norswap

aka Nicolas Laurent

Design of the $DJED Stablecoin

16 May 2022

This was originally a tweet thread that I have reproduced here for discoverability and archive purposes (the copy was done on 24 October 2022).

I've only slightly reformatted the text (mostly links), otherwise this is the original version.

1/16/ Earlier this week, @liamihorne asked if anybody knew about the design of the $DJED "algorithmic" stablecoin from @COTInetwork

I was curious, so I gave it a look...

2/ The stablecoin is not so much algorithmic as it is overcollateralized in a way that separates minting from collateralization.

3/ On the minting side, users can mint $DJED (stable) for collateral at 100% capital efficiency, if the supply is at least 400% collateralized (otherwise, you can't mint). In this case, the collateral is $ADA, so if $ADA is worth 100$, you get 100 $DJED back per $ADA.

4/ On the collateralization side, users can mint $SHEN for $ADA. As I understand, $SHEN represents ownership of the $ADA held by the protocol on top of 100% $DJED collateralization, and can be redeemed for that underlying.

5/ To preserve stability, $SHEN cannot be redeemed when the collateralization ration (CR) falls under 400%. It also cannot be minted when CR is over 800% (to avoid dilution of existing holders).

6/ This design is perfectly safe (as far as my basic understanding goes): the stablecoin is overcollateralized, and if you fall below 400% CR, $SHEN holder can't remove collateral.

7/ At that point it would take a 75% $ADA price drop for $DJED to be uncollateralized. I must also assume the $ADA can be liquidated if approaching 100% CR (potentially pretty bad for $ADA price if the protocol is successful).

8/ Additionally, every action from this point onward can only improve the CR:

So quite the opposite of a death spiral.

9/ For users, this is just a fairly unremakable overcollateralized stablecoin. One exception: if you're a whale, you can get a lot of stables for your $ADA without incurring slippage.

10/ There is also an argument that this avoids liquidaton cascades. I'm not entirely convinced, since you still have the problem in extreme cases (which is when cascades occur) when you approach 100% CR.

11/ For $SHEN minters — if I'm understanding is correct — you're essentially levered long $ADA. If $ADA goes up, you own your share of the > 100% pot when you joined + what passes into this pot due to price increase.

12/ e.g. if people bought $DJED for $ADA at 100$, and $ADA goes up to $200, then only half the original $ADA is necessary to collateralize the $DJED at 100%, the other half passes to the part of the collateral that can be redeemed by $SHEN holders.

13/ On the flip side, if $ADA drops, you're bearing not only the losses of the > 100% pot, but also the losses of the $ADA that uses to 100% collateralize the $DJED.

14/ $SHEN minters also have a claim to (some of?) the fees generated by the protocol.

15/ Something interesting is that due to the fact that $SHEN cannot be redeemed < 400% CR, you probably can buy it at a discount on an AMM at that time (the discount accouting for the lack of liquidity). This is actually a good thing that promotes recollateralization.