Example Depeg Scenario
Let's say for argument's sake:
100 ETH = $10 each
Total value of $1000
100 LST = $10 each
Total value of $1000
200 tapETH = $10 each (pegged to ETH)
Contains $2000 (100*10 + 100*10) worth of assets
Or backed by $10 of assets per tapETH
By default - tapETH is backed 1:1 since it's a liquidity pool like any other
However in this scenario, the LST becomes depegged elsewhere within DeFi. Tapio's pools do not run off-price feeds and as such, it doesn't "know" what the price of the underlying assets is.
As this depeg results in users attempting to arbitrage various pools, they'll be able to maintain a 1:1 swap between assets within Tapio for far longer and during greater pool imbalances. Curve and Uniswap for example will institute discounts on their oversupplied assets quite quickly and with little imbalance, however with Tapio's pools - the LST has to make up a significantly greater portion of the pool before discounts and premiums are applied.
Users of course then look to our pool to swap (whether organically or through a DEX aggregator like 1inch) some LST for ETH without incurring the discount seen elsewhere, for a far longer amount of time. As such, ETH is drawn from the pool, with LSTs to take its place as people swap, or redeem tapETH accordingly.
As such, let's say the following takes place:
ETH is undersupplied - 20% of the ETH-LST Pool
40 ETH
LST is oversupplied - 80% of the ETH-LST Pool
160 LST
200 tapETH supply remains the same
Now this is where the overcollateralized aspect kicks in. Because Tapio Finance is fundamentally a synthetic asset protocol - the pool is able to dynamically adjust pricing in real-time to encourage user behaviour one way or another.
As a result, the pool will institute the following pricing (as an example):
ETH = $15 - A larger premium on the undersupplied asset (as the pool always wants over-collateralization during times of imbalance)
LST = $9 - A smaller discount on the oversupplied asset
As such, the values then reflect:
40 ETH = $15 each
Total value of $600
160 LST = $9
Total value of $1440
200 tapETH = $10 - however each tapETH is backed by $10.20 worth of assets
Total value of $2000 (Overcollateralization of 2%)
However, something to note is - relative to this specific pool, each tapETH at this moment would be able to be redeemed for 1 ETH's worth of LST or in this case - $15 worth. This would be temporary as it's only at this imbalanced state of the composition would this pricing be active - meaning that manifesting this very premium/discount, would decrease it accordingly, as the composition becomes more balanced. And of course, both the swaps between the pools for this arbitrage, as well as redemptions of tapETH generate heavy fees for tapETH holders - increasing APR.
Furthermore, something to keep in mind is tapETH would be backed by more than one pool and so this scenario is only being applied to a single pool. It is highly unlikely all LSTs would depeg simultaneously and as such the overall peg of tapETH would be less affected by a single mispricing of an underlying asset. However, should all of them depeg - this mechanism would still work the same.
Another aspect to be mindful of, is since tapETH is its own independent asset, it can have its own pricing fluctuations as it exists within pools on other platforms (such as tapETH-ETH, tapETH-LST, tapETH-USDC, etc). However, since it's fundamentally an LP token, it'll always contain or be "backed" by at least 1:1 in ETH and LSTs. If tapETH is above 1 ETH in price - users can deposit assets within Tapio to mint tapETH, and then sell it using some of the aforementioned pools to realize this gain (which also results in selling pressure which decreases its price accordingly. Also in reverse, should tapETH be under 1 ETH in market value, users can swap for it using other assets - then come to Tapio to redeem tapETH for any combination for the underlying assets to manifest this profit, which of course generates fees for tapETH holders.
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