Strips AMM Deep Dive 1/3: TL;DR
- STRIPS Automated Market Maker (AMM) model is an innovative new AMM model designed to trade interest rate swap derivatives.
- STRIPS is the world’s first derivatives AMM to use LP tokens as collateral
- Historical backtests results show using LP tokens as collateral increases token value while simultaneously building robustness and liquidity natively into STRIPS
- AMM returns averaged in the 300%-400% APY range
In this article we will be summarizing the part 1 of our 3 part Strips AMM Deep Dives here.
AMM PnL mechanism
AMM stakers can receive PnL from the following three sources:
- AMM PnL (in USDC): are collected from accumulated growth of trading fees and Realized PnL from traders’ closed and liquidated positions. It also captures the changes in Unrealized PnL marked to market when staking and unstaking.
- Penalty fees (in LP tokens): are collected from unstakers when they are charged a penalty. Stakers are charged a penalty if they withdraw within the penalty period. The longer you stake in the AMM pool, the more LP tokens you may collect from other unstakers who don’t behave.
- Incentive Rewards (in $STRP tokens): stakers and traders (with or without staking) will all receive $STRP tokens as reward. More details about this will be released in the future.
AMM PnL Analysis
Based on hundreds of backtest scenarios, returns averaged between 300–400% for staking in the STRIPS AMM.
- Based on simulation statistics, the base APY% is 314% on average and the staking reward APY% is 122%
- Higher demand to stake in the STRIPS AMM will push up $STRP price, as well as increase the liquidity of $STRP-USDC pair on Sushiswap
- Using LP token as staking collateral introduces reinforcing feedback loops and upward spiral of $STRP price.
In simulations, we mocked the dynamics between Sushiswap and STRIPS: we can see that $STRP price is driven by demand to stake. Higher $STRP price will encourage more $STRP demand in order to receive staking reward.
Our models also included simulated selling pressure from two external sources: (1) at monthly releases from investors’ unlocked tokens, and (2) some beta correlation of STRP to BTC. We found that despite these external selling pressures, the price of $STRP recovers quickly as the high ROI% and Sharpe of the STRIPS AMM would attract stakers to buy $STRP tokens and stake on STRIPS.
AMM Performance Matrix
The best way to measure a model’s profitability is not simply calculating the total return, but the total return normalized for risk. Hence, we map the total return (ROI) in the horizontal x-axis and the Sharpe ratio in the vertical y-axis. Sharpe ratio is the the total return divided by the standard deviation of that return, a higher Sharpe is better. Most top performing hedge funds have a Sharpe between 2–3. Bitcoin has a Sharpe ratio of 2.26 and the US stock market has a Sharpe ratio of 1.67 at the time of this writing.
- First, the performance of the STRIPS AMM is centered around 3–4 Sharpe. Under high volatility regimes, the perpetual IRS returns are dispersed with first and third quartiles at 300% — 800%, with Sharpe remaining stable at between 3–4 Sharpe. By contrast, under high volatility regimes, fixed-term IRS are less dispersed with lower Sharpe ratios below 3 (cross marks highlighted in green area). It is obvious that perpetual IRS, due to its concave nature of trading PnL, helps the AMM to remain robust even when markets experience high volatility at higher levels of APY%.
- Second, under the low yield low volatility condition, fixed-term IRS are tightly concentrated around Sharpe of 3.5–4 while the returns of perpetual IRS are more dispersed. Therefore, we can tell that perpetual IRS doesn’t necessarily reduce Sharpe (risk-adjusted return), but just increases returns (of stakers) higher together with higher risk. Therefore, the trade-off is that perpetual IRS sacrifices predictability of profits at low yield low vol condition for higher robustness at high yield high vol condition.
- Last, the orange efficient frontier also shows that the concave shape of perpetual IRS trading PnL indicates that beyond Sharpe of 4, it is hard to further increase Sharpe ratio based on the current model design.
- Furthermore, we also found the perpetual IRS AMM is less sensitive to yield levels and volatility, while 1yr-IRS AMM’s risk profile changes drastically based on the underlying APY market. Even in conditions of high yield high vol, 1yr-IRS’s profits are more widely dispersed than perpetual IRS, which indicates less predictability of AMM’s profitability when underlying APY is volatile.
- Regardless of underlying APY level and volatility, perpetual IRS AMM will have similar liquidation frequencies as that of 1yr-IRS.
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Any past performance, projection, forecast or simulation of results is not necessarily indicative of the future or likely performance of any investment.The information and publications are not intended to be and do not constitute financial advice, investment advice, trading advice or any other advice or recommendation of any sort offered or endorsed by Strips Finance.