Bullish Case for DeFi Portfolio Manager, Balancer ($BAL)
Balancer is a non-custodial portfolio manager, liquidity provider, and price sensor that turns the concept of an index fund on its head. Instead of paying fees to asset managers to rebalance your portfolio, you collect fees from traders, who rebalance your portfolio by following arbitrage opportunities.
The Balancer Protocol Governance Token (BAL) are distributed to Liquidity Providers of Balancer. BALs are a key way of decentralizing the governance of the protocol such that it can remain resilient over time, protected from the failure of any single stakeholder.
Balancer allows for its trading pairs (called pools) to consist of multiple tokens — anywhere between 2 and 8, each token with a different arbitrary share of the pool (from 2% to 98%). This is different than how 50/50 AMMs (e.g Uniswap) rely on the x*y=k equation in that it allows different, varying impermanent loss schemes and capital efficiency according to the specific use case.
To route trades, it uses a system that intelligently sources liquidity from multiple pools so as to automatically figure out the best available price from the range of available pools. This system is called Smart Order Routing (SOR).
Balancer Pools are extremely customizable, allowing anybody to create a pool with custom fees (ranging from 0.00001% to 10%).
The proposed amount of distributed BALs to liquidity providers is 145,000 per week, or approximately 7.5M per year. This means in the first year of BAL’s existence there would be 30% supply inflation off the initially allocated supply of 25M tokens. This high rate of supply inflation is meant to kickstart the distribution of governance rights of the protocol out to those who earn it.
Balancer is also a decentralized exchange (DEX) built on Ethereum. It allows anyone with an Ethereum wallet to trade instantaneously at prices determined automatically by the market.
Non-custodial: Trading with Balancer, you are always in possession of your assets; you don’t need to send your tokens to an exchange wallet like you would with a centralized exchange (CEX). Trades on Balancer are atomic. As a trade is executed, you will receive the token you’re buying at the same instant you send the token you’re selling.
Decentralized: Balancer is built on a series of smart contracts, so the system is totally decentralized.
Trustless: There are no admin keys or backdoors for someone to control who can use Balancer, what they can trade, or what the prices are.
Why should I use Balancer?
Using Balancer as an exchange gives you trade prices that are decided by the market, not by a centralized exchange. You can also use Balancer as a Liquidity Provider (LP). Providing liquidity improves rates for traders, and LPs are rewarded for their contributions.
BAL tokenomics
BAL has a capped, total supply of 100 million tokens.
The circulating supply increases with time with an inflation of 145,000 tokens per week. This is part of their Liquidity Mining program.
What are Balancer Pool Tokens
Balancer Pool Tokens (BPT) are ERC20 tokens that represent your share of a specific pool. A wallet holding BPT is entitled to a share of the pool, so if you lose your BPT, you lose access to your liquidity. BPT are created (“minted”) when liquidity is added, and they are destroyed (“burned”) when liquidity is removed.
The best way to think of owning BPT is as though you own a percentage of that pool, similar to how owning shares of a company works.
Staking Tokens
Some projects build on top of Balancer pools and require you to stake your BPT tokens to earn their rewards. Please note that by staking BPT you are effectively giving your tokens to that contract - you will no longer receive BAL rewards as it goes to that contract you have staked in instead!
A Balancer pool has the following variables:
Change Tokens — add or remove tokens from the pool (2 to 8)
Change Weights — change the weighting of any token in the pool (2% to 98%)
Change Fee (0.00001 to 10%)
White/blacklist LPs — limit the particular addresses that can become LPs in the pool
Limit Max Deposited Value — limit the maximum value LPs can deposit
Start/Stop Trading — pause trading for the pool.
With that, there are three types of pools:
public pools (also called shared)— anyone can add liquidity (and get Balancer Pool Tokens in return), but all the pool parameters are fixed forever. (trustless, finalized)
private pools — all the parameters are flexible — only the owner can change them but also only the owner can add liquidity (trusted, unfinalized)
smart pools — anybody can add liquidity to them and the parameters can be fixed or dynamic controlled through smart contracts. (trustless, flexible).
Balancer V2
Gas Efficiency
The high gas fees are making the whole DeFi ecosystem suffer.
In terms of Balancer, the high gas fees are neutering the SOR (smart order router), as sourcing liquidity from multiple pools becomes more expensive than the potential savings in slippage it’s supposed to offer due to the gas fees incurred when drawing from each pool.
To solve this, Balancer V2 groups each pool’s assets under a single vault (called the Protocol Vault) that holds the assets for all Balancer pools.
The benefit is that what would have been multiple transactions before, each with gas fees will now be a single transaction. This will finally allow Balancer to take full advantage of its multi-pool trading routing so as to offer the greatest possible liquidity with the lowest possible slippage.
This is achieved through decoupling the pools’ AMM logic from the token management and accounting.
As far as I am aware, every other AMM has the old gas inefficient model when trading with more than one pool for additional liquidity. This means that Balancer should be the best in the industry at offering low slippage with the same amount of liquidity.
Net Token Transfers
Storing every token in a single vault offers another large advantage where intra-exchange transactions can be more efficiently managed requiring only one settlement when leaving the exchange.
In Balancer’s new Protocol Vault, only the final net token amounts are transferred from and into the vault (via an ERC20 transaction). This makes arbitrage trades significantly easier, allowing you to execute a successful arbitrate trade across Balancer Pools without any tokens, to begin with.
For example, if you detect a price asymmetry, you could execute the following trade:
DAI -> MKR (pool 1)
MKR -> BAL (pool 2)
BAL -> DAI (pool 3)
Receive the profit in DAI
Internal Token Balances
Further, Balancer V2 allows users to hold internal token balances inside the vault. For example, if you are trading ETH for DAI but know that you’ll trade DAI back to ETH in a few hours, you can keep both tokens in the vault and use them for your next trade without the need for an intermediate useless ERC20 transaction.
Internal token balances are extremely useful for high-frequency trading and are a very advantageous DeFi building block, allowing DEX aggregators to leverage Balancer internal balances in order to provide traders with the lowest gas costs to their users.
Dynamic Fees
Balancer recently announced its partnership with Gauntlet to introduce dynamic fees to the mix.
Today, it’s nearly impossible to choose a correct swap fee at pool creation time. Inherently, the optimal trading fee for a pair continuously changes throughout both tokens’ lifecycles and the overall market cycle.
For example, a static fee can have diminishing returns after circumstances change, like liquidity moving to another pool. Another example is that during times of wild volatility, liquidity providers risk sustaining greater impermanent losses.
Just like ride-sharing apps have accommodative pricing (surge pricing) during high-traffic times, Gauntlet can similarly provide pools with appropriate fee optimizations accommodative to the situation at play.
Because the fee itself will be dynamically changing in response to the ever-changing conditions, you can rest assured that the fee will always be optimal as computed by Gauntlet’s battle-tested algorithm.
Asset Managers
This has to be the feature I am most excited about as a retail investor!
Traditional AMMs are not very efficient with their capital since a large chunk of the assets in a pair remain unused (no trade digs deep enough to the last ounce of liquidity).
To leverage the potential of these assets, Balancer V2 introduces a new revolutionary concept called Asset Managers.
Asset Managers — external smart contracts, nominated by pools, that have full power over the pool’s tokens.
An Asset Manager can therefore lend the unused tokens out to a lending protocol, improving the pool’s yield by putting capital to work when it’s not being used as swap liquidity.
Most excitingly, Balancer has already partnered with Aave to build the first asset manager!
Asset Managers are an innovative new AMM feature that goes to show the power of DeFi’s composability.
The details of how this works are well abstracted away from the end-user — but if you are curious, this blog post explains it well.
With these latest additions, Balancer LPs can earn yield from 3 places:
BAL from liquidity mining
swap fees that are dynamically optimized
asset managers
Resilient Price Oracles
On-chain price feeds are a critical component for many DeFi applications (prediction markets, lending, margin trading, etc). It is currently not a good idea to use a Balancer pool as a price oracle by deriving the exchange rate from the ratio of tokens in the pool, as that is vulnerable to sandwich attacks. Nevertheless, perhaps due to lack of education, some teams inadvertently use it.
Balancer V2 will make the protocol more resilient and user-friendly by introducing price oracles that are resistant to such sandwich attacks by leveraging accumulators (as pioneered by Uniswap V2).
There will be two types of oracles that can be queried for low gas costs:
Instant — A more up-to-date price but less resilient to manipulation
Resilient — Less up-to-date but more resilient to manipulation
The existence of two price types allows projects to use the one that best fits their use case — a lending protocol would likely use the resilient price whereas something like a prediction market may prefer the instant price.
Governance
As Balancer continues to transition toward a community-driven protocol, V2 will implement three new types of protocol-level fees that fuel the treasury, entirely controlled by BAL token holders.
Trading Fees — a small percentage of the trading fees paid by traders to pool LPs.
Withdrawal Fees — a small percentage of any tokens that are withdrawn from the Protocol Vault. Note that trades and moving liquidity between pools are not included.
Flash Loan Fees — A small percentage of assets that are used for flash loans from the Protocol Vault.
At inception, the first two (trading & withdrawal) fees will be turned off. The flash loan fee will start at a small value solely to ensure there is always some cost of capital for creating a flash loan on Balancer.
Initially, all protocol fees will be kept in the Protocol Vault, setting the stage for the community governance to decide whether/how these fees will be used.
Resources:
https://medium.com/balancer-protocol/balancer-v2-a-one-stop-shop-6af1678003f7
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