Stabilizing iUSD & iAssets — an Arbitrageur’s Opportunity to Promote Decentralization

iUSD is intended to maintain a peg like well-known centralized stablecoins such as USDC, USDT, and TUSD. However, in light of recent events, it’s now more important than ever to put trust in decentralized solutions.

It’s no secret that the Cardano ecosystem needs a viable stablecoin solution before it can reach its full potential. The Indigo DAO aims to help meet this need with the creation and release of iUSD — one of the first Cardano native stablecoins. Given that the Cardano community seems eager for a long-awaited stablecoin, we can anticipate that there could be high demand.

High demand for iUSD can create an imbalance that outstrips supply, generating a liquidity crunch. A liquidity crunch could potentially cause iUSD to experience upwards price pressure and begin trading at a premium (e.g., at a price over $1.00) compared to centralized counterparts like USDC. This can be considered as a temporary premium to pay for the benefit of decentralization, but there are also mitigation strategies to minimize the price rise above the peg.

The deployment of Indigo Protocol brings opportunities for Cardano users interested in arbitrage to resolve any liquidity crunch that may occur. There are various strategies to consider when looking to become involved with Indigo and specifically iUSD. Today we’ll highlight some strategies to better equip the Cardano community for what’s to come.

How iUSD maintains its peg

Indigo Protocol introduces to the world iAssets — synthetic assets that track the prices of real-world and digital assets. One such example is iUSD, a unique iAsset that tracks the price of the digital assets USDC, USDT, and TUSD via its triple-peg mechanism. iUSD’s fault-tolerant design tracks the median price of those three centralized stablecoins, ensuring resilience even under volatile conditions that could lead to depegging of any one of the three tracked stablecoins.

To maintain price pegs, Indigo relies on protocol rules to incentivize arbitrageurs to stabilize prices. These rules ensure that iUSD and other iAssets are always fully collateralized with ADA, giving further confidence to users that iUSD and iAsset prices will match their counterparts.

Periodically, Indigo receives price data from the outside world via Oracle services such as Chainlink. After a price is updated, collateral ratios are adjusted across the protocol, allowing for liquidations to occur to enforce overcollateralization levels required. Indigo makes use of Cardano’s eUTXO architecture to efficiently freeze undercollateralized positions, and then liquidate those positions via a readily available pool of liquidity known as a Stability Pool.

Stability Pools exist for each iAsset and are funded by other users of Indigo who deposit the iAssets (like iUSD) to earn rewards from liquidations in the form of ADA as well as token emissions rewards. Token emission rewards are given in INDY — Indigo DAO’s utility token that provides users the ability to participate in directing the future of Indigo, plus earn rewards from Indigo’s profit-sharing mechanism. When Stability Pool liquidity is low, emission rewards are dynamically increased; whereas when liquidity is high, emission rewards are dynamically decreased. This dynamic adjustment efficiently incentivizes rewards to balance liquidity across the protocol as necessary to maintain protocol solvency.

The other benefit for participating in Stability Pools is that depositing users will earn the premium generated from liquidations. iUSD has a minimum collateralization ratio of 110%, meaning that minting requires a 10% minimum premium above cost. If market forces push collateral to become below this threshold, automatic liquidation occurs, and the premium is passed onto Stability Pool stakers as a reward.

If iUSD begins trading below its peg, it creates an opportunity for users to buy at a discount to then stake at full face value in the Stability Pool. Upon liquidations, iUSD earns up to 110% the intended value of iUSD in the form of ADA. This opportunity can encourage users to buy iAsset to then stake in Stability Pools to earn increased rewards.

Furthermore, users with open collateralized positions can purchase iUSD and repay their owed debt, extracting value from the price difference. Upon repayment of debt, iUSD supply is reduced, causing price pressure upwards to maintain its peg.

When iUSD is undersupplied, it creates opportunities for arbitrageurs to generate a return by minting and selling at the market price. The higher iUSD trades, the more users can create returns on their staked ADA. This is enhanced by Indigo’s CDP Liquid Staking — an ability to continue earning Cardano network rewards on deposited ADA. This feature is unique to Indigo due to taking full advantage of the Cardano eUTXO model. The Cardano ecosystem has an abundance of ADA stakers who provide value in decentralizing the network. These users can continue to provide this value, while also continuing to earn rewards, and bring liquidity into Indigo to mint iUSD to meet demand. Already these users are long ADA by nature of being Cardano delegators, so can further enhance their ADA positions to gain more rewards.

Future proofing

Indigo’s design allows for capital efficiency by minimizing the premium required to mint new iAssets. A key distinguishing feature of Indigo is the ability for the minimum collateral ratio to be adjusted individually for each iAsset. This provides another lever that can be utilized to balance supply and demand. Supply can be reduced, and demand increased by increasing borrowing cost. Inversely, demand can be reduced, and supply increased by decreasing borrowing cost.

The Indigo DAO will consider adopting other safety mechanisms in the future to further stabilize pegs, such as automated dynamic adjustment of borrowing costs, interest rate curves, insurance pools, redemptions, and collateral redistributions. For Indigo v1 however, the ability to fine tune protocol parameters based on market conditions, such as the borrowing cost, provides safety to stabilize price pegs and build user confidence.

Summary

Thriving ecosystems should have a variety of stablecoin solutions to meet user preferences. iUSD happens to be one of the first (soon to be many) Cardano native stablecoins. Being the first to market comes with additional pressure, but in the case of iUSD also brings new opportunities for arbitrageurs.

Indigo has built the DeFi tools that Cardano has been waiting for, and we look forward to seeing the community begin to utilize these tools to their full advantage. As the Cardano ecosystem matures, and new tools are introduced such as additional stablecoins, stable swap exchanges, and yield aggregation platforms, we hope to see iUSD and Indigo’s future iAssets become a core part of that ecosystem.

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Indigo

Indigo

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Indigo is a decentralized synthetic asset issuance protocol built on Cardano