FPO v1.0 MASP – Multi Asset Single Pool¶
FPO v1.0 (FinNexus Protocol for Options) is a decentralized and non-custodial protocol for writing, trading, and exercising options with pooled liquidity. The protocol will be launched first on Wanchain, shortly followed by Ethereum, and will be accessible through a single interface that supports both blockchains.
In addition to providing a high rate of return with relatively low risk for option writers, this model is also very attractive for options buyers. Buyers will be able to benefit from the wide variety of option types supplied by the pool and will be able to tailor unique strategies suitable to their needs. Buyers can also combine customized option terms in a variety of ways, enabling the creation of complex and powerful strategies. The model is easily extensible and is only limited by the amount of capital included in its collateral pool.
In a nutshell, FPO v1.0’s elegant mechanisms serve to benefit both liquidity pool contributors (liquidity providers or LPs) and options buyers/traders. No other DeFi options protocol currently sports our Multi-Asset Single-Pool (MASP) model, which we believe is the best way to bring together a fractured liquidity landscape for on-chain derivatives and thereby ensure the best possible trading experience for our LPs and other users.
FPO v1.0 – Universal Options Protocol¶
FPO v1.0 is a universal options protocol that enables the creation and trading of options from any type of underlying asset based on the collateral held in a single liquidity pool.
While FPO v1.0 will initially support options for BTC and ETH, there is no limit to the types of options that can be created with the protocol. Any asset can be an underlier for FPO v1.0 options — including cryptocurrencies from any blockchain, fiat currencies, commodities, equities, and practically any asset with a reliable on-chain price feed. Under this version of our protocol, there is no requirement for assets to exist in a tokenized form on-chain. The options are synthetically derived from the price feed itself.
The basic bull/bear options introduced with v1.0 serve as a foundation for many other combinations of options strategies (straddles, strangles, etc.). FNX token holders will be able to create their own unique portfolio tailored to their individual risk/return requirements. As we expand the universe of assets, these tools will become more important in creating bespoke strategies.
FPO v1.0’s pooled liquidity enables users to buy options directly through the protocol smart contract without individual counterparties. It is important to note that, in the current construction of FPO v1.0, a separate liquidity pool must be maintained on each respective chain. FNX tokens on each respective chain will serve as the collateral for liquidity pools that will reside one per chain.
The Differences between FPO v0.1 and FPO v1.0¶
An overview of the key differences between our Tokenized Model (FPO v0.1) and our Pooled Options Model (FPO v1.0).
In the following chart, we break down the key differences in graphical form. I hope you can see how the structure on the left promotes the fracturing of liquidity and is woefully gas-efficient. As Ethereum moved towards higher and higher gas fees — now we hardly see a Safe Low gas fee of < 100 gwei — we felt it was important to design a system that was gas- and capital-efficient. We believe that FPO v1.0 is an elegant solution to today’s most pressing blockchain problems on Ethereum.
How Does the FNX Liquidity Pool Work in FPO v1.0?¶
The unique MASP system — Multi-Asset Single-Pool — allows FNX token holders to gain exposure to a variety of bespoke cash-settled options positions on a variety of assets, initially BTC and ETH.
The following graphic describes the different roles in the pooled system — Options Buyers and Pool Participants (LPs) — as well as the different actions — selling, exercising, and contributing or withdrawing FNX.
Pooled Options Model Basics¶
FPO v1.0 will first be live on Ethereum and Wanchain. It can further be deployed to other chains.
A single collective pool is created with FNX tokens (on Wanchain, WAN coins are also accepted as collateral). The monolithic pool then acts as the seller of all the options. The protocol may accept other crypto assets as collateral for the pool in later versions and/or on different blockchains.
Options will not be tokenized. Rather they will be recorded in smart contracts.
The initial underlying assets are BTC and ETH, but can be extended to any assets. The long-term vision for the FinNexus Crypto Supermarket includes the tokenization of bespoke options positions on any cryptocurrency, stock, physical assets, index or really any asset with a dynamic price feed.
Options will be American type and can be exercised or traded any time freely before expiration against the single liquidity pool on the chain where the exposure is held. Some restrictions may be understandably added in the first few iterations here to control risks.
Pool shares are tokenized and sent to pool participants as certificates.
The pool size is measure by the net value in USD, which changes according to the distribution of premiums, moneyness of options, exercising, sell-back, and other associated features.
The buyers can choose option characteristics according to their needs. The associated premium will be calculated using algorithms in the smart contracts, dynamically and automatically.
Protocol security will be maintained by setting the collateral level high enough to guard against black swan events. This collateralization ratio has not been determined yet and will likely be experimented with to find an optimal level.
FNX in the pool can be withdrawn anytime, provided the liquidity is not fully locked by the existing option contracts. Again, some restrictions may be added in the first version.
Role of FinNexus Token (FNX) In FPO v1.0¶
The FNX token plays a key role in the FPO v1.0 protocol. It is used for collateral and liquidity, as a medium of exchange, and as the medium for bringing value into the protocol.
The FNX token economy within the Multi-Asset Single-Pool (MASP) DeFi options model creates a circular economy wherein value contributed begets value earned, which can then be contributed to the pool again to create ultra-deep liquidity pools that facilitate many different kinds of bespoke options exposure.
The following uses Ethereum as an example, but the same principles apply to any chain FPO is deployed on.
First, the FNX token serves as collateral and liquidity in the pool. The liquidity pool is created when individual liquidity providers contribute liquidity by locking their FNX in the pool. The liquidity provider receives a **pool token, FinNexus Pool Token (FPT), **which represents their share of ownership in the pool. This monolithic pool of FNX provides both the collateral for writing options and the liquidity for exercising options.
Second, the FNX token also serves as the medium of exchange. Users purchase options using FNX and the FNX premium is then contributed to the pool. When holders either sell back or exercise their options, that transaction will also be settled in FNX.
Third, FNX tokens are the medium for bringing value into the protocol. While prices are denominated in USD, all value entering the protocol is through the FNX token. No underlying assets need actually exist within the protocol itself. Instaed, they are synthetically generated using the combination of price oracles and the value of pooled FNX that is available to be used as collateral.
v1.0 MASP Pool Overview¶
The MASP (Multi-Asset Single Pool) Liquidity Pool in the FPO is much different than liquidity pool concepts found on other DeFi platforms like Uniswap or Balancer. These two, in particular, behave as automated market makers for cryptocurrency swaps. MASP Liquidity powered by the FNX token is the liquidity solution for both the creation and settlement of options contracts, as well as the transaction between those options.
FNX Pool as Collateral¶
According to the typical requirements of options contracts, the seller has the obligation to perform if exercise of the option is triggered by the holder. Thus, when writing codes for smart contracts, there must be enough collateral (margin) locked up within the smart contract to ensure that it will be settled accordingly. The FNX MASP liquidity model operates as collective collateral.
FNX Pool as Trading Counterparty¶
Other DeFi options projects have experimented with liquidity solutions for options. They have tried the traditional finance method of providing order books and the DeFi-inspired method of using Uniswap AMM pools. However, both methods fail because they do not adopt truly DeFi methods as first principles. In the former method, traditional order books are massively inefficient and incredibly expensive to maintain a sufficient depth of liquidity while also adhering to decentralization principles. In the latter method, while automated market makers are certainly DeFi, applying them to the liquidity problem on the sell-side while not involving them on the buy-side introduces great imbalances to the system. Using Uniswap to provide liquidity for selling options guarantees that the pool participants must suffer a great impermanent loss due to the inherent time decay of the value of options. The FinNexus MASP liquidity solution provides a cost-effective and capital-efficient solution for trading real DeFi options in a truly decentralized manner. The collective pool of locked FNX serves as counterparty for all trades.
A Liquidity Pool Entirely Administered by Smart Contract¶
Options exposure sold to options buyers will earn options premiums. These premiums will automatically accrue in the MASP liquidity pool and, as premiums compound over time, there should be an increased value reflected in the FPT tokens. Remember that these FPT tokens represent are pro-rata share in the monolithic FNX liquidity pool. Returns of pool participants are easily measured by the pool share net value.
Since this pool is the single counterparty for all live options, including all puts and calls at different strike prices and various expirations, asystematic risk from any single option contract is diluted by the depth of the pool.
This automatic mechanism provides greater efficiency and encourages users to participate in trading as options writers. FinNexus was founded with the goal of simplifying complex financial models so that common DeFi users will be attracted to the platform. We believe the uniqueness of the Multi-Asset Single-Pool (MASP) liquidity model satisfies the initial DeFi Trilemma that we set out to solve in our initial whitepaper. We believe that if these amazingly innovative DeFi concepts are going to scale, they need to provide diversity, value and convenience to all types of crypto token holders. FPO v1.0 delivers on that initial goal of the FinNexus project.
When we created FinNexus, we set out with one simple goal — to deliver diversity, convenience and value to everyday cryptocurrency enthusiasts.
The Net Value of MASP Liquidity¶
As stated previously, FNX token holders that lock their FNX tokens will receive FPT tokens that track a pro-rata share of their ownership in the monolithic options liquidity pool. As such, it is important to understand how the value of those tokens is calculated. In this section, we describe the specific calculations and safeguards that will be used in determining the value of any 1 fungible FPT token.
What Is Pool Net Value?¶
Pool Net Value measures the monetary value of all the options exposures currently in the liquidity pool. It is calculated on the basis of accrual accounting and, as a result, may not be equal to the sum of actual net inflows and outflows at any given time.
Potential gains and losses to this monolithic liquidity pool, as single counterparty to the collective value of all options exposure sold from the pool, are reflected in changes to the Pool Net Value. In FPO v1.0, Pool Net Value is an important concept in deciding the pool size, which in turn determines the maximum value of options that can be written on the market and, at the same time, measures the value of potential user claims from the pool.
What Affects Pool Net Value?¶
The total Pool Net Value (PNV) in USD is affected by the following:
① FNX deposits increase the PNV;
② FNX withdrawals decrease the PNV;
③ Receiving option premiums increases the PNV, with the caveat that the premiums accrue to the PNV over time as the options within the pool move towards maturity. This accrual mechanism is explained in more detail below;
④ The change in the intrinsic value of options (otherwise known as the “moneyness” level) increases or decreases the PNV. If an option goes further in the money, the intrinsic value is higher and benefits option holders. Hence, the PNV would decrease. If the option goes further out of the money, the intrinsic value of the options exposure printed by the pool would be lower and thus the PNV would be higher because the pool, acting as counterparty, would have reduced obligations;
⑤ Exercising options leads to cash settlement that decreases PNV;
⑥ Selling options to the pool allows options holders to receive consideration from the pool and leads to the termination of the options contract, which in turn decreases PNV;
⑦ The change in USD value of the FNX token increases or decreases PNV.
Calculating Pool Net Value¶
With the principles above, we can put the Pool Net Value (PNV) at the time of T (NetValue(T)) into the following formula:
p(T) is the USD price of FNX at the time of T
N(T-1) is the number of FNX in the pool at the time of T-1
Input(T) is the number of FNX tokens that are input into the pool during the time between T-1 and T
Output(T) is the number of FNX tokens that are withdrawn out of the pool during the time between T-1 and T
Premium(T) is the USD amount of premium that should be distributed into the pool, during the time between T-1 and T. Please check the details of calculation in the ‘Options Premium Distribution’ section below
△IntrinsicValue(T) is the change of the intrinsic value of the existing options and the options that get exercised during the time between T-1 and T
Sellback(T) is the USD value of the options that are sold back to the pool by the option holders during the time between T-1 and T
A brief overview of FPO v1.0 economics.
Options Premium Distribution¶
As mentioned above, Premium(T) is the measurement of premium distribution during the time between T-1 and T.
In particular, we need to highlight the unique method utilized in the FPO v1.0 to distribute options premiums to liquidity providers over time. In this section, we distinguish this distribution method from the other decentralized options platforms currently in the DeFi market.
As consideration for the right given to option holders, premiums are paid into the pool all at once, at the time of purchase. However, due to the nature of all options contracts, that they are valid within a certain period of time until expiry, and based upon the accrual method of accounting, the options pool itself should not book the premium income all at once, either at the time of purchase or expiration. The premium, therefore, must be distributed into the pool in line with the level of seller obligations as time moves closer to expiry, or as the ratio of the time value of options decays with time.
Therefore, at time T, the premium of an option distributed into the pool is calculated as
Where E is the expiration of the option ‘i’, and
Premium(i, Ei-T) refers to the premium of an option, calculated by the Black-Scholes model, with exactly the same terms and parameters as the option ‘i’, but with a different expiration of E(i)-T.
The difference in the above formula is the time decay of the value of the option ‘i’ as the time moves from T-1 to T, which should be accrued into the pool. When T=E(i), it means the time moves to the expiration time, and the premium in the last time slot will be fully distributed, where
Premium(i,0) means the option i goes to expiration, and it is the same as the intrinsic value.
What if the options are sold back to the pool or exercised during the time period T-1 to T?
Then the options will cease to exist after the time T, and the obligations of the option sellers will be gone. Hence the seller, which in this case is the monolithic liquidity pool itself, will be fully entitled to the premium not distributed before. Afterward, the rest of the unaccrued premiums will be allocated all at once. At time T, the premium of an option ‘e’, that is sold back or exercised, distributed into the pool is calculated as:
Therefore, the Premium (T), the USD amount of premium that should be distributed into the pool, during the time between T-1 and T, can be calculated as:
Where N is the number of the equivalent options.
The Net Value of the Pool Share Token (FPT)¶
After a user puts FNX tokens into the pool, the FNX will be collateralized and the holders will be entitled to the benefits of having a fraction of the liquidity pool. A pool share token will be minted and delivered to the users to signify ther pro-rata share in the monolithic FNX options pool.
The pool share token is called FPT, which stands for FinNexus Pool Share Token. FPT is transferable.
The net value of FPT is calculated using the Pool Net Value (defined above) and dividing by the total number of FPT tokens.
Entering the Liquidity Pool¶
Any users holding FNX can be a participant in the Liquidity Pool, getting option premiums and other sources of return, by depositing FNX tokens into the pooling smart contract. A simple UI is designed for users to make inputs and interact with the smart contract. FPT tokens will be minted and delivered as the pool share certificate.
The number of FPT tokens one may get is determined by the amount of FNX put into the pool in USD, and the Net Value of FPT at the time of depositing.
For example, if the Net Value of FPT is 1.5 USD, by depositing $150 worth of FNX, one may get 100 FPT in return.
Exiting the Liquidity Pool¶
Pool participants may exit the monolithic FNX Liquidity Pool at any time, provided the collateral in the pool is not fully utilized and the collateral utilization ratio is over 500%. In this version, to protect against possible flash loan exploits, a pool participant can only quit the pool one hour after making the initial deposit.
In cases when the collateral utilization ratio is below 500%, pool withdrawal will be paused. Also, the liquidity pool will cease to write new option contracts, until the collateral utilization ratio recovers to be above the 500% level.
By simply pressing the withdraw button, pool participants may withdraw the collateralized FNX partly or in full from the pool. This operation will burn the related FPT tokens and the equivalent amount of FNX in the pool will be delivered at the net value of FPT at the time of withdrawal.
For example, if the Net Value of FPT is 1.6 USD, by withdrawing 100 FPT out of the liquidity pool, one may get $160 worth of FNX tokens in return.
After withdrawal, the pool net value and the collateral utilization ratio will change accordingly.
Liquidity Pool Security (Collateralization)¶
In traditional finance, the performance of an options contract is ensured by the centralized third-party custody solutions that regularly compel and enforce the maintenance of sufficient collateral deposited from the options seller. In a DeFi options solution, with the help of decentralized smart contracts, the seller/writer of options can deposit and collateralize a certain amount of margin (collateral) in the smart contract to automatically ensure the exercise and performance of the option contract.
We introduced the Dynamic Margin mechanism in FPO V0.1 in which the minimum margin required dynamically changes according to the price of the underlying assets relative to the strike price. Undercollateralized positions are subject to liquidation.
However, in the MASP options model of FPO v1.0, the liquidity pool acts as the only collective counterparty for all options. Pool participants each own a fraction of the total liquidity in a monolithic pool. Thus, they face significantly less asystematic risk and counterparty risk.
Therefore, maintaining the security of the liquidity pool as a whole is crucial to making sure that the issued options are always fully backed. In other words, the collateralization ratio of the monolithic pool should be high enough to safeguard against massive market movements and other black swan events.
To begin, the minimum collateral utilization ratio of the monolithic FNX options liquidity pool will be set at 500%.
However, in accordance with the essence of DeFi’s experimental nature, this threshold may be raised or lowered in the future in accordance with user response and the robustness of the protocol.
The collateral utilization ratio is calculated as the ratio of the total collateral value over the amount of collateral used to back options exposure written. The utilized amount is the total USD value of the strike assets in the live options. For one put option, the utilized amount is the strike price in USD. For one call option, the utilized amount is the current price of the underlying asset in USD.
where N(c) is the number of call options; N(p) is the number of put options; SP is the strike price; P(underlying) is the current price of the underlying asset.
The Options Market¶
FinNexus v1.0 will feature a wide variety of option types which are enabled by the innovative and efficient MASP model:
Buying Options Basics¶
Though the Pooled liquidity model may have different smart contracts from FPO v0.1, the basic economic logic of the options are all the same.
By purchasing a call option token, you are taking advantage of leverage, allowing you to use less money to gain positive exposure to the price of the underlying assets.
By purchasing a put option token, you are buying protection or insurance, to protect yourself against potential price drops of the underlying asset. Essentially, you are betting against an increase in the token price.
Please the What are options? section for basics about FinNexus Options and general information about options.
A clear benefit to options buyers in FPO v1.0 is that they can choose the terms of the options at their own discretion. They can create their own bespoke option by choosing option type, strike price, or expiration date. Option buyers can buy in-the-money (ITM), out-the-money (OTM), or at-the-money (ATM) calls and puts.
One can choose an options strategy that best suits one’s own unique individual risk profile, and may further combine with different options or other derivatives, to create more complex investment portfolios.
Exercise or Sell Back, It’s Your Choice!¶
Once a buyer purchases an option and becomes the holder, he/she may either sell back or exercise the options, partly or fully, any time before expiration, but only after one hour has passed since purchase.
The selling back or exercising will all be operated against the liquidity pool, but trigger different smart contract functions.
After selling back or exercising the option contract, the position will be closed and the relating option contract will be terminated.
The trading venue is created automatically with the pooled liquidity.
When buying options, the pool collectively acts as the seller/writer; when a holder sells options, the pool is the buyer. There is no need to wait for orders to be filled, as is the case with traditional order books. The liquidity for all options is concentrated in one monolithic liquidity pool. This mechanism solves the liquidity and slippage issues experienced by most decentralized exchanges (DEXes).
Importantly, the time decay is already balanced by the distribution of the option premiums in the pool. Unlike the constant product automatic market maker (AMM) algorithm, as used in Uniswap, the deterioration of value in options should not lead to any impermanent loss problems in the monolithic MASP FinNexus liquidity pool, which is a vast improvement over options platforms that rely on Uniswap token factory smart contracts to provide liquidity for their options products.
Options in FPO v1.0 are priced according to the Black-Scholes Option Pricing Model.
The value of a call option is:
The price of a put option based on put-call parity is:
For both, as above:
T-t is the time to maturity;
S is the spot price of the underlying asset;
K is the strike price;
r is the risk-free rate;
σ is the volatility of returns of the underlying asset.
When buying and selling options on FPO v1.0, they are priced by the Black-Scholes formula implanted in the smart contracts. Key parameters for pricing options include asset price feeds such as BTC/USD, ETH/USD, and FNX/USD. Most critical to these calculations is a source for Implied Volatility (IV), which in itself is a figure that can only be derived from the Black-Scholes formula. Decentralized oracles provide these crucial data feeds to the FPO v1.0 smart contracts.
In later versions of the FPO v1.0 MASP options protocol, we plan to make the pricing mechanism more dynamic. An adjustment coefficient will be added to the pricing formula in order to make the pool more balanced with regard to risk. The adjustment coefficient is subject to change according to the puts/calls ratio on the market and the overall utilization of the pool. To make it simpler, if there are more puts than calls, the puts written in the future will be a bit more expensive. When the pool utilization is high, the options will generally be more expensive than the case when utilization is lower.
When Can I Exercise?¶
Options in FPO v1.0 are all American type options and, as such, can be exercised anytime before expiration.
Should I Exercise?¶
It is entirely up to the options holder whether or not and when to exercise an option. Whether it is financially beneficial for the option holders to exercise will be judged by themselves. The system of oracles and smart contracts that comprise FPO v1.0 will not make this decision for options holders.
What Happens When I Exercise My FPO Option?¶
FinNexus options will be cash-settled, denominated in FNX tokens, which means that only the difference in price will be settled. The difference between the strike price and the market value of the underlying asset will be exchanged into the margincollateral assets (i.e. FNX tokens on Ethereum or different combinations of assets on other chains) via smart contracts and transferred into the option holder’s address.
For example, if a BTC call option is in the money, the option token holder will get the following amount from the FNX liquidity pool, when exercising:
If a BTC put option is in the money, the option token holder will get the following amount from the FNX liquidity pool when exercising:
The same logic applies to other collateralized crypto assets.
When more than one type of crypto assets are collateralized in the pool, a combination of these assets, proportionate to the composition of the liquidity pool, will be settled and delivered to the holder’s address.
Oracles and Price¶
All values of the crypto assets, including both the collateral assets and underlying assets, will be calculated and measured in US dollars. At this point, all related token prices necessary for calculation — currently FNX/USD, WAN/USD, BTC/USD, ETH/USD, and Implied Volatility (IV) — are fed by API. Price feeds refresh every 5 minutes.
However, the next step in the development of the protocol is to work with decentralized oracle platforms to integrate price feeds and IV feeds fed by decentralized oracles directly written into the FPO smart contracts.