Introducing Fei v2
The vision for Fei Protocol is to be a highly scalable, fully decentralized stablecoin. Fei v1 kicked off this journey with (many) lessons learned. Now, we’re proud to announce Fei v2, an upgrade that dramatically improves the stability, efficiency, and scalability of FEI. We are excited to give you an overview of the upcoming v2 features.
Fei v1 introduced the concept of Protocol Controlled Value (PCV) to the DeFi space. PCV has proven an important value driver by actively defending the FEI peg and deploying hundreds of millions of dollars into DAO-to-DAO partnerships with the likes of Aave, Compound, Rari Capital, Lido, and Index Coop. V2 will double down on these DAO-first use cases and carve out new ones such as Liquidity as a Service (LaaS), the subject of a future post.
Fei v2 places FEI at an advantageous point in the stablecoin design space by bringing substantial improvements including:
- Robust peg maintenance via 1:1 redeemability
- Efficient management of risk, liquidity, and yield via algorithmically controlled Balancer v2 PCV pools
- Aligned incentives between TRIBE and FEI holders via TRIBE buybacks and backstop
Stability — One-to-One Redeemability
The peg mechanisms from v1, direct incentives and reweights, will no longer be used due to observed issues and inefficiencies relative to a redemption based model:
- Suboptimal response times
- Forced unnatural trading spread
- Susceptibility to MEV
In Fei v2, all FEI is redeemable directly for PCV reserves. This is the key to allowing FEI to scale effectively while staying decentralized. If a stablecoin can always be purchased for $1 and sold for $1, it can scale to arbitrary supply and meet the demands of a growing DeFi ecosystem. Transparent on-chain redemptions offer a key value boost over centralized alternatives such as USDC or USDT.
As of a recent governance proposal, 1:1 redeemability is already live with a 0.50% spread.
Fei v2 initially targets a 100% reserve ratio in order to be able to defend the peg with direct redeemability for all of the FEI in circulation. Governance can lower this target ratio after the mechanism and risk model have been battle tested. In any case, newly minted FEI will always bring the reserves closer to 100%.
In Fei v2, 1:1 redeemability will give FEI a tighter peg and instill trust in holders and partner protocols.
PCV Management — Balancer v2 Investment Pools
PCV currently holds 6 different assets, and several of these are volatile. It is critical for this PCV to adjust for risk to maintain enough capital to defend the peg.
Fei v2 introduces a way to algorithmically manage volatility risk through a custom Balancer v2 Investment Pool.
Balancer v2 offers excellent tooling for capital efficient liquidity management:
- Configurable weights
- Asset managers for metagovernance and earning yield through rehypothecation
- Circuit breakers to mitigate idiosyncratic asset risk
Fei v2 will take advantage of algorithmic weight adjustments by defining different weights for varying levels of PCV leverage, known as a risk curve. As the PCV moves down closer to 100% collateralized (high leverage), the risk curve would adjust PCV weights towards stable assets like DAI and RAI algorithmically. We will post a deep dive on Fei v2 risk curves as we get closer to launch.
Compared to v1, Fei v2 will use Balancer v2 Investment Pools to manage risk, deploy liquidity, and earn yield with much greater capital efficiency.
Incentive Aligning TRIBE — Buybacks and Backstop
Fei is a community-driven protocol, and TRIBE holders are the collective stewards of the PCV and the FEI ecosystem. In Fei v1, this relationship was limited to governance.
In Fei v2 TRIBE holders will have skin in the game as the direct beneficiaries and risk bearers of PCV performance.
Fei v2 introduces the concept of “protocol equity”, which is the amount of PCV that would remain if all user-circulating FEI were redeemed for PCV collateral.
Protocol equity comes from yield and appreciation of PCV. It will be partially allocated toward TRIBE buybacks to help align the incentives of TRIBE holders with the rest of the FEI ecosystem. The remainder will serve as a buffer to continue to absorb volatility and earn yield to grow over time.
TRIBE holders are incentivized to maximize protocol equity to maximize TRIBE buyback size. Bought-back TRIBE is allocated towards the following in governance-controlled ratios:
- DAO Treasury
- Staking rewards
If the PCV ever dips below the target reserve ratio, then TRIBE becomes mintable in exchange for FEI. This is called a TRIBE backstop. This defends FEI’s peg with minted TRIBE in the event that any FEI holders want to redeem. As users redeem, circulating FEI would reduce and restore the reserve ratio to the target. By only minting as much TRIBE as FEI holders want to redeem, the protocol helps mitigate runaway inflation.
By combining buybacks and backstop mechanics, the TRIBE token becomes incentive aligned to steward the PCV optimally and protect against tail risks.
Fei v2 brings many improvements over v1 and places FEI at a strategic point in the stablecoin design tradeoff space:
- Scalability: Fei v2 brings the battle-tested and scalable 1:1 redeemability mechanism on-chain using transparent reserves.
- Stability: Algorithmic PCV weight adjustment through risk curves allows Fei to maintain a healthy risk profile and reserve ratio amidst market volatility.
- Decentralization: Having a fully decentralized PCV is core to the Fei mechanism and vision.
- Capital Efficiency: Balancer v2 asset managers bring increased efficiency by simultaneously allowing for liquidity provision and yield generation.
- Incentive Alignment: TRIBE holders are rewarded for effective PCV management through buybacks, and incentivized to manage risks to mitigate the likelihood of a backstop.
Large segments of Fei v2 are currently under audit. The rollout will be staged to minimize technical risk, with the first phase scheduled for November, 2021.
Fei has come a long way, and there is still so much we want to build. We are excited to bring Fei v2 to the DeFi ecosystem!