Summary
This is a proposal to use 330,000 CTX tokens from the DAO treasury to fund an incentive campaign for the launch of TCAP 2.0 and for ongoing CTX token incentives to support TCAP 2.0 vault markets in periods of low demand.
The proposal has two parts:
- Part one: TCAP vault economics, which covers
- Primary use cases for TCAP vaults
- The costs of using TCAP vaults
- Potential profits from using TCAP vaults
- TCAP vault and TCAP token supply and demand dynamics
- Part two: incentive proposal details, which covers:
- Initial TCAP vault debt and token liquidity incentives
- TCAP points program
- TCAP CTX token reserve account
Part one: vault economics
A deep understanding of the TCAP vault product is required to build a good incentive model. The following sections describe the costs associated with TCAP vaults, and the user motivations for opening a vault and holding TCAP tokens.
Vault use cases
Vault owners have three options for their TCAP token debt:
- Hold the tokens in their account
- Sell the tokens
- Invest the tokens
Vault owners can only profit by selling their TCAP token debt short, or investing the TCAP token debt. Vault owners do not profit when the price of TCAP/USD rises.
Vault costs
In addition to blockchain transaction fees, there are three different costs associated with TCAP vaults: stability fees, liquidation fees, and opportunity costs. As of late 2024, blockchain transaction fees are nominal and will not be considered for this proposal.
Stability fees
The vault owner pays a stability fee on outstanding TCAP token debt. The stability fee is set by the protocol in order to help maintain the peg between TCAP token prices and the TCAP oracle price. A stability fee is only needed when the oracle price > market price. The fees on TCAP debt causes vault owners to close their positions, which reduces TCAP supply, leading to an increase in the market price of TCAP/USD.
Liquidation fees
Vault owners pay a 5% liquidation penalty, charged on collateral, if their outstanding TCAP debt exceeds the ~77% loan-to-value ratio set by the protocol.
Opportunity cost of capital
The vault owner has a cost of capital, which can be estimated as the risk free rate. Additionally, vault owners have some return on capital threshold they use to evaluate a similar set of investments. The risk free rate is ~4.2% in late 2024, and a typical vault owner may require an internal benchmark return of ~3%.
Together, vault owners incur an opportunity cost on the collateral they place in TCAP vaults of ~7.5%.
Vault profits
Vault owners that hold tokens in their account will not make a profit from an increase in TCAP/USD. Assuming vault collateral price stays constant, when TCAP/USD increases vault owners must put up additional collateral, and in order to redeem their collateral they must repay the TCAP token debt in TCAP tokens. If they sold their debt tokens, then they must pay the new market price to reacquire the tokens in order to repay the debt.
Vault owners can make a profit by betting on the price of TCAP/USD going down. In this case, the vault owner executes a short sell strategy, where they sell their TCAP token debt at the current TCAP/USD price. They use the funds generated from the sale to buy back the TCAP tokens once the TCAP/USD price has fallen, repay their vault’s outstanding TCAP token debt, and keep the difference as profit.
Vault owners can also make a profit by investing their TCAP debt tokens. Assuming the stability fee is zero, the vault owner will make a profit if the investment strategy returns are greater than the vault owner’s 7.5% opportunity cost of capital charged against the full vault collateral, which using a 130% collateralization ratio means the strategy must return at least 9.75%.
Additionally, vault owners can boost their profits by electing to allow their vault collateral to be placed in borrow lend protocols.
TCAP vault and TCAP token supply and demand dynamics
The stability fee is meant to be activated when there is an over supply of TCAP tokens in the market (in relation to demand). This should only happen when crypto sentiment shifts from bullish to bearish. Why is this the case? Because without engineered returns (i.e., DeFi opportunities for TCAP tokens, and the returns to collateral from lending it out to DeFi protocols) TCAP vaults are only useful for shorting crypto markets.
When crypto sentiment is positive there is little demand for TCAP token vaults; but, end-users want to own TCAP tokens as a bet on crypto’s growth. When this happens, TCAP token DeFi yields should go up in order to entice more TCAP token liquidity to be deposited in DeFi protocols to meet the increased demand. If the yields go up enough to outweigh vault owner cost of capital (~9.75%), then new vaults will be opened in order to take advantage of the DeFi yields. In this market, we should expect TCAP tokens to trade at a premium to the oracle price, since there was initially a low number of TCAP vaults and hence a limited supply of TCAP tokens. Accordingly, stability fees should not be necessary. In this market, the protocol may need to pay CTX rewards for vault owners as extra incentive to open vaults.
As crypto sentiment changes from bullish to bearish, demand for TCAP vaults increases (user’s opening vaults to short crypto) and DeFi yields for TCAP tokens decreases (less demand for TCAP tokens). This creates a surplus of TCAP token supply, and the price of TCAP tokens in the market should trade at a discount to the oracle price. At some point, stability fees are required to slow down new vault creation in order to bring the peg back in line. This is a prime opportunity for the protocol to generate revenue from stability fees. It may also be the case that the market price of TCAP tokens remains below the oracle price due to consistent selling pressure. Further protocol stability mechanisms may be necessary in this case.
Part two: incentives
The basic idea of this proposal is to use CTX token incentives to help bootstrap an efficient TCAP token market in the product’s infancy, and to guide and shape user behavior towards using TCAP vaults and TCAP tokens to speculate on crypto adoption (both advancing and declining adoption).
Request for CTX tokens
This proposal calls for 330,000 CTX tokens to support TCAP 2.0 in the first year. The CTX will be sourced from the DAO treasury and used as follows:
- Initial TCAP vault debt and token liquidity incentives: 178,000 CTX
- TCAP points program: 40,000 CTX
- A one year reserve of CTX tokens earmarked as incentives for vault debt and token liquidity in a bull market: 112,000 CTX
The 90 day average CTX/USD price of $2.13 was used for this analysis.
Initial TCAP vault debt and token liquidity incentives
In order to bootstrap initial TCAP vault debt and TCAP token liquidity, CTX tokens should be paid (as bribes) to TCAP liquidity providers in a Aerodrome finance TCAP/USDC DEX pool on Base chain. The TCAP token pair can either be purchased on the market, if available, or minted through opening a new TCAP vault.
The program will initially run for six months and requires 178,000 CTX tokens.
The initial campaign consists of three phases: soft launch, bootstrap, and continuance. Vault debt tokens in the Aero pool are modeled to grow in each phase up to the target amount of $5MM.
CTX rewards start slow in the soft launch phase, peak in the bootstrap phase, and then drop down in the continuance phase.
The Cryptex sub DAO has been successful in promoting CTX liquidity on Aerodrome, and their input and stewardship is vital to making best use of the CTX incentives for the TCAP/USDC DEX pool.
TCAP points program
In order to boost TCAP awareness, Cryptex should run 1-2 trial seasons of a user points program.
The program should be allocated 40k CTX upfront in order to fund the initial trial period. The CTX will be sourced from the DAO treasury. The program will run in seasons lasting roughly 3 months each. CTX rewards for user points are not guaranteed, and any unused tokens across the two seasons will be returned to the DAO treasury.
More details on user points would be posted before the program launch.
TCAP CTX token reserve account
An annual CTX reserve account is necessary in order to pay incentives to TCAP vault debtors in periods of crypto optimism. As described in the Part one: TCAP economics section above, TCAP vault demand should be low during periods of crypto optimism—at least until DeFi yields are attractive enough to offset the cost of capital on vault collateral. In order to keep a sufficient supply of TCAP tokens in the market, the protocol must have the ability to incentivize vault debt and DEX liquidity when the peg is TCAP oracle price < TCAP token price. The CTX reward rate (APY) is determined by the size of the gap between the TCAP oracle price and TCAP token price (a higher gap requires a higher CTX reward on vault debt tokens in DEX pools).
In order to properly estimate the number of CTX tokens to reserve in the first year, we would want to know both the required APY to keep the peg inline and how much in emissions the protocol can afford—over the long term, the protocol must offset CTX emissions with revenue. In order to estimate this equilibrium we need a better understanding of TCAP vault demand. We need to know how frequently and in what volume users will open vaults to short crypto adoption and to capture juicy DeFi yields on TCAP tokens, and how much market demand exists for TCAP tokens. TCAP 2.0 vault debt and TCAP token demand is difficult to estimate. TCAP vaults are roughly three years old and have not been used in any significant way without CTX incentives.
For the purposes of this proposal, lacking the above information required for proper estimates, we can reserve CTX tokens at the estimated upper bound for CTX token incentives required in year one. Assuming we achieve our target $5MM in TCAP vault debt in DEX pools, and that a conservative estimate for a crypto bull market duration is six months, and we assume the required return on vault debt to be 9.75%, then the protocol will need to pay at most 112,000 CTX tokens per year to properly incentivize the target level of vault debt. This amount of CTX should be budgeted by the protocol to be used in the first year of TCAP 2.0. Each subsequent year, the protocol must decide on a rolling annual budget for incentivizing TCAP vault debt. With more data and experience we can better estimate reserved amounts.
Conclusion
This proposal provides a basic understanding of the TCAP 2.0 vault product, and proposes an incentive model to bootstrap the TCAP vault and token markets at launch and ensure they remain stable and healthy in the future.