Y2K: A Playful Way to Hedge Depeg Risk | TKX Weekly

7 min readNov 26, 2022

Part I. About Y2K

Back in May, UST severely deviated from $1 and went into a death spiral with Luna, causing huge losses to both institutional and retail investors. The UST depeg gives crypto newbies their first lesson about extreme events. But how can you protect yourself from them? Here is our potential problem solver: Y2K Finance.

Overview

Y2K Finance is a suite of structured products designed for exotic peg derivatives, which will allow market participants the ability to robustly hedge or speculate on the risk of a particular pegged asset (or a basket of pegged assets). The main goal is to provide a market where buyers can hedge their exposure to depeg events, whilst others sell ‘insurance’ to bet against depeg events. Y2K has three main products:

Earthquake — A flagship product where users can use these vaults to hedge, speculate, and underwrite the volatility risk associated with various pegged assets.
Wildfire — An on-chain RFQ order book where users can trade Y2K risk tokens.
Tsunami — A Collateralized Debt Obligation (CDO) powered lending market for pegged assets with MEV-proof liquidations.

Currently, Y2K provides Earthquake only. Wildfire and Tsunami will be launched in the future.

How Earthquake Works

The core of Earthquake vaults is catastrophe bonds (CAT), a traditional financial product that pays the issuer when a predefined disaster risk is realized, such as a hurricane or an earthquake. In the case of Earthquake, it applies the CAT bond concept to de-peg events, liquid wrappers and, other derivative products in DeFi. Now, Y2K allows users to hedge against FRAX, USDC, USDT, MIM, and DAI de-pegging with weekly and monthly periods. Users can deposit ETH in one of two types of vaults: hedge vaults and risk vaults:

Hedge Vaults: Hedge vaults are for users who want to purchase ‘insurance’ on a depeg event by depositing ETH to corresponding hedge vaults. When users deposit into hedge vaults, it represents betting on a depeg event. If a depeg event happens, users who deposited in hedge vaults get the payoff.
Risk vaults: Risk vaults are for users who want to get exposure to the depeg risk market. They act as an underwriter of depeg insurance, which means they sell insurance and bet on not depegging. They collect a pro-rata share of the premiums from the hedge vault deposits.

After depositing into either hedge vaults or risk vaults, users mint an ERC-1155 Y2K token which represents their position in the vault.

Properties

For each pair of vaults, it has three properties:

Asset: The specific pegged asset the vault is trading. Now Y2K supports five stablecoins.
Epoch: The start and end date of the vault. Now Y2K supports weekly and monthly periods.
Strike: How far the price needs to deviate to trigger a liquidation event and hence a payout to the “Hedge” vault depositors. The Y2K team determines the appropriate strike by calculating the standard deviations, daily deviations, etc.

Process

Users deposit into the vaults during the deposit period of each epoch. The funds are locked for the duration (one week or one month). During this time, the price of the stablecoin is monitored with Chainlink price oracle. If the strike prices for a given vault hits, the epoch will end and the vault will be closed. This will initiate a transfer of Risk vault deposits to the Hedge vault.

If the asset does not depeg:

Risk vault depositors receive a pro-rata share of Hedge vault deposits (premiums)
Hedge vault depositors transfer their paid-up premiums to the Risk vault depositors

If asset depegs:

Risk vault depositors receive a pro-rata share of Hedge vault deposits (premiums)
Risk vault depositors transfer their principal to Hedge vault depositors
Hedge vault depositors transfer their paid-up premiums to the Risk vault depositors
Hedge vault depositors receive a pro-rata share of Risk vault deposits

Revenue

The protocol collects a 5% fee in the following scenarios:

5% of Hedge Vault deposits
5% of Risk Vault deposits upon a depeg event (no fee is charged if the peg is maintained)

Tokenomics

Final Thoughts

Y2K is a PvP protocol based on pegged assets — stablecoins. The protocol acts as a casino charging a 5% fee as revenue. The revenue stream is relatively stable and profitable compared to other protocols because the protocol itself doesn’t take a risk to operate.
The high APY can attract users and form a flywheel effect attracting more liquidity for both vaults.
As the pool size of Y2K is relatively small compared with the size of major stablecoins like USDT and USDC, price manipulation on them is nearly impossible. However, as Y2K continues to develop, its stablecoin markets will extend to other exotic stablecoins like NEAR (USN), Arbitrum (VST), etc. Those exotic stablecoins involved a certain level of price manipulation risk as the market is quite small.
I am doubtful about the upcoming Wildfire product. Although it provides flexibility to users to enter or exit their position during the vault cycle and more ways to hedge their risk. From the document, we can see the model of the order book type secondary market is based on sellers and buyers placing orders. The problem with this model in this context is low liquidity and hence, a large spread between the bid and the ask. In addition, derivatives on stablecoins are exotic, it is difficult to price the fair value of it, you might see it as an option as it has a strike price and end date.
Although those derivatives can be used as insurance to hedge depeg risk, it is not easy to exactly hedge as the payoff depends on the strike price while stablecoin can completely depeg. If that is the case, users can still suffer from extreme depeg events.
Overall it is still an interesting protocol as it allows people to hedge stablecoins risk. It was built on Arbitrum which also enriches the Arbitrum DeFi ecosystem.

Part II. Market Updates

Binance Targets $1B Recovery Fund for Distressed Crypto Assets
Binance is targeting $1 billion or more for a previously announced recovery fund to buy distressed crypto assets. “If that’s not enough we can allocate more,” CZ said

Grayscale’s GBTC discount to NAV hits record low
Grayscale’s Bitcoin Trust — was trading at its lowest level below net asset value, according to data from Coinglass that show GBTC was trading at a 45.2% discount to NAV. Uncertainty looms over Grayscale’s parent company, Digital Currency Group, which also owns troubled crypto lending firm Genesis Capital that is said to be seeking to line up a $1 billion “emergency loan” after the firm told clients it would suspend redemptions

Ethereum Name Service Selects Karpatkey DAO to Manage Its Endowment Fund
The Ethereum Name Service (ENS) decentralized autonomous organization (DAO) has chosen a new fund manager to take charge in managing its treasury in the wake of crypto winter. Community members selected Karpatkey DAO, a decentralized finance (DeFi) fund management organization originally incubated through Gnosis Ltd.

ConsenSys says it collects IP addresses of MetaMask users via Infura
Ethereum-focused software company ConsenSys collects IP addresses and wallet address information of those who access Ethereum wallet MetaMask via the blockchain infrastructure service Infura.

Jump Crypto, Aptos Labs Commit to Binance-Led $1B Recovery Fund
Aptos Labs and Jump Crypto are among the prominent crypto companies that committed to contributing $50 million to a Binance-led $1 billion Industry Recovery Initiative (IRI). Jump Crypto, a trading firm, and Aptos Labs, are joined by venture capital firms Polygon Ventures and Animoca Brands as well GSR, Kronos and Brooker Group in contributing to the fund.

Part III. Fundraising News

Vinci Protocol — NFT infrastructure protocol
Raised 2.1M in a seed funding round led by UOB Venture Management, SigNum Capital, and TGE Capital.

Nucleo — Privacy startup
Raised $4M in a seed funding round led by Bain Capital and 6th Man Ventures. Other investors include Aztec Network, Aleo, and Espresso Systems.

Tropee — NFT utility platform
Raised $5.1M in a seed funding round led by Tioga Capital. Other investors include The Sandbox’s Sébastien Borget, Exclusible’s Thibault Launay, Geometry’s Grégoire le Jeune, and Lorens Huculak, founder of the OpenSea-acquired Gem.

Thirdverse — Web3 and VR gaming studio
Raised $15M in funding round led by MZ Web3 Fund. Other investors include Dash Ventures, OKX Ventures and Yield Guild Games.

Heroic Story — Web3 gaming and entertainment studio
Raised $6M in a seed funding round led by Upfront Ventures. Other investors include Multicoin Capital and Polygon.

Reference

https://medium.com/@Y2KFinance/y2k-finance-pricing-risk-in-exotic-pegged-assets-2544cfef6454
https://twitter.com/ThorHartvigsen/status/1563498351890296834
https://y2k-finance.gitbook.io/y2k-finance/
https://twitter.com/0xMinerva/status/1549424405796855809

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Note: TKX Capital do not offer any financial advice for retail investors and we have no affiliation with projects in this research.