A Better Week For Both Traditional And Digital Assets
As our journey into Decentralised Finance (DeFi) protocols continues, we will look at the more exotic type of financial instruments available. Over the past few weeks, we have covered many of the primary functions available, including exchanging with Uniswap, earning with Aave, yearn.finance and MakerDAO, staking with Lido and trading perpetual contracts with dYdX. Last week we covered how one could trade option contracts with Hegic; these were very basic and consisted of buying put and call options. However, these types of financial instruments can be combined to create much more powerful financial instruments, structured products. This week we will explore these with Ribbon Finance.
What is Ribbon Finance?
Ribbon Finance is the first DeFi protocol that provides access to structured crypto products. Structured products are created by combining options, futures and fixed income to create a portfolio with a specific risk-return objective; this can be a volatility target, enhanced yields or protecting your principle.
Ribbon Finance was co-founded by Julian Koh, who saw an opportunity to provide a sustainable source of yield in the crypto market. Ribbon Finance initially launched with straightforward options strategies on ETH and WBTC but, over time, has increased the number of assets and blockchains it operates on.
Ribbon Finance has also introduced a governance token, RBN. When it launched, only 3% was distributed to early users of Ribbon Finance. This distribution also came with a caveat, the token was hard-coded and not transferable, so there was no market for it until October 2021. This was a decision made by the Ribbon team to reward the "right people" and receive feedback from their community early on through votes.
Ribbon Finance has also been slow to offer new products and strategies. They have taken this approach so that they can ensure the protocol works as intended before scaling significantly; this has included multiple audits of their code and limiting the amount of money that can be put into each strategy.
Ribbon has so far managed to deliver useful, structured products on a blockchain. So how have they managed to do it?
How Does Ribbon Finance Work?
Last week we covered the basics of what an option is and how to use them with Hegic. We recommend you familiarise yourself with this before we explain how structured products work. Nevertheless, as a primer, an option is a contract that gives the buyer the right, but not the obligation, to buy (call option) or sell (put option) the underlying asset at a specified price on or before a specific date. The buyer pays a premium to the option seller to enter into this agreement. People use options to speculate on the market as they allow you to profit when they go up and down, and they are also used to hedge a position to limit the risk of it moving one way.
Ribbon Finance has taken this one step further and uses a combination of option contracts and smart contract automation to create its products. The two main strategies they participate in are covered calls and put selling. One thing to note is that Ribbon actually runs on top of the options platform Opyn, which is similar to Hegic. Each strategy differs slightly depending on what asset you are depositing, but the core way it works is that each week the Ribbon Finance smart contract will mint or underwrite Out of the Money (OOTM) options at a chosen strike price on Opyn. These are then sold off, and the premium is collected and returned to the vault, which forms the yield one can expect to receive.
Ribbon Finance charges a fee for doing this, a 2% management fee and a 10% performance fee. As its stands, from this fee, 50% goes to people who have locked up the RBN token, and 50% goes to the Ribbon treasury. Holders of the RBN token (members of the DAO) can vote on how this may be split in the future, so it is subject to change.
Before we dive into how to use Ribbon Finance, it is a good idea to understand the two strategies that you can participate in.
What is a Covered Call Strategy?
A covered call is an options strategy where you earn yield for selling the potential upside of an asset. The diagram below shows the payoff for a covered call strategy.
In the above diagram, you will see that if you sell a call option on ETH at a strike price of, say, $5 000 and the price rises above that, you will forgo all of the gains above $5 000, but you will still be earning a yield. Your risk in this scenario is that it rises above your strike price, and you lose out on some upside.
What is a Put Selling Strategy?
If you are selling a put option, you, as the underwriter, have an obligation to buy the asset at a predetermined price from the buyer of the option if they decide to exercise the option. As an option seller, you already benefit from the premium paid by the buyer. Your risk in this scenario is that the option you have sold expires in the money (price has gone lower than strike). Your loss here will be equal to the strike price minus the premium paid by the buyer.
How To Use Ribbon Finance
Ribbon Finance is currently available on Ethereum, Avalanche and Solana, with seven, three and one market available on each, respectively.
For the purpose of this guide, we are going to use Ribbon Finance on the Ethereum mainnet and in order to do this, you will be required to set up and fund a MetaMask wallet. Alternatively, if you want to use Avalanche, you can follow our guide to setting up and funding a wallet here, or if you want to use Solana, you can follow our guide to setting up and funding a wallet here.
Step 1: Set Up MetaMask Wallet
In order to interact with Ethereum, you require a wallet. Our wallet of choice is MetaMask, but you are free to choose your own. Please find our guide to setting up your own MetaMask wallet here.
Once you have set up and funded the wallet, you can now use Ribbon Finance.
Step 2: Visit the Ribbon Finance Website
Visit the Ribbon Finance Website
Make sure you land on "https://www.ribbon.finance/"
Click Start Earning in the middle of the screen
You should see the below page:
Step 3: Connect Wallet
Click Connect wallet on the top right-hand side of the page
Choose the appropriate chain
Pick your chosen wallet and click Connect
Enter your MetaMask password when prompted
All the markets available on this chain will now be shown
Step 4: Determine Your Strategy
Now comes the time when you must decide on what type of strategy you want to participate in. Please always make sure you have done your own research and understand the risks involved with each strategy. You can click on each to better understand how it works, see some historical data and the yield one could expect to make over a year.
Click on your chosen strategy
You should see something similar to the following:
Make sure that the vault hasn't reached its capacity, or you won't be able to deposit your asset. Also, bear in mind that each strategy is run weekly, so you may deposit today, but it will only be used in the strategy at a later period. You can see this information below Preview Deposit.
Step 5: Deposit Your Asset Into The Strategy
Determine how much of the asset you want to deposit and input it under Amount
Click Preview Deposit
If you are happy with the preview, click Deposit Now
Whenever prompted, click "Confirm" to sign the transaction on MetaMask if you are happy with the gas fees.
The transaction may take some time, so be patient. Once the transaction is confirmed, you now form part of the pool. Your asset will be put to work within the week in either a covered call or a put selling strategy. You can monitor the strategy in the Portfolio tab.
Using these networks is the best way to learn about them. It shows and allows you to understand what blockchain networks are capable of. Each has its own unique advantages, disadvantages and user experiences.
Ribbon Finance is a project that shows how DeFi projects can be used to strengthen one another and create products that leverage the successes of other protocols. It has also become an effective means of using structured products on a blockchain and can be used effectively to manage your positions if you have the know-how.
If you have any questions or have trouble using the network, please feel free to reach out and ask us questions. We always look forward to chatting with our readers. Otherwise, please feel free to share this article if you know anyone who is interested in using these networks.
Notable Articles and News Stories This Week:
Former OpenSea Exec Charged With NFT Insider Trading
The Department of Justice has indicted former OpenSea head of product Nathanial Chastain with insider trading in connection to NFTs in Manhattan federal court on Wednesday. Chastain was charged with one count of wire fraud and one count of money laundering.
According to the indictment, Chastain was accused of buying dozens of NFT (non-fungible tokens) with the prior knowledge that the assets would be featured on the NFT marketplace.
He then sold them at a profit two to five times the original purchase price using anonymous digital currency wallets and anonymous accounts on OpenSea.
Read more about the allegations here
Solana Halted by Bug Linked to Certain Cold Storage Transactions
Solana suffered its latest outage Wednesday, felled for over four hours by a bug in how the blockchain processes a niche type of transaction that’s designed for offline use-cases.
Validators began restarting the network only after disabling these so-called “durable nonce transactions,” Solana Labs Communications Chief Austin Federa told CoinDesk. They will remain nixed until developers identify and patch the exact culprit that threw Solana’s consensus mechanism off-kilter.
That may have ramifications for any offline custodian whose transactions fall under this category, perhaps even freezing their ability to move funds until the patch is in, validators said.
Read more about the bug here
Fidelity Digital Assets To Double Headcount by End of Year
Fidelity Investments’ digital asset arm is seeking to double its headcount by the end of the year amid its push to expand its support for assets other than bitcoin.
The company, which currently employs more than 200 people, is seeking to add 210 workers to its force, a Fidelity spokesperson told Blockworks. This includes about 100 client service roles, 50 custody operations jobs and about 30 roles each in execution services and technology building.
The pending hiring spree will help the business expand its support for assets other than bitcoin, such as ether, as well as 24/7 trading, customer service and cloud migration, a representative said. It will also allow the company to better provide services to clients, such as new compliance and tax reporting tools, as the business grows.
Read more about the move here
Whilst we all have the option to look, to seek to understand, it’s often easier not to. Bitcoin, Ethereum, and distributed ledger technology are complex systems that require significant due diligence. At Etherbridge, we aim to lower the barriers to understanding this fast-growing digital economy.
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This is not financial advice. All opinions expressed here are our own. We encourage investors to do their own research before making any investments.