The World’s First Fully Decentralized Hash Rate Futures
About SynFutures
SynFutures is an upcoming derivatives protocol, currently in V1 Closed Alpha phase. The team is a combination of crypto natives and Wall Street top guns, with the idea to build a solid infrastructure for future DeFi derivatives on Ethereum and other L2/side chains. In June 2021, SynFutures announced $14mn Series A funding led by Polychain Capital with participation from Framework, Pantera Capital, Bybit, Wintermute, CMS, Kronos, and IOSG Ventures. Earlier 2021, it announced a seed round backed by Dragonfly Capital and Standard Crypto.
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Since the last halving in May 2020, a little over 403,000 new Bitcoins have been mined (as of July 2021). Before we reach the year 2140, an additional 2.23 million new Bitcoins will have been mined (worth $68 billion based on today’s price, and it’s continuously increasing).
The average Hash rate has dropped from an ATH of 200 Exahashes/s, and is currently hovering around 96.51 Exahashes/s, considerably a more than 50% drop from its previous peak. Due to the recent China crackdown, Bitcoin’s hash rate has been declining over the past few months. However, the rate is expected to rise soon as miners continue to relocate their equipment and set up operations in more friendly jurisdictions.
Despite the fact that this has occurred, the mining industry has always been dominated by large centralized players. However, even these larger players see significant fluctuation in output due to the mining difficulty adjusting mechanism embedded in the Nakamoto consensus.
SynFutures is taking a leap forward by introducing the Hash Rate Futures, a derivative containing all of the risk factors affecting the return on mining Bitcoins. Our team has always believed in finding a way to securitize mining activities, even before SynFutures existed.
Thanks to our extensive experiences in both traditional financial markets and the mining industry, we’re now able to make this dream a reality!
A Perfect Hedge for Miners
Let’s consider a miner who has just secured mining powers of 1 Petahash for a year, with a strong desire for getting a good night’s sleep. The miner needs to know exactly how much return these rigs are going to generate, no matter what. In other words, the miner needs to hedge against all the key factors affecting their return, namely:
1. Mining difficulty
2. BTC/USD price
3. Electricity cost (a less significant factor given the high BTC price)
Luckily, the miner can find a few available derivative instruments to lock in the BTC/USD price and electricity cost. Yet, unfortunately for the miner, no meaningful derivative product that targets mining difficulty currently exists on the market, which is vital to the exact Bitcoin amount to hedge with BTC/USD futures. Under, over, or naked-hedging don’t really help anyone feel at ease.
SynFutures has the right team and infrastructure to create a fully decentralized and trustless derivative for the mining difficulty of Bitcoin — the Hash Rate Future is here to fill the gap. ⛏️
Bitcoin Mining Difficulty Index
Simply put, roughly every 2 weeks (2016 blocks to be exact) there is a new Bitcoin mining difficulty which represents the computing power of every miner (or the network’s total hash rate). The total hash rate is summarized every 2016 blocks and stays constant for the next 2016 blocks).
Once the hash rate has reached the 2016th block, each individual’s mining reward becomes a function of:
- The miner’s hash rate to mine Bitcoin blocks
2. The mining difficulty (the block reward stays the same for four years)
Mining difficulty fluctuates depending on the current network;s total hash rate versus the target mining difficulty. The target mining difficulty is derived from the average network total hash rate of the previous 2016 blocks. The mining difficulty is expected to rise when the blocks are mined too quickly, and to fall when the blocks are mined too slowly. If a miner had the ability to hedge against the change in mining difficulty, the total block reward for the next 2016 blocks would become close to fixed.
The Need for a Trustless Oracle🖧
Before we could start to design our new derivative product, we first needed an oracle for this index. It’s key that the underlying oracle is trustless for the Hash Rate Futures to be fully decentralized. The biggest difference between the mining difficulty index and data (such as the BTC/USD price) is its objectivity and finality.
At any given point in time, everyone always agrees on the exact mining difficulty value. This is very different from the BTC/USD price, as it could vary depending upon the source that provides the price data. Due to this, the oracle is designed to validate Bitcoin block headers and extract out the mining difficulty, instead of aggregating contributions from a group of feeders — In this way, the oracle is fully trustless.
Additionally, anyone capable of uploading Bitcoin block headers could maintain this oracle.
The First Fully Decentralized Hash Rate Futures🌐
When designing our Hash Rate Futures product, practical usage and economic value are our primary concerns. To achieve this, we looked at traditional financial market products for guidance — interest rate futures immediately caught our eyes. Interest rate futures are used to speculate or hedge against the change in interest rates (LIBOR in the case of Eurodollar, and USD deposits outside the U.S)..The notional for a contract represents the principal amount for a deposit, with the implied interest rate set for three months after the expiration of the futures contract.
For example, a price quote of $97.45 USD signifies a deposit rate of 2.55% per annum. In this way, an abstract interest rate index is converted into an economically meaningful value: in order to get $100 USD in one year’s time, you need to deposit $97.45 USD today.
Similarly, our Hash Rate Futures represents the total block mining reward in Bitcoin per PH hash rate, with the implied difficulty for 14 days after the expiry block ( which is always a difficulty resetting block). With this design, the futures contract can be used to perfectly hedge the change in mining difficulty. More importantly, every future difficulty resetting block can have a futures contract expiring on that block for hedging needs.
Now let’s revisit our miner friend in the earlier example. Instead of finding specific suppliers and counterparties to negotiate prices, the miner can now easily hedge using derivatives.
1. Short the Hash Rate Futures to hedge against the risk of the increase in mining difficulty and lock in the number of new BTC mined.
2. Short BTC/USD futures with the BTC amount implied by the Hash Rate Futures above to lock in the total USD revenue.
3. Long electricity futures so that the power cost is determined.
Summary
It’s been a long journey since we first started thinking about hash rate derivatives. We’re proud to finally be making this first step towards mining securitization. In subsequent posts, we’ll be publishing the design and implementation of our trustless oracle for the Bitcoin Mining Difficulty Index and Hash Rate Futures contract specification and analysis.
Read this step-by-step tutorial on how to trade Hash Rates Futures ⚒️ via SynFutures Alpha
