Introducing the Quantile-Defined Dutch Auction (QDDA)

In the realm of token sales, auction models often define the success of a project. A well-structured and fair auction model encourages broader participation, leading to more decentralized token distribution. Nevertheless, each auction method has its pros and cons.

This work presents a new model known as the Quantile-Defined Dutch Auction (QDDA). This model prioritizes fairness, inclusivity and safeguards against market manipulation. We will delve into the workings of QDDA and its advantages and disadvantages compared to other commonly used auction models.

What is QDDA?

The QDDA model presents a distinctive approach to the token sale mechanism, utilizing statistical quantiles to establish a Dutch auction’s initial and final prices. The process features a staggered start time, catering to various investor categories and providing a fairer chance for retail and institutional investors.

QDDA procedure

How Does QDDA Work?

1. Registration and KYC: Investors register on the platform, specifying their proposed upper price bound (U), lower price bound (L), and investment amount. The platform conducts Know Your Customer (KYC) procedures to verify each investor’s identity.

2. Investor Grouping and Whitelisting: Based on declared investment amounts, investors are categorized into small, medium, or large groups and send their L, U, and funds to the QDDA system. Only KYC-approved investors are whitelisted for the QDDA.

3. Price Bound Calculation: The QDDA's starting and ending prices are determined by the platform's calculation of the 75th percentile of all Us and the 25th percentile of all Ls. It's worth mentioning that these percentiles can be customized to meet the project team's requirements. For instance, the percentile points can be adjusted to guarantee a minimum (or a maximum) number of buyers.

4. Staggered Start Times: The auction system begins at different times for each group, starting with small investors, then medium investors, and finally large investors. Since investors have already sent their funds temporarily in the first phase of the QDDA, the auction system handles the bid-price matching.

5. QDDA Execution: As the auction price decreases from the 75th percentile of all Us, the system automatically places bids on behalf of the investors when the auction price falls within their defined range. The system starts with bids that meet or exceed the current auction price. This continues until the auction price reaches the 25th percentile of the L or all assets are sold. The system then finalizes the transactions, transferring the assets to the winning bidders.

6. Bid Caps and Lock-Up Periods: The size of individual bids is capped to prevent the acquisition of a disproportionate number of tokens. After token distribution, a predefined lock-up period is applied, generally longer for large investors, to prevent immediate token dumps.

7. Post-Auction Actions: After the auction, unsold tokens may be burned or moved to a reserve pool.

Comparison to Dutch, Vickrey, and English Auctions

Dutch Auction: A Dutch auction starts at a high price and gradually lowers until it finds a buyer. This model is simple and direct, but it can favor wealthy or ‘whale’ participants who can afford to buy early to ensure token allocation. While a traditional modified Dutch auction allows all participants to pay the same final price, it does not necessarily account for the different categories of investors.

The QDDA takes a different approach by using the 75th percentile of investor-defined upper price bounds (Us) as the starting price and the 25th percentile of lower price bounds (Ls) as the ending price. This ensures that the starting and ending prices align with market demand. The use of staggered start times based on investor groups and bid caps also balances the participation of all investor types.

Vickrey Auction: A Vickrey auction, also known as a sealed-bid second-price auction, allows participants to submit their bids without knowing the bids of others. The highest bidder wins but pays the price offered by the second-highest bidder. While this encourages truthful bidding, it can be complex for participants to understand.

QDDA might also come across as complex in terms of the mechanisms it uses to ensure fairness and prevent market manipulation. Still, it offers more safeguards and potentially greater transparency than a Vickrey auction. Using investor-defined price bounds, staggered start times and bid caps ensures a fair distribution and prevents market manipulation.

English Auction: In an English auction, the auction starts at a low price, and participants continuously bid higher until no one wants to bid further. While this can maximize profits for the sellers, it can lead to inflated prices due to competition among bidders.

In the QDDA, the starting price is set at the 75th percentile of Us, which prevents the price from starting too low and potentially skyrocketing due to aggressive bidding. The gradually decreasing price in the Dutch auction format also discourages over-bidding. So, QDDA offers a more controlled and fair auction mechanism, but it also carries the risk of potential underpricing.

Pros and Cons of QDDA:

Pros:

1. Fairness and Inclusivity: Staggered start times and bid caps ensure a balanced opportunity for all investor types.
2. Resistance to Price Manipulation: Using percentile-defined price bounds and bid caps helps prevent price manipulation. While over-bidding investors ensure winning and have a lower risk of experiencing the “winner’s curse,” if many investors overbid, they may still risk moving the auction start price too high and overpaying.
3. Reflects Market Demand: The starting and ending prices are determined by investor-defined Us and Ls, reflecting market sentiment more accurately.

Cons:

1. Complexity: For some investors, understanding the auction mechanism and percentile calculations may be complex.
2. Potential Exclusion: Investors with Us significantly lower than the 75th percentile U may be excluded from the auction.

Although no auction model is flawless, the QDDA strives to strike a fair balance between the demands of different investors, prevent possible manipulation, and accurately mirror market sentiment in token pricing. Like any new model, it will undergo refinement through practical application and constructive input over time.

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Disclaimer: This article is for informational purposes only and should not be considered financial or investment advice. Always do your own research and consult with a professional before making any financial decisions.

As per ChatGPT 4 and Google Bard, the QDDA auction model proposed here is an authentic creation. However, it is yet to be experimented with; therefore, seeking guidance from legal, financial, and technical experts is advisable to ensure its efficiency and adherence to regulations.