Friends With Benefits

Friends with Benefits - Liquidity Improvement Plan

FWB Treasury Team - May 13, 2022

Goal

Improve the liquidity pool of the FWB token by launching an active liquidity management program.

Rationale

A healthy liquidity pool is crucial for the infrastructure and growth of FWB. A well-functioning liquidity pool should facilitate the transfer of tokens and accommodate spikes in volatility.

To date, most liquidity has been provided by FWB token holders with an eagerness to create a strong foundation for the community. However, in recent months, liquidity has declined on the existing pool due to the expiration of token-based incentives. This is expected as liquidity based on incentive schemes are highly unstable. As a result, swaps of a material size (over 100 $FWB) have significantly impacted the token value in both directions.This pool is currently provided by a few wallets, which also poses a risk. Ultimately, the current liquidity pool is not doing its job to facilitate the smooth and efficient transfer of tokens or the on-and-off boarding of community members.

Solution

To improve and deepen the liquidity pool, the FWB Treasury team, in conjunction with Llama and Gamma Strategies, propose a new solution. This approach utilizes the capital efficiency offered by Uniswap’s V3 upgrade. The V3 upgrade allows liquidity to be concentrated around certain ranges, which can improve the swapping experience for the user by causing less slippage. In addition, fewer tokens are required for optimal liquidity, due to the increased token pair concentration. With these improvements, the V3 platform is extremely complex and time consuming, even for advanced DeFi users. An Active Liquidity Management (ALM) program can address this.

ALM strategies actively adjust the parameters of a position on behalf of the liquidity pool. As an ALM program, Gamma’s smart contracts automatically manage the token ranges, rebalance assets, and manage the fees earned for optimal yields.

Specifics

1. The team at Llama will develop an escrow contract that will hold $ETH and $FWB. For the initial trial, up to 50 $ETH and the equivalent amount of $FWB will be loaned by the community treasury.  After the successful launch of the initial trial, this proposal gives the FWB treasury team the option to loan another allocation of up to 50 ETH and the equivalent amount of $FWB to the contract, if required by the team.

2. The escrow contract will be designed so only the FWB DAO can withdraw from it, via the established multisig setup. As such, Llama will only be able to direct the liquidity to an ALM manager like Gamma.

3. Given the complexity and time consuming nature of liquidity management, Llama will work with Gamma’s smart contracts to facilitate the strategy.

4. At any time, the community can vote to remove the tokens from the escrow contract.

Risks

There are three primary risks associated with this program:

1. Impermanent loss: a primary risk with liquidity on AMMs. Impermanent loss occurs when the price of assets deposited in a liquidity pool changes relative to when the user originally deposited them. One could realize a loss if they withdraw their position at a lower dollar value than when they deposited. Gamma’s smart contracts utilize machine learning techniques to minimize impermanent loss and optimize for fees. (A backtest of the past 100 days has shown the projected impermanent loss is less than 0.5%).

2. Token custody: the tokens could get compromised by one of the other entities (Llama or Gamma) involved in this program. This risk is mitigated by the limited escrow contract functionalities with Llama (no withdrawal allowance). Gamma does not have power to withdraw funds either, but given some of the inherent flexibility of the ALM contracts, this can be a risk. Additional reading on Gamma’s structure can be found here.

3. Smart contract risk: the program will rely on both an escrow smart contract and Gamma’s smart contracts. Only Llama and FWB’s multisig can interact with these contracts. The escrow contract developed by Llama will be a simple structure, with clearly defined deposit and withdrawal functionalities. It will also be vetted by our technical community members before implementation. Gamma’s smart contracts have been audited by Arbitrary Execution, Consensys Diligence, and CertiK. Although Gamma suffered an exploit of its staking contract (unrelated to the liquidity management contract) in the past, the issue has since been remedied and audited by Arbitrary Execution and ConsenSys Diligence. Moreover, the private liquidity management contracts are further protected by a whitelist which limits who can deposit to and withdraw from the Gamma position. The whitelist protections implemented by Gamma offer the strongest protection against flashloan exploit risk as no other party aside from Llama and FWB would be able to deposit or withdraw from the Gamma position manager contract.

Success metrics

• Reduced volatility in token value (both up and down) relative to the natural volatility of the overall crypto market

• Slippage for the average token swap of 75 FWB remains under 2%

• More durable and sustainable approach to liquidity, without dilutive or circular incentive programs

Costs

If successful, the ALM program will be a cost effective method of pool support, as it does not rely on native token incentives. In the past, these incentive programs have been costly for the DAO. In order to implement this program, the service providers’ fees (Llama and Gamma) will be the primary cost rather than native token incentives (FWB). Overall, we believe that the cost of this program will be significantly lower than previous approaches.

Llama will be responsible for setting up the escrow contract, coordinating with Gamma’s smart contracts, and managing the ongoing position and reporting. This will require a total cost of $30,000, paid over a 6 month period ($10k upfront, $4k per month for 5 months).

Gamma strategy smart contracts take 10% of the fees generated from the liquidity pool. In addition, when a rebalance occurs, the gas fees are charged to the DAO. According to the Gamma team, gas fees will range from about $200-600 per rebalance. And it’s roughly estimated that 15-20 rebalances will occur over a year, though this number can vary higher or lower. Gas costs will be an ongoing metric which Llama, Gamma, and the FWB treasury team will monitor. In total, FWB can expect to incur approximately $30k or more in the first year.

Additional reading

For additional information and analysis, please see the detailed liquidity report from Gamma Strategies, which outlines how their smart contracts can improve FWB liquidity.

A community call will be held with the Llama, Gamma, and FWB treasury team to discuss the details of this proposal and answer any questions.

Background on Llama

• Llama builds economic infrastructure for DAOs. We are an opinionated layer on top of DeFi protocols that helps DAOs take treasury actions including treasury diversification, liquidity provisioning, token swaps, and more.

• Llama has worked with Aave, Uniswap, Gitcoin, PoolTogether, Fei Protocol, dYdX, Radicle, Index Coop, FWB, and Harvest Finance, among others. We’ve developed treasury strategies, designed liquidity programs, constructed on-chain indices, and built dashboards and financial reports.

• Llama has worked with FWB in the past, has been a signer on the FWB multi-sig in its earliest days, and helped with initial Treasury accounting, financial reporting, and treasury diversification strategy.