TL;DR: Synthetix is set to revolutionize DeFi with the release of V3, allowing users to pool collateral, create onchain financial markets, and power countless new protocols with Synthetix liquidity and infrastructure. Essentially, V3 offers a more dynamic and modular approach to onchain derivative creation, liquidity deployment and infrastructure management, expanding the possibilities of what can be built on top of the protocol.
Synthetix is on the cusp of creating a revolution in DeFi with the upcoming V3 release. It will help usher in a period of massive innovation across the world of onchain derivatives and financial instruments.
What is Synthetix V3? Let me explain.
At its core, the entire Synthetix V3 system is a Collateralized Debt Position (CDP) protocol. Similar to MakerDAO/Liquity, you take your collateral (SNX, ETH/wsteth/other LSD/etc), deposit it into a contract, then create a stablecoin. In the case of Synthetix, the stablecoin generated by the system is sUSD.
The differentiator for Synthetix is that you can instead assign the entire CDP, collateral and all, to a larger basket of collateral called Pool.
Pools can be thought of as a collective CDP, with baskets of collateral used to generate sUSD and allocate liquidity to derivatives markets for use by traders. Pool owners are the ones who decide how liquidity is distributed. Because of this, even though anyone can create and manage a group, most players will likely direct their securing to more “trusted” groups. For example, the Spartan Council Pool, whose owners are directly elected by SNX token holders.
Teams then use this collateral and allocate it to a derivative Markets. Markets are arguably the most important part of the entire protocol, as they are the logic that turns LP liquidity into onchain financial instruments. Well-designed markets hope to create delta-neutral commissions for LPs – which, in this case, means that commissions earned by liquidity providers are unaffected by perps trader gains and losses, ensuring consistent returns regardless of volatility. A recent example of a “well-designed market” is Synthetix Perps, which is back $24M+ in fees for Synthetix Stakers. Synthetix Perps has built-in risk management plans such as price impact and dynamic financing rateswhich work together to keep the market delta neutral.
LP’s, Pools, Markets & Traders
Before we go any further, let’s quickly analyze the liquidity flow in the Synthetix V3 system.
Liquidity Provider –> Pools –> Markets –> Traders
That’s the whole system in a nutshell, with LPs providing the initial collateral, then groups taking that collateral and using that collateral to generate sUSD and allocate it to the markets. Markets use this sUSD to provide liquidity to markets like Synthetix Perps and then traders use this liquidity to trade.
The flow of fees goes in the opposite direction
Traders –> Markets –> Pools –> Liquidity Providers
All groups within the Synthetix V3 system will distribute rewards on a proportional basis, meaning those who provide more collateral to the group will receive more rewards. There is a caveat here in that pool owners can create one reward dispenser. This distributor can take a percentage of the commissions generated and distribute them to any address, security type, etc., in any way. In addition, the rewards distributor may receive incentives from an external source and distribute these additional rewards to LPs, these may include token rewards, inflationary rewards, etc.
A reward distributor, managed by the pool owner, could decide to distribute 10% of all fees to the original market maker or 10% of all fees to SNX participants. Alternatively, the rewards distributor can distribute additional rewards to LPs in the market – an example is the inflationary SNX, which would be distributed through a rewards distributor. It has maximum configurability. To know more about it, read about it on the official Synthetix Documents V3.
Before we delve into the markets, let’s start with a broad overview of the entire system. Below is a graphic of the Syntheix V3 system for structure visualization.
I’m sure you get the picture. Now, let’s dive into the markets.
Development Markets & Potential Markets
Some additional markets currently in development include Perps V3 & Spot, which will allow the creation of perpetual futures and spot synthetic assets. Markets are configurable and modular. Developers can create a market for any derivative using any available Oracle onchain. Here’s a non-exhaustive list of possible purchases from Synthetix Core Contributor Cavalier’s recent blog post on Synthetix V3:
- Perpetual Futures / Options / Structured Products: transactions using synthetic assets to represent leveraged positions for perpetual futures contracts, including underlying transactions and funding rate arbitrage portfolios. Example – GMX could be built in Synthetix v3.
- Lending NFT-Fi/perpetuals: Users can borrow synthetic assets secured by NFTs or create perpetual contracts that speculate on the future value of NFTs, with rewards distributed to Synthetix participants. For example, nftperp.xyz could be built in Synthetix v3
- Insurance Purchases: Users can purchase insurance policies for various risks, which are secured by Pools and governed by smart contracts. E.g. Nexus Mutual could be built on Synthetix v3.
- Prediction Markets / Binary Options / Sports Betting: Users can trade stocks based on the outcome of events such as election results or sports matches. E.g. Overtime Markets could be created in Synthetix v3.
- Games: any game could leverage Synthetix’s security to provide competitive prizes. E.g. a lottery (or no-loss lottery, like PoolTogether) is easy to implement in Synthetix v3.
- Off-Chain Markets / RWA: Markets could be developed for real-world assets such as artwork, carbon credits or other off-chain assets or instruments. With sufficient oracles and trusted entity verification, this “trust” could build capital on the chain, backed by Synthetix and snxUSD.
The opportunities are endless. Now, while these market possibilities are interesting, the key element that powers these derivatives is liquidity. Let’s dive deeper into how Synthetix V3 addresses the challenge of onchain liquidity.
Liquidity as a Service or LAAS
On-chain derivation is HARD. Many protocols have been tried and many protocols have died.
The biggest problem plaguing derivatives protocols is commonly referred to as the chicken and egg problem. New derivatives protocols cannot incorporate investors because they have no liquidity, and they cannot bring liquidity because they have no investors. It doesn’t matter how new or bespoke your protocol is. if you don’t have liquidity, you’re dead in the water, and that’s it.
That’s where Syntheix comes in. Liquidity as a service.
Developers build on the Synthetix infrastructure and then convince LPs to deposit collateral into pools to inject liquidity into their derivatives markets. Instead of having to reinvent the wheel, you’ll be in the Synthetix ecosystem, a protocol with a history of supporting innovative ideas and new protocols.
I imagine most protocols will use a mix of old school liquidity development via the brrr token and ask the Spartan Council for an initial liquidity seed to get them off the ground. This is the advantage of the Synthetix system – you can raise liquidity yourself and work through governance to raise liquidity for your new idea. But Synthetix doesn’t just stop at providing liquidity. It offers a solution to developers while also managing the complexity of the support infrastructure.
Infrastructure as a service
Developers do not need to manage infrastructure specifically to provide liquidity, leaving them to focus on the two most important parts of their protocols – designing derivatives mechanisms and a suitable frontend to assist and educate traders.
Just imagine the countless hours developers across DeFi have spent building infrastructure that could have been spent building a better product. Synthetix V3 will soon take all that pain away.
Synthetix V3 handles everything and you don’t have to recreate liquidity management and reward distributors for every purchase you make.
Go deeper
Here is a non-exhaustive list of other resources to learn more about Synthetix V3:
