[Proposal] Incentivise The DEFI5 Index Via Swapr On Arbitrum

Hi there, DXDao!

I’m Laurence from Indexed Finance, and I’m here to propose that DXDao provides liquidity rewards for a DEFI5-ETH pool on Arbitrum through Swapr.

I’ll do the what, why, etc. in this post - I have a lot I’d like to say to introduce you all more widely to Indexed, but I’m also notorious at spinning off into four page stories, so I’ll keep it ‘short’ for this and create something else another time.

What Is The DEFI5?

The DEFI5 is an ERC-20 token representing a small, passively-managed basket of DeFi’s largest protocols by fully diluted market capitalisation. It has been live since the 6th of December 2020, currently has a TVL of ~$11,700,000 (from a peak of ~$37,300,000 during our initial liquidity mining event) and ~1,500 holders.

Its current composition is:

Asset Weight
UNI 37.1%
AAVE 17.88%
COMP 15.35%
CRV 14.88%
MKR 13.34%
SNX 1.45%

Assets within the DEFI5 are weighted according to the square root of their FDVs, however human methodologists are not in charge of determining and implementing weights. Rather, weight determination is the responsibility of a scoring strategy smart contract that reads FDV data on-chain through a TWAP oracle, and sets the desired weights within the underlying Balancer pool. These weight updates are intended to be made weekly, and can be triggered by anyone. As a result, the DEFI5 does not charge a streaming or management fee for holding it.

The set of potential members of the DEFI5 is determined via the Indexed Finance DAO: assets can be added or removed from a candidate list of assets through a Governor Alpha vote. Periodically, the full list of candidate assets are scored and ranked (rather than just the current members): if an asset drops out of the top five, it is allocated a target weight of zero, and a weight is bound to the higher-ranking replacement.

The assets that are currently on ‘stand-by’ within the DEFI5 are:


You’ll notice that the DEFI5 actually has… six members in it right now. This is because SNX is slowly phasing out, in favour of MKR. So… why is this the case?

How Is The DEFI5 Implemented?

The DEFI5 is an LP token of a pool created by the Indexed Finance fork of Balancer V1. The changes that we made primarily involve being able to set desired weights for assets without having to immediately swap those assets in, reducing the dependency on external market liquidity to shift its composition.

In contrast to our competitors, who either actively manage their products or require external ‘pokes’ to their weight compositions, the DEFI5 (and all other Indexed products) adjust their own weights as part of a post-swap hook that fires after trades occur within the underlying pool.

If someone swaps a token that needs a weight increase into the DEFI5 pool, its weight is increased by 1% of its current value. Similarly, weights are decreased if a token is swapped out that requires a decrease. In this way, the DEFI5 slowly rebalances itself towards its desired composition, rather than doing everything at once. If a token is being introduced to the index, a price oracle is used to price swaps until it hits a weight of 1%, after which it is treated normally. If a token is being removed, once it hits 1%, the remainder is whisked out to an unbound seller contract, where it can be traded into at a discount for assets that currently have weights bound within the index.

The DEFI5 has a fairly high swap fee of 2%. This was selected in order to offset (if not overcome entirely) impermanent loss within the pool, rather than maximise the volume that goes through it. There is also a 0.5% exit fee that is imposed when burning the DEFI5 back to one (or all) of its constituent assets, which is sent to the Indexed DAO Treasury as revenue. However, if the DEFI5 is purchased and sold through a DEX, the fee burden on the user is zero.

How Has DEFI5 Performed?

The DEFI5 has outperformed all other DeFi-oriented basket products on the Ethereum mainnet, both since inception and on a YTD basis. The YTD returns figures follow (source):

Token YTD Returns
ETH 303.09%
DEFI5 214.44%
DPI 169.14%
DEFI+L 161.01%
CC10 158.66%
BDI -30.45%

To the degree to which tradfi quantitative metrics are applicable, consider the following figures starting from the 6th of December 2020:

Base Index Benchmark R^2 Alpha Beta
DEFI5 ETH 0.5799846239 -0.63 0.8979159
DEFI5 DPI 0.8399940672 1.21 0.9490777516
DEFI5 DEFI+L 0.5731027528 1.64 0.785820786
DEFI5 BDI 0.8135835274 3.21 0.8340033347

The BDI figures are quite skewed alpha-wise because it launched in April (DeFi hasn’t had a great time since then), whereas all of the others have existed for the duration.

If I’m missing your index token du jour from this list, let me know and I’ll update this accordingly!

Why Bring DEFI5 To Swapr?

At Indexed, we’re of the opinion that index investing - while currently in its infancy in crypto - is going to become a major force as time goes on. Our position is also that there shouldn’t be any rent-seeking from the provider in the form of a management fee simply for providing liquidity/having the asset. So, we don’t do it. Revenue is sourced from arbitrageurs that balance the NAV of the DEFI5 with its current market price on DEXes (and soon elsewhere, as I’ll explain).

Swapr does not yet have any index products available on Arbitrum, and we believe (as we would, we’re biased!) that DEFI5 would make an excellent candidate for DXDao’s ecosystem and goals: representing, as it would, a collaboration between a DAO that is acting in the true spirit of the term (yourselves) and one that is creating products which are developed and maintained in a truly open-source manner.

In the interests of full disclosure, DEFI5 is already present - and being incentivised - on Arbitrum (in the form of a DEFI5/WETH/WBTC pool on Balancer), along with a separate pool for the Indexed governance token NDX (again, I’ll be posting something much longer in a separate thread introducing us to you properly!).

What I’d like to sell you all on, however, is the future of the DEFI5 (and all Indexed products), and why we believe it is worth establishing a relationship at this stage.

What’s In DEFI5’s Future?

Indexed has recently released Nirn, our solution to cross-market yield-aggregation. While I won’t go into the details here of exactly how it works, it is designed to produce vaults that can shift their assets across multiple supported lending markets (simultaneously, if required) in a permissionless way.

Depositing a token such as UNI gives the depositor an nUNI wrapper token, and anyone - whether a depositor or not - is capable of running an open-sourced optimiser to determine the current on-chain rates for the underlying asset across any/all of Compound, Aave, Cream, Fulcrum or the Iron Bank (soon Rari Fuse and dYdX), and execute that rotation if a better rate exists. This standalone protocol is currently live, and due to be formally verified next month by Certora.

I mention this because we have recently received a grant from Balancer Labs with mind to upgrading the Indexed protocol to a custom pool within Balancer V2. Such pools are capable of utilising an ‘asset manager’ contract to utilise its underlying liquidity in some way. We are working with Balancer and Curve Labs on this upgrade (along with some other neat things like a metaoracle we’ll be open-sourcing), and anticipate approximately 4 months of development time with our current team size.

When completed, audited and ported, we will be integrating Nirn vaults - subject to approval from the Indexed DAO after a fairly long discussion about risks and impact - wherever possible into such an asset manager, converting the DEFI5 - and our other products such as DEGEN - into yield-bearing variants of themselves that don’t bind their component assets to a particular protocol within the pool itself.

This does not create a walled garden in that it is not, e.g. cUNI that is the asset with a bound weight within a pool: users can still mint and burn DEFI5 tokens through, e.g. UNI, but the underlying UNI liquidity could be put to work as cUNI, aUNI, cyUNI or a combination of all of these depending on what the current market rates are. A default of 10% of the yield generated through Nirn vaults is routed to the Indexed DAO Treasury as protocol revenue.

As a result, Indexed products such as the DEFI5 will become the only DeFi-focused index baskets currently in the market that both charge zero fees to hold and utilise their liquidity productively in order to earn best-in-market rates without making a concrete choice on the underlying lending market. We’re very excited about this, as you might imagine - for one, it opens the door for DeFi funds who are bound by regulation in that they cannot stake their assets (because they need to know their counterparty) to earn interest within blue-chip DeFi by simply holding an Indexed Finance product.


I said I wasn’t going to go on and on, and so I’ll stop myself here.

I’d love to hear your thoughts or questions about anything, really: the DEFI5, its proposed future form, Indexed Finance as an organisation, what the weather is like here… anything, really!

In summary: the DEFI5 is a prime - albeit relatively unknown - asset within the DeFi space right now. It would be a joy to promote it with you through Swapr, and to establish a relationship that we can leverage going forward. Even if DXDao decides ultimately to decline this particular proposal, it’s a pleasure to meet you all - I’ve got my foot in the door now! :wink:

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I am grateful that you’ve taken the time to present this useful information to the attention of DXdao’s community, Laurence. It’s a great pleasure knowing that DeFi has talented individuals like you building. :clap: