Notional Finance

We propose to change the Prime Cash interest rate models on Notional with the aim of enhancing deposit growth, optimizing utilization levels, and creating a more balanced interest rate environment for Notional’s users. Below are the details of the proposed changes and the rationale behind them.

Proposed Changes

1. Increase target utilization levels (Kink2):

• Current Issue: The interest rates under the current kink are not sufficiently attractive to potential depositors. This leads to stagnant deposit growth and suboptimal utilization levels.
• Proposal: Raise the target (kink2) utilization levels to make the interest rate curves more efficient. Lower the kink1 utilization level to smooth the curves.
• Expected Outcome: Higher utilization targets will increase supply rates for lenders before rates exceed the kink, attracting additional deposits and improving liquidity.

2. Increase Kink2 rates in line with increased Kink2 utilization:

• Current Issue: The interest rates at the current kink are not sufficiently attractive to potential depositors.
• Proposal: Raise the target (kink2) rates to make it possible for interest rates to sit at sustainably higher levels (below kink2).
• Expected Outcome: Higher kink2 rates will make it easier to attract depositors in the event that attractive leveraged yield strategies produce additional borrowing demand.

3. Decrease the max rate for ETH:

• Current Issue: The existing max rate is overly punitive, causing highly negative APYs for leveraged yield users when rates go above the kink. This discourages participation without significantly aiding in risk mitigation.
• Proposal: Lower the max rate for ETH to more reasonable levels that still incentivize leveraged yield users to deleverage when necessary.
• Expected Outcome: A fairer interest rate environment that encourages sustained participation from leveraged yield users while maintaining effective utilization control.

Rationale

• Borrower Behavior on Notional:
  • Unlike other lending protocols dominated by cross-currency borrowers, Notional’s borrowing activity is primarily driven by leveraged yield users.
  • These users are more responsive to spiking borrow rates and tend to deleverage quickly, reducing utilization organically without the need for excessively high max rates.
• Risk Considerations:
  • Cross-Currency Debt Exposure: Notional has relatively little cross-currency debt compared to its overall size (~85% of Notional’s open debt comes from leveraged yield strategies). The majority of debt stems from leveraged yield strategies, which pose less insolvency risk even at high utilization levels.
  • Collateral Concentration in wBTC: Any cross-currency debt is predominantly collateralized with wBTC. By maintaining a lower target utilization parameter for wBTC, we mitigate the risk of liquidation failures during market downturns.

Risk Mitigation

While increasing kink2 utilization levels could theoretically reduce the pool of unutilized assets available for liquidations during price drops, the following factors mitigate this risk:

1. Limited Cross-Currency Exposure: The protocol’s minimal cross-currency debt reduces the potential impact of high utilization on liquidation processes.
2. Strategic Parameter Adjustments for wBTC: Keeping wBTC’s target utilization low ensures sufficient liquidity is available to handle liquidations if needed.

Proposed Parameter Changes

Parameters	ETH	Stablecoins	LSDs	wBTC
Kink Utilization 1	No Change	80 -> 75	70 -> 55	65 -> 55
Kink Utilization 2	80 -> 90	85 -> 92	75 -> 80	No Change
Kink Rate 1	2.29% -> 2.36%	No Change	1.17% -> 0.59%	0.59%
Kink Rate 2	6.09% -> 7.07%	7.07% -> 7.85%	2.93% -> 3.52%	2.34% - 3.52%
Max Rate	195% -> 100.5%	No Change	No Change	No Change

New Parameters

Parameters	ETH	Stablecoins	LSDs	wBTC
kinkUtilization1	75 (75%)	75 (75%)	55 (55%)	55 (55%)
kinkUtilization2	90 (90%)	92 (92%)	80 (80%)	70 (70%)
kinkRate1 (1/256)	6 (2.36%)	10 (3.93%)	1 (0.59%)	1 (0.59%)
kinkRate2 (1/256)	18 (7.07%)	20 (7.85%)	6 (3.52%)	6 (3.52%)
maxRate25BPS	192 (100.5%)	192 (100.5%)	225 (150%)	225 (150%)
feeRatePercent	20 (20%)	20 (20%)	20 (20%	20 (20%
minFeeRate5BPS	10 (0.50%)	10 (0.50%)	10 (0.50%)	10 (0.50%)
maxFeeRate25BPS	160 (40%)	160 (40%)	160 (40%)	160 (40%)

Conclusion

By implementing these changes, we aim to:

• Enhance Deposit Growth: More attractive supply rates under the kink will encourage additional deposits, improving overall liquidity.
• Optimize Utilization Levels: Adjusted utilization targets will lead to more efficient use of assets within the protocol.
• Create a Balanced Interest Rate Environment: Fairer max rates for ETH and stablecoins will support sustained participation from leveraged yield users without compromising risk management.