Nexus Mutual NXM Token Explainer
We’ve been getting a lot of questions about how the NXM Token works. It’s a little different to others so here is a summary of the key aspects.
Conceptually, the easiest comparison to make is to Uniswap. Nexus Mutual members contribute liquidity (in ETH) into a shared pool of funds and receive NXM tokens in return. This is very much like Uniswap where liquidity providers contribute ETH plus the other asset pair into a liquidity pool and receive a pool token in return.
Uniswap liquidity providers then earn fees from trades, as traders leave a small fee in the liquidity pool which is shared among the liquidity token holders. Similarly, surplus from Smart Contract Cover purchases remains in the Nexus Mutual capital pool and is jointly owned by all NXM holders.
Fundamentally, the two models are very similar however Nexus Mutual adds several components on top of this basic approach.
Firstly, the expected surplus margin from Smart Contract Cover is 30% and as actual claims experience can be greater or less than expectations the actual surplus arising is variable. All Members of the mutual are sharing risk with each other.
Secondly, the 30% surplus margin is effectively reduced due to dilution from new token minting. On cover purchase a member burns 90% of the cover price in NXM tokens and retains 10%. The remaining 10% allows for deposits for claims assessment processes, to prevent frivolous claims submissions, and also ensures an ongoing stake in the mutual. Additionally, new tokens are minted as rewards for Claims Assessment as well as participating in Governance activities. In aggregate we expect rewards from Claims Assessment and Governance combined to be in the order of 3% of cover price but they are variable and unknown at this stage. In total, we expect 13% of cover price to be absorbed by dilution.
Risk Assessment is the other major component where token minting occurs. 20% of cover price is minted in new NXM as a reward where NXM tokens have been staked on a specific smart contract. In this case we actually expect the net impact on the surplus margin to be neutral at worst and most likely positive given claims are expected to be even lower. In addition if there is a claim, stakes will get burned and therefore there is an opposite effect where NXM supply is reduced. Overall, if you are performing some analysis we would suggest a neutral impact from Risk Assessment until actual experience emerges.
To recap, we have a shared capital pool where surplus from cover purchases accrues to. Instead of a simple flat fee the surplus is variable and the surplus is also diluted somewhat by new token minting for other functions the mutual needs to operate.
The other main difference to Uniswap is the shape of the bonding curve. With Uniswap’s flat bonding curve liquidity providers can exit at any point, all of them can exit at once and everyone gets the same price. With Nexus Mutual we have an exponential bonding curve to calibrate the capital levels. This has three main implications:
- The price of the NXM token goes quite high when funds are in excess of those required to back the covers written. This is to encourage redemptions, as we don’t want the mutual to be sitting on excess capital. Capital efficiency is critical in the world of insurance.
- Redemptions are restricted when the mutual has funds below its minimum capital levels. This ensures the mutual has adequate resources to pay claims as and when they arise.
- Earlier contributors receive proportionally more NXM tokens for their ETH.
The last critical piece is that while the capital pool currently only holds ETH and DAI it is capable of holding any ERC-20 and we expect members to invest the capital pool funds in the near future. As a concrete example, we expect members to shift a large portion of DAI holdings to cDAI (Compound V2) so that all members will benefit from returns on the “float”. In the same way that all surplus from cover purchases accrues to NXM token holders, so do the investment returns.
If you’d like to investigate further please head to our docs pages.