Introduction

In traditional finance, structured products are financial instruments that are typically a complex combination of derivative and fixed-income products, bundled into a strategy product provided directly to users. However, in the second half of 2021, DeFi Option Vaults (DOVs) rapidly gained prominence, catching the attention of many users. The key feature of these vaults is their capacity to lower the barrier to options trading, while simultaneously providing a degree of liquidity for users. Users deposit collateral, and the vault manages and executes composite option strategies to ensure returns.

Currently, the structured products in the DeFi market are built upon the foundational options market, the emergence of which has propelled the development of most on-chain options protocols. This allows the full potential of composability between DeFi protocols to be realized. The logic behind structured products is to provide users with deposit Vaults, each executing a return strategy based on options. These Vaults take over the complex tasks of pricing and risk management from the users. Selling covered call options is currently the most common strategy executed by structured products in the market. Users only need to deposit their funds into the Vaults, which sell call options with strike prices higher than the current token prices. The earned premiums return to the Vaults, ensuring user returns.

Ribbon Finance was the first protocol to establish options structured products and has been deployed on Ethereum, Avalanche, Solana, and BSC chains as of May 2023. Most of its liquidity is concentrated on Ethereum. The two core founders, Julian Koh and Ken Chan, both have extensive software development experience from their time at Coinbase. The team is continually launching new products and expanding its ecological blueprint. This article will provide a detailed introduction to Ribbon Finance’s current key products, Theta Vault and Ribbon Earn, elaborating on its token model and development status, thereby assisting readers in gaining a more comprehensive understanding.

An Overview of Ribbon Finance

Ribbon Finance is the pioneering protocol for creating structured options products. Launched on the Ethereum mainnet in early 2021, its initial product was based on a broad straddle options strategy. However, this was discontinued due to prohibitively high gas fees. The team positioned its product portfolio around four main areas: volatility, enhanced returns, capital protection, and compound interest. Consequently, in August 2021, they introduced their cornerstone product, Theta Vault. Built on the Opyn protocol, it utilizes smart contracts to execute covered call or put options strategies.

In August 2022, the team unveiled its second product category, Ribbon Earn, which combines lending and options strategies to boost returns. Following this, in September 2022, they launched Ribbon Lend, a lending market where users can provide uncollateralized loans to institutional market makers. This platform adopted Aave’s lending model, requiring no user lock-up and handling credit underwriting off-chain. To ensure only borrowers with high credit ratings could create liquidity pools, the team collaborated with Credora Platform for borrower credit evaluation. However, this product has currently been suspended due to market volatility. In parallel, the team also launched Aevo, an order book options trading platform, which is currently available only to whitelisted users. As it stands, Ribbon Finance’s key offerings for DeFi users are Theta Vault and Ribbon Earn, which will be the focus of the following discussion.

Theta Vault (DOVs)

Theta Vault is an option-structured product, meticulously crafted by a team specializing in strategies that enhance asset yields. It relies on the Opyn protocol as its foundation and can be bifurcated into Covered Call Theta Vault and Put-Selling Vault, contingent upon the type of call and put options sold.

Image Source: https://app.ribbon.finance/

Users need only deposit their assets into the corresponding Theta Vaults, such as T-ETH-C. The vault judiciously selects several strike prices via algorithms, typically opting for out-of-the-money options. The vault commences by depositing users’ ETH into Opyn every Friday, minting European call options termed oTokens, with a lifespan of one week. These newly minted oTokens are subsequently auctioned through the Gnosis Auction platform, and the premiums obtained from the auction are directly deposited into the vaults. If, at expiration, ETH has not ascended to the strike price, the oTokens will become worthless, and the vault reclaims the collateralized ETH. Should ETH exceed the strike price, the oToken holders can exercise the option, and after deducting the difference, the vault is reimbursed with ETH.

Options pricing is predicated on the Black-Scholes model, with the implied volatility (IV) as the cardinal parameter. The protocol avails itself of Chainlink oracles to acquire spot prices and employs the 10 Delta IV from Deribit as the implied volatility for the underlying assets, which is then calibrated through a bespoke algorithm to ascertain the final volatility magnitude. It is worth noting that this process is executed off-chain.

The oTokens, tokenized options minted by the vault, are auctioned on the Gnosis platform. The team has also indicated collaboration with Paradigm. Auctions take place every Friday from 10:20 to 11:40 UTC. Smart contracts sort bids from the highest to the lowest, working in reverse to calculate the number of options sold, commencing at the highest price. Once the intended number of options is sold, the final price is established based on the last trading volume.

The vault levies a 10% performance fee and a 2% management fee.

In essence, Vault products have democratized access to options trading for users. However, there exists an issue of buyer liquidity shortage. When executing corresponding option combination strategies, it is imperative to ensure that options can be consistently sold to accrue premium revenue. A lack of counterparties would render the vault incapable of executing its strategy, consequently diminishing premium income and user returns. Presently, Ribbon primarily collaborates with large, specialized market makers who underwrite the buyer’s side of options, and the disclosed information indicates that auction data is promising.

Ribbon Earn

Ribbon Earn is an array of yield vaults introduced by the protocol, currently offering two variants: USDC and ETH.

For the R-EARN vault, the smart contract automatically employs the assets users deposit to purchase US Dollar Bonds (IB01), reaping returns. These ETFs are government bonds issued by the US Treasury, with a maturity range of 0 to 1 year. Concurrently, the vault strategically builds an investment portfolio by procuring par barrier options with weekly or monthly expirations. The USDC vault imposes a 15% performance fee.

On the other hand, the R-STETH-EARN vault utilizes 0.5% of the ETH deposited by users, pledging it with Lido to garner earnings. Meanwhile, the remaining funds are invested in par barrier options that mature weekly or monthly. This vault too levies a 15% performance fee.

Image Source: https://app.ribbon.finance/

Token Model

$RBN is the governance token of Ribbon Finance protocol, with a total supply of 1 billion tokens. Of this total, 49% is allocated to the community treasury for governance purposes, 23% is reserved for the present and future teams, 15% is distributed to current investors, 8% is attributed to Ribbon as a company, 1% is allocated to the initial market makers, 1% was designated for the initial liquidity mining event in June 2021, and 3% is set aside for airdrops.

In May 2021, the protocol conducted an airdrop, dispersing 30 million $RBN tokens to various DeFi protocols, users of the inaugural product Option Strangles, Theta Vault users, and members of the Discord community. This airdrop accounted for 3% of the total token supply.

Image Source: https://docs.ribbon.finance/ribbonomics/overview-and-rbn-tokenomics

In February 2022, taking a page from Curve’s tokenomics, the team introduced the veRBN model by proposal RGP-9. Users can obtain veRBN by locking up their RBN tokens for a maximum duration of two years. VeRBN holders gain the privilege to participate in the DAO’s governance voting, such as determining the RBN token rewards in different Vaults. What is even more compelling is that Ribbon, emulating the traditional private equity fund structure, levies a 10% performance fee and a 2% management fee. Half of these revenues are remitted to the Ribbon Treasury, while the remaining 50% is converted into ETH and proportionally distributed amongst the veRBN holders.

Current Developments

Ribbon Finance reigns as the preeminent options-structured vault protocol in terms of Total Value Locked (TVL), once soaring to a staggering $300 million in locked funds. However, the protocol has not been immune to the larger downturn in the cryptocurrency market, and its current coffers hover around $40 million.

Image Source: https://defillama.com/protocol/ribbon-finance

As Ribbon Finance’s trajectory ascends, the vaults have orchestrated over $13 billion in options transactions, reaping approximately $54 million in premium revenues. With a sustained influx of business revenue, the vaults levy pertinent management and performance fees. The protocol’s cumulative revenue has eclipsed $10 million, and over the last month, the vaults have garnered a net income in the ballpark of $70,000. Presently, the protocol boasts daily revenue nearing $20,000 with 13 daily active users.

Image Source: https://tokenterminal.com/terminal/projects/ribbon-finance

Conclusion

The paramount allure of structured products lies in their capacity to abate the barriers to entry while bestowing a harbor of relatively stable returns. Participants need only to infuse capital, as the Vaults deftly orchestrate sophisticated options strategies. At its core, this represents a modus operandi akin to a managed fund, where Vaults are the culmination of option sellers banding together. The underwriting of options purchases is shouldered by adept market makers who employ an OTC-like trading modus operandi. Consequently, the trading volume is tethered to the liquidity of the counterparties, and the Vaults’ execution of options strategies lacks the dexterity of flexibility. Currently, the selling of covered call options is the most prevalent strategy deployed by Vaults.

At present, structured products are the linchpin in the DeFi options market, which brims with untapped potential. Ribbon Finance, a trailblazer in constructing options through structured products, enjoys the vantage point of being a first mover. The protocol is poised to garner revenue consistently, and the team tirelessly forges ahead, unveiling a cavalcade of products designed to elevate yields, as the ecosystem continues to burgeon. As the DeFi market evolves towards maturity, and Layer 2 technologies come to fruition, an era of heightened trading experiences beckons. Whether Ribbon Finance will etch its name as a titan in the on-chain options market remains in the crucible of time.