@taskmaster4450/uqdrkoes

So I was watching this vlog by @taskmaster4450 as it pertains to index tokens, and as it turns out, I've written about this a bit as well on Christmas Eve:

@edicted/magic-aggregate-index-tokens

But in discussing this topic a bit more I've come to realize something: There's a lot more than one way to implement these indexed aggregate tokens.

Implementation #1: Centralized

This is the only implementation I was thinking of to begin with. Centralized corporations will use the assets on their balance sheet to create these tokens. This is the easiest implementation because centralization is efficient. Users will be able to purchase aggregate tokens off the market, and the hard-peg will be maintained via minting/destroying tokens based on collateral backing them.

Implementation #2: Decentralized

This is a possibility I did not even consider because of the current technological constraints of decentralization as they pertain to cryptocurrency. How can one make a decentralized index token? This would mean that several trusted nodes would have to come to consensus and share custody of all the assets that were included in the index.

Imagine having to synchronize 1000 nodes that are all keeping track of Bitcoin, Ethereum, Litecoin, Hive, LEO, and whatever other tokens are part of the index... that's a complexity nightmare.

It means that there'd have to be secure ways to deposit and withdraw assets from the index fund in a decentralized way, and if I'm being honest we simply do not have that kind of technology at this point. Many advances need to be made with oracle technology (ChainLink) and Atomic Swaps (THORChain) in order for this to be a solution that people can trust. We just aren't there yet.

Implementation #3: Proof-of-Burn Index

But what if there was a way to simplify this process so atomic swaps and oracles were not required at all? This is my idea of how we can sidestep these technology constraints to implement an index token that is both trustworthy and decentralized.

The complexity lies in the ability to hard-peg the index to the value of the underlying assets within said index. This is the tradeoff. This is what I intent to avoid. The index will NOT be hard-pegged to the value of the tokens inside the fund, but rather float in price up and down according to the free market.

This would be accomplished by never allowing the underlying assets to leave the fund. Index collateral flows one way: directly to @null. The only way to create more index tokens is to destroy one or more of the assets that the index contains. That means that any tokens that enter the index can never be spent again, permanently increasing the value of all underlying assets via burning supply.

_{Hey look! It's Bill Gates!}

This implementation requires no centralized authority, because assets can never be removed from the fund, eliminating the need for a custodian, atomic swaps, and oracles. Everything can be automated using the index token as the asset that governs itself.

Example

For simplicity, lets say all the tokens within the Index exist on the same network: Ethereum and a handful of ERC-20 tokens like ChainLink, Maker, Uniswap, DAI, wBTC, etc. Other assets like Bitcoin or Litecoin could be added if the underlying nodes that confirm the index were in consensus with those networks, but for this example that is an unnecessary variable.

In any case, assuming Ethereum address 0x0000000000000000000000000000000000000000 is equivalent to @null anyone who sent funds here with the proper message would receive some amount of index tokens from the network, and the underlying collateral that created those index tokens would be effectively burned forever, eliminating the need for a custodian or smart-contract to manage them.

This index token, lets call it @dextroy because I'm so creative.

Governance

This is where things get tricky. Everyone that owns DXT tokens can use those tokens to vote on all governance issues. Which governance issues are there to vote on?

• Adding an asset to the index.
• Delisting assets.
• Determining how much inflation is created by burning assets.
• Tweeking rules for the circuit breaker or other failsafes.

Surely there are more bullets to add to this list but these are the main considerations.

Now, I've talked about Proof-of-burn before, but in the context of an index I think it would have to operate a little differently. As it pertains to the governance token I want to create (MGW: Magic Words) the inflation is created at a pre-determined rate (one coin per Hive block; 30k every 25 hours). Those who burn tokens receive daily shares, and those daily shares are destroyed at the end of the 30k block period and exchanged for their share of the 30k tokens minted.

In the context of an index token, inflation must happen instantly on demand or else the tokenomics won't make sense. In the example above the index contains ERC-20 tokens only. So wETH, wBTC, Maker, ChainLink, Dai, Uniswap, Rune are a good spread.

So imagine being able to destroy ChainLink and in return you receive some number of DXT. Depending on the market value of DXT, one may able able to use this process to arbitrage the market when the price of DXT is higher than the value of the tokens required to mint it.

This sets a cap for the max value of DXT, as when the price goes higher than this value more coins will simply be destroyed to mint more tokens on demand. What about the lower end when demand is lacking and the value is lower than the collateral? This is the problem of removing the ability to destroy the index token to recreate the coins used to collateralize them: Limited upside; Unlimited downside. This leads one to wonder why anyone would risk their money on this network in the first place.

Convenience Premium

So what is there to gain by using such an asset when the value of DXT tokens have limited upside but no peg to the downside? Surprisingly there are many. The first of which being convenience.

Crypto is complex, and that complexity is only going to get worse as time goes on. The projects who mitigate this complexity and create solid user experiences are going to be the ones that take off. Simply having an asset collateralized by a basket of assets is an advantage to users who want a wide range of exposure without having to do any of the research. Obviously the DXT community chose all the assets in the index for a reason, so new users can trust the expertise of the original gangsters and big stake holders to know what they are doing.

Synergy

By having an index fund that permanently destroys assets forever, DXT immediately synergizes with any coin they list. Want to tap into a new community? List their coin and tell them you're about to moon their token with insane permanent sink mechanics. How's that for hype, networking, and marketing strategy? Instant recognition within communities that didn't know you existed.

The upside

Again, what do DXT token holders have to gain if the value of the index is capped? Well, it's not capped, because holders of DXT control the inflation. All the network has to do is lower the number of coins that get minted when the corresponding assets are burned. This will allow the value of DXT tokens to be higher than the value of the underlying assets that have been destroyed.

How is this possible? Well, asking how it's possible that a crypto is worth more than the underlying collateral is a bit silly. How much underlying collateral does Bitcoin have? Ethereum? Hive? LEO? Spoiler alert: the underlying collateral of most crypto assets is zero; the worth comes from the network and community itself, and there's no reason to assume that a decentralized index fund like this would be any different.

So not only do we get the extra value of a convenience premium, but we also gain value from tapping into every single community that the index token destroys. Of course if you start burning another network's token and potentially mooning their value they're going to be grateful and probably support you.

In addition, simply having the power of governance voting is also another benefit to holding the asset directly. More on this later.

There is also no limit to the possibility of creating extra value on top of this. Why not go full meta: the DXT network creates a game that can only be played by burning small amounts of DXT tokens in order to create in game items and stuff like that. Nested proof-of-burn networks could be all the rage in 10 years. Who knows.

Exploits

Diminishing returns on inflation would be implemented on purpose in advance simply to mitigate potential exploits and attack vectors. Imagine one of the tokens in the index gets hacked or exploited in some way. There needs to be mechanics in place that will prevent the entire index from crashing to zero.

That means as tokens get burned to mint DXT the inflation generated goes down automatically over time. This would be especially true in the event that one token was getting burned more than the others. As soon as one token was burned in mass the return on that token would become less, making it more profitable to burn another token on the collateral list, or to simply purchase the token straight up from the free market.

Circuit Breakers

In the event of a catastrophic event, like a hack that allowed someone to print infinite numbers of one of the tokens, a circuit breaker would be in place to make sure one asset on the collateral list can't be exploited to also create infinite index tokens. Such circuit breakers may not even need to be implemented if the logarithmic diminishing returns of the minting process is implemented correctly. This diminishing curve would act as a circuit breaker in itself.

Pegged but still decentralized.

Decentralization has value. Governance votes have value. Tapping in to new communities/synergy has value. Collateral consisting of a basket of assets has value. By creating a one way system that acts as a blackhole for lowering supply, lots of synergy can be created here.

Example synergy

Using DXT governance voting, the community decides to list a new asset: wLEO. Now wLEO can be destroyed (@null) in exchange for DXT. As wLEO gets burned in this way, less and less DXT will get minted. So even if wLEO were to get hacked the index would not be under threat, as a huge dump of wLEO into the system would trigger a circuit breaker that would not allow too much DXT to be minted.

Now imagine DXT listing a much lower market cap coin (like wLEO... assuming DXT has a big market cap at this point and wLEO doesn't). The DXT community could put wLEO at the top of the list to generate hype, meaning the only profitable coin to burn to mint DXT would be the new listing for a certain amount of time or tokens burned.

Surely, such tokenomics would greatly intrigue the assets being listed, and soon many projects would be absolutely clamoring for a listing. The synergy of multiple projects all hugely in favor of the index community could spiral out of control quite quickly.

"Insider" Trading

There's also the potential here for outsider trading... as in several people could start accumulating a token before it gets listed, knowing that when it gets listed it's going to moon. The interesting thing about this potential manipulation: who's that bad for? Kinda seems like everyone wins.

When the index token lists a new network allowed to deposit collateral, it increases the value of the index and the listing at the same time. There is a lot of unexplored potential synergy here.

Users are going to want to buy more DXT because its getting the attention and support of a new community, users want to buy more of the listed token because a bunch of it is about to get burned. It sounds like manipulation, but this isn't a zero-sum game anymore. Rather: everyone wins. That's the magic of abundance technology.

Conclusion

There is a lot of information to parse here, but I consider this a rough draft of something that could be very useful going forward. An index token based on a one-way burn could turn out to have massive value, as the collateral backing that network (forever locked) isn't the only source of value of the network. We see that there is little limit to how much value can be added to such networks, given the functionality built on top of the protocol.

Proof-of-burn Index tokens tap in to multiple communities while building their own, and I think that's a pretty interesting concept; Much moreso than some centralized corporate coin that has 2-way trading and is hard-pegged to the underlying assets involved. Why not make a token worth more than the underlying collateral instead? This proof-of-burn strategy could be quite an innovative solution for diversified investments and even governance itself... it's certainly something I'll brainstorm more about going forward.

_{Shoutout to @taskmaster4450 for giving me the idea.}