 1 USDV, and sell it for a 1% profit which brings the price down. The same is true in the opposite direction, if USDV is trading at $.99, a user can buy the discounted USDV, burn it to mint VADER, and sell it for a 1% profit.
Beyond having an algorithmic stablecoin native to the platform, they also differentiate themselves through the introduction of Protocol Owned Liquidity, inspired by Olympus DAO, and Impermanent Loss Protection and synthetic assets, inspired by Thorchain.
The goal of Vader is to build an AMM that attracts the largest amount of liquidity possible, which incentivizes traders to use it as their platform of choice given price transparency and minimized slippage, and in turn bring value back to the VADER token through the demand and minting of USDV.
Bonding/Protocol Owned Liquidity
DeFi 2.0 has been one of the largest buzzwords in crypto for the past few months. This movement was lead by the concept of Protocol Owned Liquidity, pioneered by the Olympus DAO team. Through a process called bonding, users can provide their liquidity positions in exchange for discounted tokens that are vested out over a given time period. To give an example with Vader, someone could provide liquidity for VADER-USDV, be given an LP token representing this liquidity, and trade this for a VADER bond that gives the user discounted VADER after 21 days.
This innovation allowed protocols to own their own liquidity instead of needing to rent it out from others. In this sense, projects didn’t need to worry about users pulling liquidity in times of distress or to chase other rewards, and the protocol now had an additional source of revenue. It flipped the concept of liquidity providing on its head.
Vader is the first AMM to integrate this concept of POL into its platform, which could be a large differentiator for Vader. This is because rent-seeking liquidity forces LPs to go wherever they get the highest incentives, which makes liquidity transient and forces AMMs to give out unsustainable yields. By having an AMM with POL built-in, where liquidity is owned rather than rented, liquidity becomes more permanent and long-term sustainable. And in VADER’s case, it becomes even more valuable since USDV is paired for every asset, bringing constant value to VADER. In addition, the fees paid out on these protocol owned liquidity pairs can either be beneficially redirected by a DAO vote or go to those who stake VADER on the platform in the form of xVADER, providing more incentive to hold and giving intrinsic value to the token, which is an important function in maintaining USDV peg stability.
The first bonds were sold in mid-December, where users could provide VADER/ETH LPs for discounted VADER. Once USDV launches, Vader will be looking to first gain BTC and ETH pairs in their treasury before tackling anything further. If we see success in those pairs, this will open up the door to more opportunities as new assets get listed.
Slip-Based Fees, Impermanent Loss Protection, Synths
Fees are a very important aspect of an AMM, as it is in most cases how LPs are paid for providing liquidity on the platform beyond extra incentives.
Uniswap uses a fixed-rate fee for its AMM, where every trade has a fee of 30 basis points (.3%). This can pose a few problems. Since fees are always the same and dependent on the size of the trade, this heavily incentivizes providing liquidity for high volume pairs over those with lower volume. This creates a feedback loop and a large disparity in liquidity across different pairs. Assets with high volume continue to see a rise in liquidity, which makes them more tradable by minimizing slippage, while newer assets never get enough liquidity to be highly tradable. In addition, this makes the user subject to sandwich attacks, where someone can front run the users trade.
Slip-based fees, on the other hand, change depending on the liquidity provided in the pool. This allows pools with lower liquidity to grow due to higher fees, and sandwich attacks become far more expensive to carry out.
In addition to the trader paying adequate fees, slip-based fees also become a method to mitigate impermanent loss. This is because slip-based fees essentially pay back liquidity-providers by the same rate at which prices move, since they are proportional to pool size.
For more information about slip-based fees and their benefits, check out this great article written by Thorchain.
In addition to slip-based fees, Vader is also offering Impermanent Loss Protection for those that provide liquidity over 100 days. I haven’t found any specifics on how they will be able to ensure that users at least break-even relative to holding on their deposits, I’m guessing it will be through VADER emissions, but we will likely find out more soon.
Another way Vader decreases impermanent loss is through the creation of synthetic assets. Without getting too technical, these assets will represent some asset that is provided in the pool, but does not expose the user to the price risk of the opposing asset. For example, the protocol created xVADER, which will follow the price of VADER and also gain the LP rewards as though the user were providing VADER-ETH liquidity. Due to the nature of the synthetic asset following the price of VADER but not being subject to ETH, this gets rid of any impermanent loss.
Overall, through many different methods Vader does its best to heavily incentive liquidity, which is extremely important as a competing AMM.
Having both Protocol Owned Liquidity and slip-based fees is where Vader really sets itself apart from its competitors. This is because the flywheel that results from both these unlocks could result in a massive amount of liquidity for the platform. And liquidity is the main driver for AMM adoption, given lower slippage for traders to use the platform, and is extremely bullish for VADER given that each assets is paired with USDV.
Why the flywheel could be effective is first through slip-based fees. This allows higher overall liquidity because the process essentially pays for where liquidity is needed the most. This will build adequate liquidity across all pairs regardless of upfront volume. Impermanent Loss Protection also provides an extra layer of incentives for users to provide liquidity on the platform.
Then comes the POL, as discounted VADER will be given in exchange for liquidity of trading pairs on the platform. This is liquidity that is locked away forever, and this stockpile will only continue to grow in size.
This could potentially compound to infinity, as more liquidity means more VADER is burned for USDV, which makes more VADER valuable, and more people will want to bond their liquidity for discounted VADER. And as the protocol owns more of its own liquidity, it also receives fees, which adds to the value of staking xVADER and could potentially reduce future emissions. This is where the ponzinomics get extremely exciting, as you can draw parallels to that of OHM’s treasury without the extremely high inflationary rebasing, and LUNA’s burning and staking benefits.
Given the ambitious nature of the Vader AMM and the algorithmic stablecoin USDV, Aphra Finance announced their launch in late 2021. Aphra is designed to be what they refer to as the “simp” for Vader and an infinite cash flow collector. The treasury of the protocol will go directly to funding arbitragers to help maintain peg stability for USDV. In addition, the protocol will be staking xVADER and participating in the Curve wars by buying CVX and providing liquidity in a USDV/3pool. This will allow more liquidity for USDV swaps, both through its own liquidity and using CVX to direct Curve rewards towards the necessary pools.
The protocol therefore gains cash flow from arbitrage, xVADER returns, USDV/3pool fees, and Curve emissions. Once enough cash flow is achieved, Aphra will also create a lending market for people to borrow USDV against their assets. This will be the first outside use-case for USDV, and I don’t expect Aphra to stop there.
Aphra will help immensely in getting USDV off the ground and immediately functional through peg stability, large USDV liquidity, and continuous cash flow contributing to further efforts. The team has extremely high ambitions and will be pivotal in seeing Vader reach velocity.
VADER has a max supply of 25 billion, with the breakdowns of allocation shown above. The current circulating supply is around 4.2 billion.
The 30% from VETH holders was Vader’s version of an IDO. VETH is a synthetic version of ETH in which users could “burn” their ETH to mint. It was then traded at a ratio of 1 : 10,000 VETH to VADER. This will be vested out over one year.
10% goes to the team, which will be vested out linearly over two years, and another 10% to help with the growth of the Vader ecosystem.
The 50% for liquidity incentives will go towards incentivizing liquidity early on, as well as used for bond purchases in their POL strategy. Because of this new issuance, users must be aware of the changes in circulating supply. This is unlike LUNA’s tokenomics, where there is no new issuance into the supply whatsoever unless minted from UST. This will obviously be counteracted by the minting of USDV, and as the protocol owns more and more of the liquidity the DAO will likely vote to completely stop or beneficially redirect the issuance going towards LPs held by the protocol. The team is trying their absolute best to make sure that the emissions end up as close to zero as possible. Therefore, this is something to keep in mind but will likely be heavily dampened over time.
As discussed earlier, users can stake their VADER in the form of xVADER which is a synth, allowing users to benefit from LP rewards will not being at risk for impermanent loss, and allows users to vote in governance. Right now, this earns around 5% APR.
Given the nature of the requirement to burn VADER, I tried my best to map out what percentage of the supply would be burned given the amount in TVL for the protocol.
These numbers assume that half of TVL will be assigned to USDV and therefore will burn VADER at that price. This does not take into account the minting of USDV that is not used as liquidity on Vader’s AMM but used elsewhere.
Given VADER’s current price of around $.10 and its competition in the ETH AMM space, we can expect either a fairly large burn as soon as USDV arrives, especially with respect to the supply currently circulating.
If you want to play around the the supply numbers given estimates of what will actually be circulating, you can use the google sheet created here.
If you want another table that attempts to gauge Vader’s price based on the percentage of supply burned check out this spreadsheet created by @BurstingBagel on Twitter. Keep in mind the numbers are based off current circulating supply and does not take into account new issuance.
Risks and Concerns
While the design of the protocol shows promise, and there is a fair amount of value capture from the Vader token, there are still some risks to be aware of when it comes to this project.
The first is obviously the inherent risk of getting an algorithmic stable off the ground. There have been a large amount of algorithmic stables that lost peg close to launch and never looked back. So, this will be an incredible feat on its own, and should be of utmost priority before even thinking about anything else.
After USDV launches successfully, it needs to gain meaningful adoption. The reason for Terra’s success isn’t off the back of one protocol (although Anchor carries a large load at the moment) but because of the many different use cases provided. This is why Terra existing as an L1 is extremely important, because it allows the creation of applications explicitly designed to make the stablecoins as useful as possible. In addition, Terra’s stables exist on many different blockchains and in many different AMMs. Imagine if UST’s only use was as a liquidity pair in Terraswap, do you think LUNA would perform nearly as well as it has? Certainly not. So, in order for Vader to reach max velocity, it will need to create other uses for its stablecoin beyond its own AMM liquidity. Aphra Finance is currently trying build more use cases, other protocols have hinted at launching around USDV, and Vader is looking to partner with other DAOs, but there is still a long way to go on this front.
In addition to limited scope for USDV, another problem is competition within the AMM space. There is an exceptional amount of AMMs on the market, both ecosystem specific and cross-chain. Vader is competing with Uniswap, Sushi, Thorchain, Layer Zero DEXs, Cross-chain bridges such as Anyswap and cBridge, and many more, with options launching by the day. The differentiating features of Vader’s AMM are impermanent loss protection and synthetic assets, both of which also exist on Thorchain, and its own POL. Is the POL strategy and flywheel enough to have it compete heavily with these other players? While I think it heavily sets Vader apart, this will certainly be a tough battle. Along with the benefits, in the same way that Sushi’s hype and meme-ability pushed it to be a top DEX by revenue, this is absolutely in the realm of possibility for Vader, but certainly not a sure bet.
Another issue is the choice for the AMM to be built using ETH L1. As everyone is aware, the gas fees for a transaction are incredibly high for Ethereum right now. First and foremost, this will be difficult for users to trade assets given their gas cost per trade. But even more importantly, because USDV is an algorithmic stablecoin that keeps peg due to arbitragers, the high gas cost can cause peg issues. There needs to be enough of a discrepancy in the stablecoins price in order for an arbitrager to make significant enough profit. For example, if USDV was trading at .99, an arbitrager must be paying less than 1% of the transaction amount in gas costs in order to be profitable. With LUNA and UST, this is no problem given the extremely low fees for transactions, but on Ethereum this must be factored in given how outrageously high the fees can get at any given moment. This is not to say there will be some nasty death spiral, just that the price range could be higher than other stablecoin options. I believe the team is working on a remedy to this exact problem, but we will know more closer to USDV’s launch. I also do understand the decision to build on Ethereum L1 first given this is where the highest AMM liquidity currently exists, and the protocol can piggy back of the robust security of the network, so this is likely a tradeoff that the team is willing to make in the short-term.
Therefore, in my opinion, in order for Vader to see meaningful adoption, the team will likely need to find additional use cases for USDV, gain significant market share in the AMM space, and quickly spread beyond Ethereum L1 as the only location. I believe all of these are certainly achievable and I’m sure the team has these concerns in mind.
Vader shows immense promise as an up-and-coming AMM. The flywheel of Protocol Owned Liquidity and slip-based fees could make Vader a liquidity blackhole, and the mint/burn mechanism tied to this liquidity makes VADER a great source of value capture. While this is true, the FDV for VADER is certainly not a meme, as it is newly issued VADER that is supplied for POL bonds and liquidity incentives. However, this is counteracted by 50% given the USDV in the locked pools and potentially through the dampening of rewards from DAO governance, so any investor will need to understand the potential impacts of both issuance and burn on the circulating supply.
After a successful launch of USDV without peg issues, from there the team must work hard to gain market share and TVL from other current AMMs and try to find as many uses for USDV as they possibly can, as this contributes to better security of the peg and entire ecosystem and brings value to VADER. Aphra Finance will be at the forefront of this mission and will be providing an immense amount of value and USDV uses out the gate. This is what I’m most excited to see, as the team and community surrounding Vader will need to go into overdrive to see USDV succeed in many different contexts.
In a similar vein to LUNA and UST, if you are betting on VADER you are betting on the usage of USDV. So, if you believe in the team’s vision for where USDV is going and its ability to be adopted as a stable of choice, then VADER is the way to benefit heavily from that upside. This is certainly an exciting protocol, and we will see where it evolves from here.