Rapidly Scaling Climate Finance with Responsible Leverage—Investing in Nibiru

Rapidly Scaling Climate Finance with Responsible Leverage—Investing in Nibiru

Aug 14, 2023 2:06 PM
Posted by

Jahed Momand & Matthew Stotts

Natural asset markets, e.g. carbon markets, suffer from low transparency, adoption, and most importantly, liquidity. In order to mitigate catastrophic warming in this century, we must capture 10Gt of carbon by all methodologies combined by 2050. The markets that currently exist cannot deliver the financing necessary to scale natural carbon solutions, direct air capture, biochar, and more due to bureaucratic entanglement that downstream, leads to low liquidity.

Advanced, cross-chain, decentralized markets on Cosmos can rapidly scale the financing that must be delivered to carbon projects by providing a platform for forward financing, derivatives, options and perpetuals. Decentralized, open-source networks for regenerative finance like Regen Network are leading the effort to rapidly scale new methodologies for planet-healing land stewardship and driving credit and compensation to local organizations and indigenous communities. Nibiru's work to improve the effectiveness and scale of financial markets on Cosmos will ultimately help to fuel projects like Regen by bringing more powerful DeFi tools to the ReFi revolution.

What is Nibiru?

Nibiru is building a new layer 1 Cosmos blockchain that will unlock multi-chain leverage by building a decentralized platform for leveraged derivatives trading, spot trading, staking, and bonded liquidity provision with a seamless user experience. The team will build, in order:

  1. Nibiru Active Market-Maker (AMM): an AMM for multi-chain assets, giving users access to swaps, liquidity pools, and bonded liquidity gauges for higher returns.
  2. Nibiru Perps: A perpetual futures exchange where users can take leveraged exposure and trade on nearly all assets in crypto, on-chain, non-custodially, with minimal gas fees
  3. Nibiru Stablecoin: a two-token economic model where NIBI token is the staking and utility token for the protocol, and NUSD is the capital efficient, partially collateralized stablecoin for the protocol.
  4. Nibiru Options: Addressing the gap in market need, with the first two primitives in place, options will allow traders further instruments for arbitrage, hedging, and speculative trading, creating new markets for interchain as well as ReFi assets.

This will enable lead to exponential growth in trading and hedging opportunities across Cosmos Hub blockchains on day 1, as the team’s product is already compliant with the Interblockchain Communication (IBC) interoperability protocol, and will by early 2023 build out to Avalanche and Polkadot as well.

There is a massive gap in the decentralized derivatives market, as the centralized platforms have 53:1 and 100:1 volume advantages in the perpetuals and options markets, respectively, and the current decentralized players lag far behind in execution and volume. Binance and FTX alone reach $11.7 trillion in perps volume, while dYdX had a mere $219 billion. Nibiru addresses this gap, in a way that the centralized players will not be able to attack.

Why did we invest?

The market for derivatives in crypto has traditionally been on the bleeding edge of innovation. Perpetual futures contracts, for instance, were proposed by Robert Shiller back in 1992, but did not gain mass adoption until they were introduced to cryptocurrency by BitMEX in 2016. Perps today have hit nearly $12 trillion in volume across centralized finance providers (Binance and FTX). On the DeFi side of things, dYdX perps hit $220 billion by comparison, 53 times less than the CeFi providers.

Options are a tried and tested technology in crypto markets, both in centralized finance (Deribit) and in decentralized finance (Opyn). However, both centralized and decentralized markets for options currently focus on EVM-based chains only, leaving multibillion dollar chains and demand out of the market. In terms of volume, centralized provider Deribit achieved $260 billion in 2021, whereas the decentralized Opyn achieved a mere $2.6 billion (100x less) in comparison. When compared with the volumes of lending, trading, and spot on decentralized exchanges (DEX) in general, this indicates a huge demand gap that can be met by a multi-chain perps and options provider.

With Nibiru’s unique approach, they will not be replicating centralized perp design in a decentralized domain—rather, they will enable traders to build composable yield and payoff scenarios across any asset in the blockchain economy, replicating different market scenarios with futures, options, straddles, and options portfolios. Before IBC and the Cosmos SDK, this was technically difficult if not impossible. Now with the right team, experience, UX, and user adoption in place, the timing is right.

Nibiru will be building a constant product curve similar to the Uniswap v3 design that adjusts based on market conditions. Uniswap pioneered this method and it has proven immensely successful, with Uniswap v2 and v3 taken together matching centralized venture-backed exchanges such as Binance and Coinbase in volumes, with superior user experience.

Nibiru brings this experience to Cosmos, and enables traders to use it with perps and options, currently a UX that does not exist.

Because of the nature of the Uniswap implementation, there is no need for makers or liquidity providers for each token pair, which enables low slippage on trades from day 1 without large liquidity reserves.

The team will store half of revenue generated from trading fees in a fund called the PerpEF. The ecosystem fund steps in to cover the negative value of a bankrupt position that was not liquidated in time and to pay funding payments to correct the skew between long and short positions. This is a major undertaking but is not currently possible under Ethereum-based Perps and Options because they are composable only on Ethereum where liquidation engines lack the functionality to liquidate cross-chain, and hence suffer from volatility skew that they can’t address. Nibiru will not have this problem from day 1.

Nibiru will implement a fractional-algorithmic stablecoin, NUSD, analogous to the one introduced by Frax Finance. NUSD has an elastic supply adjusted by market demand, and NIBI itself bolsters the stability of NUSD. The creation and annihilation mechanism of NUSD is dependent on the prices obtained from the chain’s price feed. Arbitrage opportunities result when NUSD falls from its peg given the ability for traders to profit from secondary markets. NUSD eliminates the infinite minting backstop that destroyed the Terra stablecoin and will be 100% collateralized by USDC on day 1, a critical missing feature and learning of UST.

However, NUSD will be like USDC in that it is 100% collateralized, and the NUSD and Nibi-perps insurance funds will be separated to prevent contagion. There is also no infinite minting as a backstop to save the protocol as in Terra. If the CR is 70% for instance, it means that at least 70% of NUSD is backed by USDC. In the scenario in which the price of NUSD relative to USDC decreases, the CR of 70% is no longer met, and the CR would have to increase automatically ensuring the stablecoin NUSD does not mint in excess of its backing. Instead of minting infinitely as in Terra / Luna, the CR would simply adjust.

Perpetual futures contracts allow users to hold on to their leveraged positions for longer durations without expiring. This gives them flexibility to exit trades at the right time. As covered already, many crypto traders use perpetual contracts to earn passive income through funding fees. The derivative value of the perp position is represented by its marl price, and the value of the underlying asset is represented by its index price. Positions are long or short based on the price movements of the corresponding asset. A position remains open until a trader closes it or the position goes underwater.

Axelar has spearheaded the movement of USDC as collateral into the Osmosis ecosystem in H2 2022. This has been very important for the Cosmos ecosystem as it has lacked a stablecoin since the implosion of Terra. With Nibiru perps, traders can speculate on the future price of an asset without having to own the underlying asset, using leverage to get exposure to the underlying asset with only part of the total value in collateral or margin, securitized by USDC at first. Later on, the protocol will use NUSD as collateral.

These USDC / NUSD collateralized positions will be priced using virtual liquidity pools with no real assets stored inside. Assets will be priced as per the uniswap constant product model, but the tokens will be sent to a clearing house which stores the collateral in a vault and the virtual pools will be used for price discovery of the derivatives. This removes the need for LPs and market-makers.

This is an important point to note—we believe that this infrastructure in place within the Cosmos interchain economy will lead to better price discovery of natural assets. Many of the natural asset markets outside of crypto will not be able to take advantage of this liquidity and price discovery mechanism because perpetual futures have not taken hold in financial markets the way they have in cryptocurrency markets. This will enable us to e.g. help market-making for portfolio companies like Earthbanc, who will currently go to the Swiss Commodities Exchange to seek liquidity for carbon futures. With Nibiru, they will be able to create massive liquidity and charge fees on their future carbon credits from traders speculating on the price of carbon assets.

The Nibiru Perp product seeks to address several problems in the centralized perp ecosystem. By working with virtual asset pools, the liquidation engine of Nibiru Perps will be able to minimize latency by liquidating positions based on index price instead of mark price during high periods of volatility. In Ethereum based markets, this is not possible and leads to volatility skew and protocol risk. When a trader’s perp declines, to prevent the position from falling below the value of the margin that backs it, the protocol will proactively liquidate the position—liquidation bots will be triggered to liquidate the perp, and collect a small percentage of the remaining position.

With Nibi-Swap and Nibi-Perps in place, smart contracts will enable Nibiru and outside dev teams to create apps on top of the chain, which will enable tokenized derivatives (e.g. carbon futures) and more.

This will principally come in the form of tokenized options, floor perps, and power perpetuals. Bringing put and call options cross-chain will enable large amounts of liquidity to become available, where transaction fees can partly be diverted to project developers and ReFi chains themselves.

Floor perps will create derivative marketplaces around NFTs, which are already surging in popularity in the broader ReFi movement, especially with respect to tokenized forests, ReFi gaming, and more.

The team is as top-notch as it gets in technology, with the founding team sporting multiple 9-figure exits, and hailing from Google, Facebook, Tendermint, Credit Suisse, and top protocols such as Thorchain and Sommelier.

Arjun Sethi, Tribe Capital co-founder with $1.6bn AUM, leading early investments in Avalanche and Frax, leads Product. Sankha Banerjee, an MIT PhD in machine learning in non-dynamical systems, spent the last 10 years in commodities market-making algorithms, then shifted into crypto doing the same thing at BitMEX, growing weekly volume to $1bn. He then spent the past couple years growing Thorchain, Kava, and Akash network as a seed investor, building out AMM modules on Thorchain. Jonathan Gimeno, Director of Engineering at Tendermint and longtime Cosmos contributor, joins as CTO and leads the technology team.

If there is one team that is poised across all fronts, product, engineering, finance, and operations, to deliver on the multi-billion dollar opportunity in cross-chain derivatives and perps, it is this team.

Nothing contained herein constitutes investment, legal, tax or other advice nor is to be relied upon in making an investment or other decision. This article contains the opinions of the author, and such opinions are subject to change without notice. Furthermore, it may also include data and opinions derived from third party sources. Cerulean Ventures does not accept liability for the accuracy or completeness of any such information or opinions which can be subject to change without notice.