I’d like to start a thread summarizing the design choices of D1 funds today (pros & cons) and talking over a few potential changes that may improve it. A better mechanism design around mint / redemption should help NFTX expand the SKU count within any individual D1 funds meaningfully (and thereby significantly driving NFTX token prices).
Design today: let’s use PUNK as an example.
- Alice owns PUNK#1 NFT and deposits such NFT into the PUNK pool, and mints PUNK ERC-20 as a result. To redeem, Alice takes this PUNK ERC-20, interacts with the PUNK pool, and gets a random PUNK#N in return.
- As per the Delphi report pointed out, due to the randomized redemption mechanism, the natural size of this PUNK pool would converge towards the size of lower-quality quartile, commoditized PUNKs, with the normalized price being the ~median price of such commoditized cohort. This is assuming arbitrageurs taking the timing risk, cost-of-capital risk, and gas cost to extract excess economic rent by trading across auction-platforms and NFTX.
- The obvious pro is that the design today is simple and straight-forward (and likely gas-efficient). The con is that such pools would really only enjoy adoption when the underlying category has a large, commoditized cohort (i.e. if the category is small in size and/or has marked differentiation amongst SKUs, the pool won’t be preferred).
- The lack of liquidity of D2 (and general lack of adoption) is exactly due to the issue pointed out above. If the cohort is small and special, there’s no point of pooling – for the corresponding liquidity in ERC20 form won’t justify all the effort.
- It would be ideal to meaningfully increase willingness of NFT owners to deposit their NFTs into the category pool. Leaving NFTs out there could open room for competing platforms to reach critical scale + easier for new upstarts to launch vampire attacks similar to what Sushi did to Uni.
- It may be most elegant to implement better mechanism design within D1 funds to entice all NFT owners to deposit (instead of just the bottom cohort owners). Importantly, I believe this could be one of the single most important design choice to get right for NFTX to succeed longer-term (aside from Initial artist offering, galley, analytics, etc)
Current (hypothesized) upgrade:
- By observation, it appears the team would add a feature that allows redeemers to pay a specified premium of X to hand-pick the NFT they want to redeem with the ERC-20, whereby the added premium goes to the original NFT owner, the pool, and NFTX treasury by various ratios.
- This is certainly a better design – the added premium of X is effectively flexed as the expected odds of an arbitrageur picking the high-value NFT by chance + gas-fee needed in doing so. The protocol setting the X premium seems slightly inflexible, but this feature could certainly broaden the cohort band and allow more NFT owners to take their chances depositing.
Here is an interesting alternative I’m brainstorming, let’s also use PUNK as the example:
- This is to kickstart the dialogue and is not perfect.
- Upon minting the PUNK ERC-20, Alice has 2 more options vs. minting straight up:
1. Ability to disallow randomized selection, but have to pay a fee for it (maybe based on ERC-20 oracle price).
2. Ability to attach a self-defined premium with this specific NFT, in case a redeemer wants to buy it outright.
- This way, any NFT within the pool would have an additional user-defined premium that’s [0 ETH - X ETH) and may / may not be subject to randomized redemption.
While coarse and requires additional iterations, I believe these set of new features could be enticing in several ways:
- The core D1 “lower quartile, commoditized” cohort pricing of ERC20 is not affective. The cheap NFT depositors would likely not pay a premium to opt-out from randomized selection, and while they may still specify a premium, any arbitrageurs can easily by iteration pick out these NFTs.
- This mechanism could attract high-value NFT holders to participate for a host of reasons:
– Embedded auction feature at a small fee: Pay a small fee to prevent the arbs, but basically set an ask for the NFT the depositor is willing to part way with.
– Effective “borrowing” with the liability being denominated in ERC20 terms: interestingly, the mint process can basically be viewed as borrowing. For a high-value NFT depositor, they can basically deposit the valuable PUNK NFT, receive the PUNK ERC-20, dump in market for ETH / USD then redeploy elsewhere. While the NFT is basically in auction and can’t be randomly picked, assuming PUNK really takes off, one would imagine the high-value PUNK should meaningfully out perform the PUNK ERC20 (given this is lower-quartile, commoditized – which works in the advantage of this scenario) – and the depositor should be happy to buy back the ERC20 at a higher price to redeem.
– Fee generation via further design: the fees generated here are multi-fold – The opt-out fee for “randomized selection”, and the platform fee when a redeemer picks out the NFT he/she wants (i.e. auction). Such fees can be cleverly redirected (upon further study) to entice high-value NFT holders to deposit their items.
As discussed, this is really just a rough draft on my personal view on mechanism improvements. I’d be happy to jam further on the ideas above and any other further suggestions. I’m of the view that a better mechanism will elevate NFTX’s appeal significantly to all NFT holders.