The Leading Onchain Options Protocol

Lyra protocol offers decentralized choices infrastructure using Synthethix infrastructure to assist margining and hedging for LPs. Choices are sometimes troublesome for the common person to wrap their head round in comparison with perpetual futures, so on this article we’ll cowl all you should learn about choices + how Lyra offers infrastructure to commerce them.

Choices Primer

There’s one million completely different guides to choices on the market proper now – when you’ve by no means heard of them earlier than there’s fairly a deep rabbit gap to go down. On the danger of sounding like a damaged report, I’ll restate a few of that primer materials right here to assist set the scene for Lyra. You’ll be able to skip this part when you’re already accustomed to what choices contracts are.

An possibility contract is an settlement between a purchaser and a vendor to purchase or promote a selected asset on a specified expiration date sooner or later (expiry date) at a selected value (strike value). Now we have name choices and put choices – Name choices signify the contract purchaser’s proper to buy the asset sooner or later, whereas put choices signify the contract purchaser’s proper to promote the asset sooner or later.

The vendor of the contract is then obligated to promote the person that asset (or buy it from then, for put contracts) ought to the contract expire “in-the-money.” The vendor collects a premium from the client when the commerce is opened (this premium is usually priced by an advanced pricing mannequin, extra on that later) – and if the contract expires “out-of-the-money,” the vendor will get to maintain the premium and has no obligation to settle the contract. Let’s check out two fast examples.

So, with these two fundamental contracts we have now 4 completely different trades. Shopping for a name (bullish), promoting a name (bearish), Shopping for a put (bearish), and promoting a put (bullish). With these 4 we will create an entire host of difficult methods. Right here you could find some extra advanced methods, how you can execute them, and how much biases they match.

When placing contracts like this onchain, we’re confronted with a few key hurdles. One among them being pricing. Present choices pricing fashions in tradfi aren’t precisely good for tokens – they’re made to cost choices in opposition to equities. One of many key variables they have a look at is implied volatility, which is the market’s opinion of the underlying asset’s probability to vary in value. Tokens are clearly orders of magnitude extra unstable than equities, so if we use a typical choices pricing mannequin we’ll find yourself with mispriced premiums and low curiosity from consumers/sellers

The second hurdle is a well-recognized one all through all of defi – liquidity. The well-known chicken-and-egg downside of needing to draw liquidity whereas concurrently attracting demand for that liquidity is a comparatively unified one for any defi protocol with a liquidity provisioning part. With choices particularly – not having sufficient liquidity can imply much less strike costs/expiries and decrease open curiosity (OI, the sum whole of all open trades in a given market) caps for merchants.

Lyra

Lyra affords choices buying and selling in opposition to $ETH and $WBTC on Arbitrum and in opposition to $ETH, $WBTC, $ARB, and $OP on Optimism. Lyra choices are European-style, that means they’ll solely be exercised on the expiration date (versus American-style, which might be exercised on or earlier than the expiration date). Lyra segments liquidity suppliers from choices consumers/sellers, permitting any arbitrary commerce to be crammed even with out a direct counterparty, so long as the asset + strike value is supported.

Offering Liquidity on Lyra

Lyra employs a peer-to-protocol strategy the place LPs deposit stablecoins into market maker vaults (MMVs) for particular belongings to gather buying and selling charges and hedged dealer PnL by serving as a counterparty for all merchants. With the intention to shield LPs from a very one-sided buying and selling surroundings, Lyra additionally hedges for LPs by way of GMX (for merchants on Arbitrum) or Synthetix (for merchants on Optimism). On Optimism, for instance, LPs would deposit $USDC (this will get swapped to $sUSD if wanted to hedge) or $sUSD in an MMV. If Lyra merchants have a heavy lengthy bias unprotected MMV vaults can be compelled to have a heavy brief bias to fill these trades.

With the intention to deposit/withdraw liquidity on Lyra, LPs have to first sign the intention to take action – a three-day cooldown is then initiated the place the funds are locked after which deposited after the cooldown interval. The protocol has circuit breakers in place to take care of payouts for LPs + liquidity for merchants in case of insolvency. On this situation, withdrawals/deposits could also be blocked (though, extra deposits might be manually accredited ought to they be blocked for lengthy sufficient).

Synthetix’s Position

Synthetix performs an important function for Lyra on Optimism. Lyra makes use of Synthetix Perps to hedge their choices AMM utilizing perps positions on Synthetix with the intention to preserve a delta-neutral place in MMVs, thus defending their LPs from pointless directional danger ought to choices merchants have a heavy lengthy or brief bias.

Tangentially, Kwenta additionally affords a frontend for buying and selling choices utilizing Lyra – making it a one-stop store for buying and selling Synthetix perps and Synthetix-margined choices.

APYs for LPs can vary between 8% – 40%, relying on market situations and which market you select to supply liquidity for.

Pricing

Precisely pricing choices is a vital part of a profitable choices protocol. Worth too low, and choices sellers received’t have an interest. Worth too excessive, and choices consumers received’t have an interest. Choices pricing is historically performed utilizing the Black-Scholes mannequin, an equation that takes in 5 inputs – the one one which requires any tweaking to make the mannequin match for onchain choices is implied volatility, or IV (the opposite inputs are asset value, strike value, time-to-expiry, and the danger free charge. Every of those might be utilized as they’d in every other choices trade). IV is a quantity that represents the market’s opinion of an underlying asset’s probability to vary in value and is completely different throughout every strike value + expiry primarily based on provide/demand. Lyra IV calculation facilities round rising IV when demand for an possibility with a selected strike + expiry is excessive and reducing IV when provide is excessive.

The above sentence is a reasonably large oversimplification, so let’s dig a bit deeper.  Lyra initializes a baseline IV for the ATM (the place strike value = spot value) possibility at a given expiry utilizing present market knowledge. This may be extrapolated to different strikes throughout the identical expiry by rising/reducing baseline IV per every trades inside that expiry (relative to whole variety of trades). This new baseline IV is then divided by the unique to find out skew ratio – which in flip tells us that skew ratio instances unique IV may give us an equation for figuring out IV for any strike with the identical expiry.

There’s one different bit about pricing value mentioning – Lyra’s administration of Vega danger. Vega is a measure of a contract’s sensitivity in value to adjustments within the IV. Since there’s a restricted quantity of liquidity within the MMVs at any given time – there’s a certain quantity of Vega the system can safely tackle with out placing LPs prone to insolvency ought to IV transfer an excessive amount of. To stop this – Lyra prices a price (or affords a reduction) to assist the system preserve net-zero Vega for MMVs.

So in summation – IV is the main unknown think about figuring out an choices value (you’ll be able to consider buying and selling an possibility as buying and selling IV). Lyra protocol determines IV by initializing a baseline worth for the ATM strike, then has that dynamically change primarily based on demand + extrapolates it to different strikes throughout the identical expiry (+ repeats the method for different expiries). As well as – there’s a flat price/low cost on prime of the choices value to take care of the system having impartial publicity to Vega (i.e, much less uncovered to large volatility swings).

Buying and selling

Lyra and Kwenta each provide (related) interfaces for buying and selling choices utilizing the Lyra Protocol. At the moment, they provide expiries as much as about 2 months upfront, with wherever from 1-10+ strikes per expiry. The buying and selling rewards program was additionally overhauled in April 2023 – at the moment, merchants earn rewards in proportion to their charges in $OP and $LYRA (they had been additionally paying out $ARB to Arbritrum merchants up till just lately – now paying $LYRA). They’ll additionally earn better rewards by buying and selling shorted dated contracts and/or holding contracts till expiry. These rewards might be boosted by as much as 2.5x by having a better dealer rating (resets day by day), staking $LYRA, or referrals (as much as 1.2x, referrals additionally provide buying and selling price reductions like most derivatives platforms).

Lyra’s interface

Should you keep in mind from our two examples above – promoting (both a name or a put) would require exercising the consumers contract at expiry. Which means promoting choices requires some stage of collateralization to make sure correct settlement. The latest Newport improve allowed for partial collateralization of promoting choices on Lyra – performed so in both or the quote ($USDC/$sUSD) or the bottom asset ($ETH/$BTC/and so on.). There are a few notable limitations to buying and selling, specifically:

Merchants can not open positions for choices expiring in below 12 hoursTraders can not open trades which have deltas (delta is a measure of how a lot the worth of an choices contract will transfer given a $1 transfer within the underlying asset) outdoors a specified cutoff rangeFor closing trades which might be outdoors these two parameters – they need to achieve this utilizing the ForceClose mechanism, incurring a penalty

Keep in mind additionally that charges dynamically mirror the online whole IV within the AMM – so they’re additionally topic to extra charges ought to trades exacerbate the Vega.

Tokenomics

$LYRA is the governing token of Lyra protocol. Staking permits for participation in governance (or delegation of governance) in addition to boosted yield to MMV positions, $LYRA emissions, and a multiplier for buying and selling rewards.

The method of unstaking is a bit completely different than what you could be used to. You first have to sign your intent to unstake, at which level a 14-day cooldown is initiated – throughout which the rewards are disabled. After this cooldown, a two-day window opens the place the staker wants to verify their motion with the intention to unstake. If this window passes with out unstaking, their tokens might be staked once more and topic to a different 14-day cooldown ought to they attempt to unstake once more.

The Way forward for Lyra

Lyra just lately introduced their v2, consisting of an OP-stack primarily based rollup providing spot, perpetuals, and choices buying and selling. This appchain comes with an entire host of upgrades to Lyra, together with however not restricted to:

Portfolio margin, cross-margin, and multi-asset collateralCapital environment friendly spreads for optionsGas charges from the Lyra Chain accruing to Lyra DAOAn offchain matching engineAccount abstractionPartial liquidationsA model new UI

Learn extra about Lyra v2 right here. The early entry program can be accepting signal ups at the moment, you’ll be able to join right here. Lyra has performed over $500m of notional quantity up to now, making them the biggest onchain choices dex by a big margin. To place that into perspective within the bigger market – Deribit, the biggest centralized crypto choices trade, clears 4 billion USD in quantity weekly. It’s clear decentralized choices nonetheless have an extended technique to go, however with names like Lyra main the cost there’s clearly heaps to be excited for.