Synthetix Analysis: The Revolutionary Path Of Finance

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Synthetix is an Ethereum-based decentralized finance (DeFi) platform that allows users to create and trade synthetic assets (Synths). These synthetic assets are cryptographic versions of real-world assets such as currencies, commodities, stocks, and other financial instruments, allowing users to gain exposure to their price movements without actually owning the assets.

The uniqueness of Synthetix lies in its ability to create decentralized synthetic assets, which are pegged to the price of real-world assets through smart contracts. This mechanism provides a platform for trading various assets without the need for traditional financial intermediaries. Users can utilize the synthetic assets on the Synthetix network for speculation, hedging, or gaining exposure to different asset classes.

What is Synthetix?

Synthetix is such a project that exists as a cryptocurrency on the Ethereum blockchain. It was created as a DeFi project that would allow for the creation of synthetic assets.

These synthetic assets can track the price of any other asset, whether it be currencies, stocks, bonds, commodities, or even other cryptocurrencies. If it has a real-world value, then the Synthetix platform will allow for the creation of a synthetic asset to track that asset’s price.

The mechanism behind Synthetix is similar to the mechanisms used by stablecoins to maintain their pegged value. But Synthetix isn’t a single stablecoin; instead, it allows anyone to mint synthetic assets supported by the SNX token.

Synthetix perpetual futures are a set of permissionless decentralized smart contracts providing deep liquidity and low transaction fees for a range of synthetic assets. Recently, founder Kain Warwick introduced a new derivatives frontend called Infinex to Synthetix’s decentralized trading infrastructure.

The planned decentralized exchange (DEX) will cater to both novice and experienced traders by offering functionalities similar to centralized exchanges (CEXs) such as an uncustodial central limit order book. It will provide access via username and password while maintaining an uncustodial setup. Infinex will generate a unique public-private key pair for each user, stored in the local browser. However, this key does not allow the withdrawal of funds. It is only used to sign transactions sent to the Optimism account relayer.

Infinex is set to launch alongside the currently under development Perps V3.

Characteristics of Synthetix

Synthetix was created on the Ethereum blockchain. Unlike most other blockchain projects, it contains two different types of tokens:

From the outside, the system using Synthetix is very simple. Users first buy SNX tokens, then lock them in a compatible wallet. Once they have locked in SNX tokens, they can be used to create Synths to track the price of some other real-world asset.

This is where things get a bit complicated. The price of each Synth is determined by oracles, many of which have been provided through collaboration with Chainlink (LINK).

Currently available synths are mainly currency or cryptocurrency pairs. There are also Synths based on gold and silver, all of which can be traded and exchanged on the Synthetix Exchange.

Creating Synths to track the price of anything in the way creators want is quite easy. For example, there are Synths based on Bitcoin, with sBTC tracking the price of Bitcoin, but iBTC is an inverse token that appreciates in value as Bitcoin depreciates.

These are the two simplest uses of Synthetix and Synths, but the ability to mint and hold Synths according to different standards will encourage many new ways to trade assets, create and manage portfolios, hedge, and even make payments.

Unique Features

There are four features unique to Synthetix that are almost not found in any other system:

What Can Be Traded on Synthetix?

Currently, you can trade synths and inverse synths of major currencies such as the euro, Japanese yen, British pound, US dollar, Australian dollar, Swiss franc, etc.

You can also trade synths and inverse synths of cryptocurrencies, such as Bitcoin (BTC), Ethereum (ETH), Ripple (XRP), Tron (TRX), Chainlink (LINK), etc. There is a synth and inverse synth that allows trading gold and silver.

In theory, you can trade any asset with Synthetix. The financial system includes derivatives, commodities, stocks, and other assets totaling hundreds of trillions of dollars. Synthetix provides a platform where any asset can be transformed into a synthetic asset existing on the Ethereum blockchain.

This enables them to be traded in a permissionless and decentralized manner, which contrasts sharply with traditional markets controlled by centralized institutions.

Synthetix will allow anyone, anywhere in the world, access to and exposure to global stocks like Facebook or Deutsche Bank without the extreme frictions caused by centralized financial institutions and government regulations.

Even cryptocurrency traders can benefit by accessing a basket of cryptocurrencies through long and short synths.

How Synthetix Maintains Collateralization

A major challenge for the Synthetix system is maintaining system collateralization.

You might have guessed what could happen if the value of Synths in the platform starts to move in the opposite direction of the underlying SNX tokens. What happens if the price of SNX falls while the price of Synths rises? How does the system maintain its collateralization?

In fact, the platform’s infinite liquidity is designed to help address this issue, and other features and properties have also been built in to ensure the platform can continue to operate regardless of how the price of SNX tokens and Synths fluctuates.

You can read about these features and properties in detail below.

750% Collateralization Required

To mint new Synths, the Synthetix system requires 750% collateralization. This means that to mint $100 of synthetic USD (sUSD), users need to lock up SNX tokens worth $750.

This massive collateral requirement creates a huge buffer for Synths in circulation and prevents market slumps.

Debt-driven System

In the Synthetix system, whenever Synths are minted, SNX collateral is locked up, and those Synths appear in the platform as unpaid debt. If users wish to unlock their SNX later, they need to burn an amount of Synth equal to the current value of the Synths they previously minted.

The 750% collateral requirement ensures it’s easier for users to buy back their debt when needed.

Debt Pool

As you might guess, every person who creates a Synth incurs their own individual debt, but there is also a global debt pool that underpins all Synths in circulation.

As far as individual debts are concerned, they are simply calculated as a percentage based on the total amount of Synths minted and in circulation, and the ongoing fluctuation of exchange rates between underlying assets and SNX.

One offshoot is that issuers don’t need to use the type of Synth they originally minted to repay their debt. Issuers can use any type of Synth to repay their debt as long as it’s of equal market value to the Synths they wish to destroy.

This mechanism provides seemingly infinite liquidity for the Synthetix platform. It also allows for any conversion between Synths in the system without causing imbalances.

Synthetix Exchange

The Synthetix Exchange is where people can buy and sell all the various Synths that have been created. Transactions are based on smart contracts, so there’s no need to rely on any counterparty or third party during the trade. Anyone can buy and sell at any time, leveraging the infinite liquidity of Synthetix.

The exchange is easily accessible and usable by connecting a web3 wallet. Once done, users can swiftly and easily convert between different Synths and SNX.

All assets on the exchange currently incur a transaction fee of 0.3%. These transaction fees provide incentives for SNX holders as they are distributed among them as a reward for providing collateral to support Synths in circulation.

Inflation

Inflation was also introduced into the system by Synthetix developers to increase the total supply of SNX from its initial 100 million tokens to 250 million tokens by 2025.

This inflation was not built into the system initially but was added later when it was discovered that transaction fees alone were insufficient to incentivize the creation of Synths. The introduction of this inflation policy led to a significant increase in user participation on the Synthetix network and a substantial increase in the value of the SNX token.

Transaction Fees and Staking Rewards

Anyone can buy SNX and lock it in a wallet, mint Synths, and take on the debt behind those Synths. After completing this process, users become stakers in the Synthetix ecosystem, where they can earn and collect staking rewards. These staking rewards come from the Synthetix Exchange fees, currently set at 0.3% of each trade.

When a trade occurs on the exchange, the exchange fees are transferred to a pool. This pool is then distributed among SNX stakers proportionally, based on the amount of unpaid debt they hold. In this way, anyone can increase the staking fees they earn by simply issuing more Synths.

One caveat of the system is that stakers can only earn and collect staking rewards if they keep their collateralization ratio at or above 750%. This incentivizes Synth issuers to maintain a collateralization ratio of 750% and sustains the liquidity of the system.

How Synthetix Works

The actual process is very smooth. First, SNX tokens are stored in an ERC-20 compatible wallet, and then that wallet is connected to the Synthetix Exchange (here, beta v.2).

If users wish to stake their SNX tokens or want to mint Synths for some purpose, they first lock SNX as collateral in their wallet. Remember, there’s a 750% collateral requirement, so all Synths are minted based on this collateral requirement and the value of SNX locked in the wallet.

Once Synths are minted, they can be accessed by anyone around the world for trading, investing, payment transactions, or any other necessary operations.

The creators of Synth are also considered as stakers in the system, earning staking rewards based on the amount of SNX they have locked and the fees generated by the Synthetix Exchange. Thus, the more the exchange is used, the higher the total fees generated, and the larger the reward pool for SNX stakers.

Please note, if you just want to buy and sell Synths, you don’t need to mint Synths. Anyone can use the Synthetix Exchange. All they need is an ERC-20 compatible wallet containing some ETH for Gas and some Synths. If users do not already have Synths, they can use ETH to purchase sUSD.

To make things even simpler, there is an application called Mintr, created to make the minting of Synths and staking of SNX as straightforward as possible.

Synth Pegging Mechanism

Maintaining stable pegging in Synthetix is crucial so that the system remains stable and has good liquidity. If traders want to use the system to generate profits, this is necessary.

Since some Synths are traded on the open market, there is always the potential for Synths to fall below their face value compared to the assets they track. This means incentives are needed to keep any deviations to a minimum and motivate users to correct any deviations.

Here are three methods used to maintain the Synth peg:

Team of Synthetix

Synthetix was originally conceived and created in Sydney, Australia, by Kain Warwick in 2017, initially named Havven. As Havven, the project raised about $30 million in an ICO held in March 2018. One of the largest investors in the project was Synapse Capital, a crypto investment firm focused on crypto-native projects and developer network effects.

In late November 2018, the Havven team announced they would be rebranding the project to Synthetix, and the rebranding took place during the first week of December 2018.

The leader of the Synthetix project is Kain Warwick, who built Australia’s largest cryptocurrency payment platform before starting work on Synthetix.

Justin Moses serves as the Chief Technical Officer of Synthetix, having been involved in the project since its inception. Before joining Synthetix, he was the Director of Engineering at MongoDB. He has extensive experience with large systems, including design and deployment.

The project’s Senior Architect is Clinton Ennis, who has 18 years of experience in software engineering. He was previously a Director of Architecture at JPMorgan Chase.

Overview of Synthetix (SNX) Token

The SNX token powers the entire Synthetix ecosystem, as it is used as collateral to mint Synths or synthetic assets. Those holding SNX tokens can stake them and earn a portion of the fees generated by the Synthetix Exchange.

SNX was in a state of deflation until March 2019, when the Synthetix team added an inflationary component to the monetary policy to help incentivize the creation of Synths. This inflationary policy led to a significant increase in user engagement on the Synthetix network and a substantial increase in the value of the SNX token.

The inflationary policy included increasing the number of SNX tokens from 100 million in March 2019 to 260,263,816 by August 2023. The issuance of new tokens decreases at a rate of -1.25% per week. After reaching the target in August 2023, the protocol will permanently adjust the issuance rate to a fixed inflation rate of 2.5%.

Although the SNX token itself was not designed as an investment tool, the token has seen significant growth since the introduction of the inflationary mechanism in March 2019. At that time, the token was trading at just under $0.05, but by January 2020, its price had risen to $1.20, reaching a peak of $1.57 on November 24, 2019.

Concerns About Synthetix

While Synthetix sounds futuristic and offers many unique advantages that could serve many people around the world, the system still carries significant risks, and in fact, it is still in development, with no guarantees of future growth and success.

For users, there is a very real risk that they may need to burn more Synths than they issued in order to unlock their SNX in the future. There is also the risk of competition intensifying and surpassing Synthetix.

Other risks include Synthetix’s dependency on Ethereum and the project’s current centralization.

The platform also needs to provide reliable price feeds for all synthetic assets minted and listed on the Synthetix Exchange. If there’s no way to reliably track asset prices without manipulation, the whole system could be subject to fraud.

The need for reliable price feeds limits Synthetix to major currencies, high liquidity cryptocurrencies, and commodities like gold and silver.

Potential regulatory changes in the future could also impact Synthetix. Some jurisdictions could easily classify Synths as securities or financial derivatives, subjecting them to all the current regulations and laws managing those types of assets.

Bottom Line

Given the trillions of dollars in size of traditional financial markets, Synthetix has the potential to create a massive tokenized market on the Ethereum blockchain. It’s a grand and comprehensive attempt to revolutionize and modernize financial markets, and the vision of the Synthetix team is commendable.

However, it should also be noted that there is no guarantee their vision will be successful. Many factors could limit the spread of the Synthetix Exchange and the use of Synths.

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