COMP as DAI collateral: a pre-MIP discussion

With the recent launch of the COMP token, I thought I might start a thread to gauge community interest in using it as collateral.

It is still early but COMP is already gaining a good bit of media buzz. It currently has a marketcap of close to $495MM, and is held by some large institutional investors. Coinbase has already announced support for the token and overall it seems like it may be an interesting token going forward.

Given the large usage of compound.finance I would generally be fairly bullish on it personally, and it seems like it would probably be worth discussing a potential collateral addition.

What do people think? Is it too early to try and integrate? Is it worth trying to secure a “first mover” advantage? Is it just another fad token?

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I think it’s an interesting token in that they’re using $COMP to incentivize usage of their platform and do believe it potentially secures itself a spot as collateral in the future. However, given the newness of the asset, I see increased volatility (primarily when it lists on Coinbase). If we were to add it right away, I think this increased volatility would warrant a higher stability fee (it’s also important to note liquidity is low at the moment).

I came across one person’s DCF of $COMP. And while a DCF is highly subjective, I believe it can give a general base as to where the asset’s fair value is. Given John Todaro’s DCF below, I think it may suggest this $COMP extreme jump in price is a lot of hype. As such, I think it may be better to evaluate $COMP when the hype dies down and we’re able to see the long-term impact, and importance of Compound’s token.

At the moment, 95% of all COMP is being claimed by USDT suppliers. This is due to the insanely high yield on USDT. It’s important to note that just as CEXs drive DEX prices (for the time being), OTC desks drive the yields in open finance lending protocols like Compound. The current yields on Tether will eventually come down as more people search for yield in this low interest rate environment and global macro factors ~hopefully~ abate. Once that happens, I may have a little more faith in $COMP. But anything that Tether dominates gives me second thoughts. If we add $COMP, this opens the door to the risk that if Tether flash crashes, $COMP will be negatively affected considering there are 0 Compound reserves at the moment. This could potentially cause massive liquidations in our own backyard. Especially given the number of unique holders is only 2629 individuals

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Just a technical clarification because it’s obviously very easy to get confused given the massive amount of moving parts in governance and the MIPs framework, and I think it’s a good place to clarify this: under the current definitions, a MIP6 collateral onboarding application is not itself a MIP, or a sub proposal, as it is non-binding and uses a process that is independent from the standard MIP life cycle and the MIP12 collateral onboarding process.

One consequence is that submitting a MIP6 should be a very permissive and open process, and I don’t think it should be expected to ask the community for input before making a MIP6 application, even a relatively low effort one - of course it’s great to have a discussion before posting a MIP6 application, but it should also be totally optional and acceptable to just go straight to posting the MIP6 application if you feel like something would be a good collateral type. This is in contrast to actual MIPs, since they can have a binding effect on the system, and it is definitely good manners to give the community a heads up before putting one up for the RFC phase and starting the countdown for a vote.

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Compound has been around for awhile and a solid part of the DeFi ecosystem.

On the other hand the main COMP holders are currently investors and team members. The smaller free float is going to lead to high volatility. And the fact that it hasn’t been trading very long.

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Before large amounts of circulation, COMP is not suitable for use as collateral.

I recommend MKR as collateral, which helps to increase the influence of MAKER market and has market demand.

Why MKR is not suitable for collateral

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We don’t do it. Other lending platforms are already doing it. This is the market.

If we want to follow in the footsteps of other platforms and attempt negative effective interest rates, why not take a % of the surplus and directly give that to CDP creators? I don’t understand why we’d engage in FLOP auctions and further dilute the MKR supply just to incentivize new CDPs?

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Seconded. We should not engage in risky practices and practices that undermine the effectiveness of the protocol just because other platforms are using them to gain market dominance.

I am talking about MKR as collateral for DAI.

We are safer than COMP.

Ultimately if another platform does not properly account for risk and return requirements, they will not be able to sustain their competitive rates. We have already seen borrowers and lenders in the defi space have little allegiance, so gaining back dominance vs unsustainable policies should not be an issue.

We should make sure though that we are competitive in a way that does not exaggerate the real risks. Imo though risk is not factored in very well on our platform or others. Far from being too conservative, it really seems like everyone is being a little irrational. Although I think we’ve managed to hold a more conservative and cautious approach to cryptocurrency risk than competitors.

From what I have heard and can tell, the entire mechanics of the COMP token right now seem questionable, certainly with negative effective rates. But I have not done any serious research into the system. Just feels like there’s a lot of irrational exuberance which always scares me.

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yes but as @RepoTactics pointed out, using mkr as collateral is eating our own insurance.
If locked mkr was responsible for a significant portion of the dai supply, black Thursday would have been much worse. At some threshold a black swan event like that with mkr as collateral would wipe out all of the value of makerdao.

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DC is a key indicator to solve risks. Risk control is within our acceptable range. There are two aspects to things, benefits and risks. What we want is that benefits outweigh risks.

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:thinking: I think we are getting a bit sidetracked here focusing too much on MKR as collateral. Not to say that isn’t a discussion to be had, but it probably warrants a separate thread.

Having that out of the way, I really appreciated @RepoTactics providing a bit of context regarding the discounted cash flows. Based on that information I would be of the opinion that COMP at least at the moment seems a bit overpriced.

That said i am not exactly sure how much that really matters, as the protocol doesn’t really “purchase” the collateral when a user opens a vault as much as it enters a repurchase agreement with that user.

Diving a bit into my own personal opinions, The protocol provides facilities for users to take levered long positions on collateral that they feel bullish on. It is our responsibility to 1 price the risk that we are taking by providing those facilities (plus some premium so we make a bit of revenue) and 2 determine what is an appropriate level of exposure for the protocol given the rest of our loan portfolio as well as our ability to liquidate the collateral to OTC or exchange markets.

All of this is to say that I think even with potentially overvalued collateral there may still be an opportunity given the right stability fee and DC.

To that end I guess I’ll ask a few of questions.

1 How much do you disagree with my assessment above?

2 Do we have some mechanism with which we may be able to estimate the volatility of recent ICOs until a reasonable amount of data exists about the token itself. I would imagine that you might be able to get a decent idea by looking at some index similar to the renaissance IPO index. Does anyone know of a similar index for the crypto space?

3 What markets exist (or are planned to exist) where this collateral might be liquidated, and what are the depth of those markets? To my knowledge there are 2 places where COMP holders will be able to sell these tokens in the short term without entering into an OTC trade Uniswap and Coinbase. On uniswap the current liquidity pool is around ~$4MM that’s (10x what we see for the BAT:ETH swap). I imagine that we may be able to estimate what the coinbase market might eventually look like by averaging tokens of a similar size in terms of market cap, but that is going to take a bit more research on my part.

TLDR: I can agree that COMP may be a bit overvalued at the moment, but it may still have a part to play in the collateral portfolio with the right stability fee and DC. Personally id be quite comfortable with it as an addition with a DC of around 1.5 ~ 2.5MM even before I went through the effort of determining an appropriate stability fee just to determine the appetite for leverage there.

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Yes, as long as the DC is as low as we can accept and a relatively reasonable risk premium, I think it can be considered.

^^^^^ this! Liquidity…liquidity…liquidity