The Unstoppable Rise of Tokenization in DeFi Synthetics
Tokenization in DeFi Synthetics is a cutting-edge technology that uses blockchain and smart contracts to create digital assets that represent real-world assets. This allows you to invest in a wide range of assets without relying on intermediaries like banks or brokers
The Process Of Tokenization
• Asset Selection
It starts with the selection of an asset to back the token. This asset is chosen based on its liquidity, volatility, and market demand.
• Smart Contracts
A smart contract is a contract stored on a blockchain that can be automatically executed when the required conditions are met. In the context of tokenization, smart contracts are used to automate the issuance, management, and trading of tokens.
Smart contracts are used to issue tokens by setting up a contract that specifies the rules and conditions for the tokens, such as the total supply, the price, and any restrictions on who can purchase or sell the tokens.
The contract is then deployed on the blockchain and the tokens are minted automatically according to the rules set out in the contract. This process is called Initial Token Offering (ITO).
Smart contracts are also used to manage the tokens when they are issued. For example, the smart contract can specify how the tokens can be used, who is authorized to hold them, and the rules for transferring them.
The smart contract is also responsible for matching buyers and sellers, executing trades, and settling transactions. This eliminates the need for a centralized exchange (which can be hacked), and reduces transaction costs.
Essentially, the smart contract contains the rules for how the token will be created and traded, including the collateralization ratio, the rebalancing frequency, and the fees associated with trading the token.
Confused?
Let’s delve deeper…
• Collaterization Ratio
The collateralization ratio is the ratio of the amount of collateral held, to the total value of the tokens given out.
For example, if a token is backed by $1 million worth of gold, and the collateralization ratio is set at 150%, then the token issuer must put up $1.5 million worth of gold as collateral. This ensures that the token is fully collateralized and that investors are protected in Incase there’s market downturn.
• Minting
Once the collateral is in place, the tokens can be minted. Minting means creating a new digital token that represents the underlying asset. The token is created by the smart contract and is stored on the blockchain.
• Rebalance Frequency
This refers to how often the token issuer must rebalance the collateral that is held to back the tokens.
Rebalancing is done to ensure that the collateralization ratio is maintained. For example, if a token is backed by $1 million worth of gold, and the collateralization ratio is set at 150%, then the token issuer must put up $1.5 million worth of gold as collateral.
If the value of the gold backing the token decreases to $1.2 million, the collateralization ratio would decrease from 150% to 125%. In order to maintain the proper collateralization ratio, the token issuer would need to either purchase additional gold or burn some of the tokens in circulation.
The frequency of rebalancing would depend on the volatility of the underlying cryptocurrencies. If the cryptocurrencies are highly volatile, the token issuer may need to rebalance every day or even more frequently, but less volatile ones may need rebalancing on a weekly or monthly basis.
• Listing and Trading
These tokens can be traded on Decentralized Exchanges (DEXs) and other DeFi platforms, allowing investors to gain exposure to the underlying asset without actually owning it.
Tokenization in DeFi Synthetics also allows for the creation of complex financial instruments, such as index funds and options, which are created using multiple underlying assets.
For example, a tokenized index fund might be created that tracks the performance of the top 100 stocks on the S&P 500. The smart contract for the index fund would be programmed to automatically rebalance the underlying assets to maintain the proper ratio.
How Token Issuers Make Money
Let’s say a token issuer wants to create a token that represents the value of gold. They could create a token called $XEUS that is pegged to the value of an ounce of gold. So if an ounce of gold is worth $1,800, then each $XEUS token would be worth $1,800.
The token issuer would then sell $XEUS tokens to investors, but they would not necessarily sell them for $1,800 each. Instead, they might sell them at a discount, say $1,750, to encourage investors to buy them.
The token issuer would use the funds from the sale of $XEUS tokens to buy actual gold. So if they sold 1,000 $XEUS tokens at $1,750 each, they would have $1.75 million in funds to purchase gold.
Over time, the value of gold might fluctuate. If it goes up to $2,100 per ounce, then the value of each $XEUS token would also increase to $2,100. At that point, the token issuer could sell some of the gold they bought earlier, at a higher price and make a profit.
In addition, the token issuer might also charge transaction fees whenever $XEUS tokens are bought or sold on a Decentralized Exchange. These fees would go to the token issuer, providing another source of income.
But that’s not all…
The token issuer can also earn interest on the collateral held for additional income. For example, the token issuer may choose to lend out the collateral to earn interest while still maintaining the proper collateralization ratio.
Overall, the token issuer makes money by selling tokens at a discount, using the funds to purchase the underlying asset, and then profiting when the value of the asset increases, as well as transaction fees, interest on collateral and other sources of revenue.
Wrapping Things Up
Tokenization in DeFi Synthetics is an advanced financial technology that allows you to gain exposure to a wide range of assets by using blockchain technology and smart contracts. Tokenization offers a more efficient and transparent way to invest in assets. But note that their are risks involved, so do your research properly before investing in tokenized assets.
