How to create Immortal Options
White paper: http://lien.finance/pdf/iDOLWP_v1.pdf
Website: http://lien.finance/
Twitter (Follow and get update): https://twitter.com/lienfinance
To fellow crypto enthusiasts,
In this post, you will discover a brand new protocol that allows for issuing a stable coin and a leveraged token in a brilliant way.
This time, following the analyses of the protocol in relation to MakerDAO, you will learn how various derivative contracts are actually created in the protocol.
Suppose the price of ETH is now $200 and you want to deposit 1 ETH to a specific contract and receive 1 ETH on the maturity date (e.g. 06/30/2020). Without going into the details of the contract, for now let’s focus on how much the 1 ETH will be worth in dollars on the maturity date. The following figure (Fig. 1) shows the dollar amount you will get on the maturity date given the ETH price on that date:
Obviously, the payout amount will change in proportion to the ETH price on the maturity date and so it will sit on a 45-degree line as illustrated above, with the distance from the x axis to the 45-degree line corresponding to the payout amount.
Now, suppose you can split the 1 ETH that you have deposited to a contract into Token A and Token B using the price of ETH on the maturity date as a parameter. Here, the contract is designed in such a way that a total of 1 ETH will be divided among the holder(s) of Token A and Token B, with the amount paid to each token holder determined based on the price of ETH on the maturity date. Note that the same person could be holding both Token A and Token B.
Let’s look at an example. Let’s say you create a contract where the holder of Token A will receive the entire 1 ETH if the ETH price is less than or equal to $100 (i.e. 1 ETH = $P <= $100) upon maturity. On the other hand, if the ETH price is greater than $100 (i.e. 1ETH = $P > $100) upon maturity, the holders of Token A and Token B will get 100/P ETH and 1–100/P ETH, respectively. As can be seen, the total amount of ETH received by the Token A holder and the Token B holder will equate to 1 ETH regardless of the price of ETH on the maturity date. Also, if you look at the dollar value of the ETH you will receive, you can see that the Token A holder will receive $P if 1 ETH = $P <= $100 upon maturity whereas the Token A holder and the Token B holder will get $100 and $P — $100, respectively, if 1ETH = $P > $100. The following figure (Fig. 2) illustrates this mechanism:
The figure will give you an idea of how much the token holder(s) will receive upon maturity, with the height of each colored section equal to the amount paid to each token holder based on the price of ETH on the maturity date.
Here, imagine a scenario where you decide to sell Token A somewhere and only hold Token B. Since the price of ETH was $200 when Token A and Token B were created, the value of Token A will be slightly lower than $100 and Token B will be somewhat worth more than $100, the value of the two tokens totaling $200. The reason Token A will be valued at a slightly lower price than $100 is because its payout amount in dollars will be $100 or lower depending on the price of ETH on the maturity date. Let’s assume that you sold Token A at $99. This means that Token B you are holding now is worth $101. You could also think of this transaction as having paid $101 to buy Token B.
Here is the interesting part: Token B can be used as a so-called leverage token. Say the price of ETH has doubled to $400. If you simply held on to 1 ETH and waited for the price to double, you would make $200 from the initial investment of $200. On the other hand, if you buy Token B and the ETH price reaches $400, you will gain $300 (= $400 — $100) with the $101 investment!
Now, let’s divide Token B into several “tranches” — Token B1, Token B2, and Token B3 — as shown in Fig 3.
Token B1, whose payout amount is shown by the “B1” area, will essentially act as an “At the Money Call Option”. That is, the higher the price of ETH is upon maturity, the more money you will be able to make as long as the price on the maturity date is higher than the current price ($200). There will be no gains and losses should the current price fall below $200. While the actual value of this call option will vary depending on the volatility of ETH, for the sake of this discussion let’s assume it is valued at $6.
For Token B2, you will gain nothing if the price happens to be below $100 on the maturity date and, at the same time, your profit will be capped at $100 even when the price ends up above $300. Basically, this is a leveraged token with a cap set on its gains. Since the average gain you will receive upon maturity would be about $50, the market value of Token B2 would also be $50. As you can see, the token provides you with the opportunity to buy a 2x leveraged token at a discount while betting on a scenario where the price of ETH is going higher but not so dramatically that it can go “to the moon”.
Finally, let’s look at Token B3. As indicated in the figure, you will be able to receive more payout the closer the ETH price is to $200 upon maturity. In other words, a lower volatility in ETH will lead to a higher profit, with the token effectively serving as a volatility short option. The token’s estimated value can be calculated simply by subtracting the value of the other tokens from the total value (i.e. the value of Token B), the result of which is $45 (= $101 — $6 — $50).
Now, if you only need Token B2, you can create those “tranches” as illustrated above and sell the other tokens. Of course, you will need people to actually buy those tokens and that is part of what this protocol needs to ensure by providing liquidity for both buyers and sellers.
Indeed, there are many other ways you can structure those tranches. The raison d’être of this protocol lies in giving you the ability to create tranches in any way you want and then take advantage of the price development of ETH as effectively as possible.
White paper: http://lien.finance/pdf/iDOLWP_v1.pdf
Website: http://lien.finance/
Twitter (Follow and get update): https://twitter.com/lienfinance
Telegram Group: https://t.me/lien_finance
