Mo' Money, Less Problems

[yago]

Deferred Fees, Not Origination Fees

“Origination fee” is an inaccurate term and should be changed:

1. The fee is paid at the end, not at the beginning
2. Unlike bank origination fees, this fee does not create a compounding burden to to interest payments, not does it need to be paid off as part of interest installments
3. As long as the LoC is maintained, the fee does not need to be paid off
4. Instead, the fee is added to the total debt burden of the LoC and is only paid if and when the LoC debt is paid.
5. I think we should change the term ‘origination fee’ to the more accurate ‘deferred fee’

From a “marketing” perspective, I think ‘Deferred fee’ is not only more accurate but also more palatable and attractive. Buy now, pay later is a very well-worn concept.

Changes to the Deferred Fee

The interest rates in the market change frequently. Over the last year, we have gone from a 0% interest rate environment to one with much higher rate. The upshot of this is that borrowers willingness to pay has increased substantially.

As of writing, the market is seeing Bitcoin-backed borrowing dollar borrowing rates as high as 12-14%. Under these circumstances, 0% loans can see the Zero flooded with borrowers creating an ever growing supply of dollars. This supply needs to be matched with demand for dollars by DLLR hodllrs. Additionally, by providing borrowing at rates far below the market rate, the Sovryn protocol is leaving money on the table.

This situation calls for the ability to increase the Deferred fee to match supply with demand. The correct fee now may be as high as 12%, although it can be kept lower. Increasing the fee would have several impacts:

1. It would reduce Zero borrowing demand and dollar supply (although possibly not by that much)
2. It would increase protocol revenue and SOV-staker returns (possibly by a lot)
3. It would redirect some of the borrowing activity to the lending pool, with its variable, rather than fixed, rates. This would generate demand for DLLR by creating an interest bearing DLLR product for lenders. It would also increase protocol revenue on an on-ongoing basis.

It’s important to note that changes to the Deferred fee would not impact existing lines of credit.

As we gear up to launch Dapp 2.0 and ungate Zero borrowing, these changes would, I believe:

1. Help match DLLR supply and demand
2. Protect LoCs from redemption as well as supporting the peg
3. Create an interest bearing DLLR savings product
4. Improve DLLR liquidity
5. Increase protocol revenue and SOV-staker yield

To my mind, increasing the deferred fee is a no brainer. The only question is by how much? Could see arguments for as much as 12%. My initial intuition is to increase it to 4.9%. I am very interested in your thoughts.

[666SOV]

It could be a variable fee decided every quarter or semester by SIP, through a FED SOVRYN MEETING. taking into account macro/competition.

[rufus]

A newbie’s two pence:

As potential alternatives to deferred fee, perhaps consider ‘exit fee’ or ‘redemption fee’?

A response to ‘Zero’ that I have encountered is ‘sounds too good to be true’, so people will be looking for the hidden fees and may deem this kind of fee ‘back-loading’ to be non transparent which would be unhelpful to say the least. So marketing of this will (as ever) be key.

If I understand correctly, such a fee - whatever it may be at exit time - could actually result in a de minimis effective interest rate… IE say the exit fee is 10% and the loan was hodled for 20 years then the hodler has actually paid 0.5% per annum. Getting that at the end of the term is not helpful for planning but does encourage hodling till fees drop.

To my mind the real price of the loan is however you would price a down-and-out call option on btc with an unknown expiry! you could probably model that over various durations and come up with something fair.

Nevertheless, whilst your points about leaving money on the table are valid, I would go for mass adoption first and then let governance decide at a future date whether exit fees should reflect ‘market conditions’. The obvious arb opportunities will easily satisfy demand for DLLR I would think. Let’s not forget that the aspiration is to build better finance, so comparing rates to usurious tradfi/cefi rates may not be in line with that aspiration.

[TacooCharlie]

I agree with your ‘too good to be true’ concerns. I have faced this same issue already with the redemption ‘problem’. I’ve talked several people out of using Zero at this stage when the came to be with the question ‘as long as i maintain a CR above 110% i can borrow against my BTC?’. After explaining there was almost a 100% chance they would get redeemed against if they kept a CR that low, in each case, they decided to pass. Will they ever come back? I have no idea. If someone asked a similar question ‘is it really 0% interest?’ and I had to respond ‘well…as long as you never pay it off, but there is a 12% fee to exit to loan’ I’m fairly certain it would be met with a similar response. Or possibly with the very straightforward question i would ask in that situation ‘why did they decide to call it Zero?’

[TM1]

To me it feels way more natural and comftable to have paid it upfront. (at whatever % fee it is decided)

Like… cool… I did my duty, paid the fees… now I’m free to do whatever I want.

[Keinor]

Couldn’t agree more… if you feel the ZERO loan service is more valuable, simply increase the cost at origination. I would happily pay much more for this service. But ‘hidden fee’s’, closing fee’s or not understanding what the fee will be later is prohibitive. The beauty to me is that I pay my origination then I have a zero interest loan as long as I needed. Particularly once the redemptions are curbed as expected with dollar/Another way to purchase rbtc rather than redeem from others.

[Martin_Adriaan]

This makes little sense to me. But maybe I’m misunderstanding something.

One of the central motivations is to “help match DLLR supply and demand” but the proposal is a deferred fee. A deferred fee means a deterrent that is only felt by participants with a delay. How strong of a deterrent this is in the actual moment that you want control over supply and demand depends on the risk aversion and other market sentiments of people. This seems to give less control, not more control to the protocol (given that the effects are mediated strongly by participant sentiments), and it gives less control, not more control to the people using Zero (as they cannot time when they will be paying this fee, and what sort of circumstances those might be).

I understand the need to have a variable fee (and this seems to cover most of the advantages); I just don’t understand the advantage of having it be a deferred fee.

[Kobayoshi]

Fully agree with the origination fee name change

I’d be in favour of capping the rate at a rate which remains highly competitive such that Zero still delivers great value during intense periods - cap it at 8% and change the fee adjustment algorithm to more freely drift up once the cap is in place, directing protocol towards more frequent periods of deferred fees of say 6-8% (dont ask me on technicals)

This would be much more palatable and attractive than 12%, 8% is competitive even with OTC lending desks - fee adjustments and sliding scales notwithstanding

Lets accomodate for all use cases, eg those considering us instead of an OTC lending desk as above

[one_digit]

A lot of people here seem to be misunderstanding the proposal concerning the term “deferred fee”. Yago is not proposing to change the way the fee works, only the name. The fee is included in the loan amount, so it is not technically paid until the loan is paid back. On the other hand, the protocol claims the fee immediately and distributes it to stakers. So the fee is charged against the loan position immediately, and the user only gets the portion of ZUSD from the loan that does not include the origination fee. So there is a sense in which users pay it up front because they don’t get the full balance of the loan in ZUSD. For these reasons I think deferred fee is an unnecessary neologism and probably more confusing than helpful.

Regarding raising the fee, keep in mind that the origination fee is directly tied into the ZUSD hard peg ceiling. The way it works is that if ZUSD value goes above $1.10, then anyone can borrow ZUSD at 110% collateral ratio, forfeit the collateral, and sell the ZUSD for more than $1.10 to make a profit. This arbitrage will cap the value of ZUSD at 110%. But what if it costs 12% to take out a ZUSD loan? The required collateral is 110% of total ZUSD debt. But total ZUSD debt = 112% of issued ZUSD, and the arbitrageur only gets to sell the issued ZUSD. So cost of the loan = 1.10 (total ZUSD) = 1.10 (1.12 issued ZUSD) = 1.232 issued ZUSD. That means the collateral cost is 123.2% to defend the peg ceiling.

Now we have a so-called stablecoin that is pegged between $1 and $1.232. That loose peg directly reduces the usefulness and therefore the demand for ZUSD.

So we need to think hard and long before raising the origination fee so dramatically.

[Sacro]

These are great points.

I think the term origination fee is suited better and should be kept. The way i think about it: i take a zero loan, this fee is taken and distributed to the protocol when i open the line of credit. After doing that, i have no more costs, so ZERO makes perfect sense to me and gives me peace of mind.

Raising this origination fee from 0.5% to somewhere between 2 and 6% might make sense, especially in current credit conditions. I’d be in favour of a fee increase but i would like to see it kept relatively small. Adoption should be our primary goal.

I will crunsh some numbers the next days and hopefully come up with a more definite number than “2-6%”.

[lactarius]

In traditional banking, when someone is going to ask for a loan, in addition to the interest, there is always going to be an origination fee. I think financial users are used to this terminology and accept its existence. It is a usual cost, and it varies from one lender to another. If we can keep it low, we will attract attention.

In the same way, loan cancellation fees have existed in traditional lending, and some have eliminated them as a tool to attract demand. It has been very common for it to be variable depending on whether the loan is partially or totally cancelled, or if it is done after a period of time. Finance companies achieve profitability as a balance of financial cost and the mentioned fees.

Personally I like ZERO as it is now. Zero interest, known upfront fees, and very low. It is a simple product, and perhaps it can be simplified further. The name change seems good to me. What would seem to me to be a mistake is to complicate the loan with exit fees, with costs over the life of the loan, or by increasing them as is being proposed.

I would be happy to continue as we are, and in any case create an opening fee a few points higher. That way you get into ZERO and forget all about it.

[Kobayoshi]

Perhaps additional clarity could just be provided with a little “i” bubble besides Origination fee as it appears on the site, with an info pop up / explainer

Eg info: charged when LOC is opened and added to LOC debt; settlement occurs if LOC is closed

Can easily be done cleanly, we see these little info pop ups everywhere nowadays. Would leave no assumptions

[dseroy]

Why don’t we just steepen the BaseRate and temper down the Fee Decay?

Zero already has built in mechanisms to manage these exact problems. We should just turn up those mechanisms.

Adding a lot of this human governance and justifying new mechanisms and fee structures just feels a bit cringe. I’d prefer to improve the algo rather than add human governance.

[rufus]

Increase fees / interest rates and Zero is no longer Zero, USP is gone.

The real cost to a user excluding origination fee is the need to maintain sufficient collateral. If liquidated then the cost of your loan is whatever collateral you have lost.

To my mind Zero enables people to effectively borrow from themselves. Zero is not borrowing USD so has no borrow costs that it needs to recoup from this process.

This protocol can be a real game changer if it maintains its USP.

[Kobayoshi]

Zero is already not Zero by fees, only by interest rate. A sliding scale up to 5% is not zero at all. The USP is the Zero interest rate, so discussion around existing fees and their mechanims doesn’t seem to infringe upon that for me. I also totally agree that looking, at least experimentally, at BaseRate and Fee Decay is the more sensible approach, which would provide a nice boost for zero protocol fee revenue and not really affect anyone patient just to sit it out and wait for let’s say 20% longer to see Fee Decay after BaseRate climbs. Meanwhile during intense periods it would really considerably improve protocol fee revenue. Looking at the fee adjustment mechanism so far, albeit without much experience myself, origination fee always seems to be fairly low, I’ve often wondered on that to be honest

[Profesh]

I submit that the origination-fee should jointly comprise a ceiling rate and a base rate of, e.g., 2% and 0.5% respectively, at the dispensation of Sovryn/Mynt governance.

The former then converges towards the latter in proportion to the degree of over-collateralisation surpassing 150%, as expressed by the following equation:-

Fee = Base Rate + ((Ceiling Rate - Base Rate) / (Collateralisation Ratio - Over-Collateralisation Ratio))

So, originating a hypothetical loan at 1.5x collateral—the bare minimum—I thus incur the ceiling rate, as follows:-

0.5% + ((2% - 0.5%) / (1.5 - 0.5))
= 0.5% + (1.5% / 1)
= 2%

Conversely, if I’m Simon Dixon, Michael Saylor, or a sovereign wealth fund whose host nation has instructed it to adopt $DLLR as our primary medium-of-exchange on a phased roll-out, the sum totality of my ‘eligible’ collateral may still exceed my acute demand for liquidity by several orders-of-magnitude.

In this scenario, the revised model then provides a marginal—but nonetheless powerful—stimulus to continue depositing bitcoin even beyond the mere, ever-more vanishingly remote threat of possible liquidation; thereby maximising BTC inflows pro-actively; thereby removing BTC from circulation, which increases its scarcity and therefore its price; in turn allowing for yet further $DLLR issuance; and so on.

What’s more, one could employ a similar incentive framework to likewise encourage LOC size: so a $200,000,000 LOC of given collateralisation ratio, ceteris paribus, attains a lower origination-fee than the equivalent at $200 (as well it should).

Finally, to offset the ‘top-heaviness’ of the above approach, I’d propose fixed-terms as a time-based discounting-mechanism, enabling those whose liquidity requirements—being relatively modest, short-term or otherwise foreseeable in nature—don’t warrant the failsafe flexibility of an indefinite LOC but perhaps only an interim ‘bridge’ or even ‘payday’-style loan to tide themselves over without compelling the sale of their bitcoin nor gouging them for that privilege; providing, of course, that they can meet with a commensurately accelerated repayment schedule.

The preceding suggestions are by no means rigorous, but given some technical refinement, could expand Zero’s use-case considerably and do so in a manner more conducive to advancing Sovryn’s hard-money manifesto than the current, monolithic implementation.

[Sacro]

These are very good thoughts and I think we would benefit from such an implementation. However, I am not sure that such a change in the formulas would significantly increase revenue, as most borrowers would certainly access the 0.5% rate.

And to be clear, Sovryn really needs an increase in revenue, so maybe we should make changes to the base rate. I think we can remain competitive if the base rate is increased a bit.

[Profesh]

I agree. However, Zero at present confers no benefit whatsoever for staking more BTC than needed to maintain the nominal ‘healthy’ ratio (>250%), nor for maximising one’s utilisation within that constraint, except to accrue interest on surplus liquidity, which invokes an inherently greater risk-profile and furthermore, would rule-out much of the (as yet untapped) Shariah market by default.

Moreover, Zero’s origination-fee only remains market-beating insofar as ‘indefinite LOC’ necessarily constitutes our target market; a user who intends to make good their loan within one month, one week, or one day, is not a remotely equivalent proposition to an Elon Musk for whom such LOC would amount to a de facto tax-exempt replacement income.

Now, whether it’s in Sovryn’s interest to incentivise, or dis-incentivise, the former and over what timescale, poses a conundrum in its own right [do we tip the balance in favour of short-term, or seek to actively penalise ‘early’ repayment?]; but either way, these represent distinct use-cases which currently remain undifferentiated in the eyes of Zero’s custodians (Mynt), and the Exchequer by extension. An adroit lender, that knows its customers’ payment schedules—or lack thereof—and can operate sophisticated (yet equitable!) economic levers to redress any perceived imbalance in this regard, is thereby able to forecast TVL and consequently, to weather liquidity droughts more effectively than one that doesn’t.

As such, I believe that adding a ceiling-rate alongside the base-rate (even if the initial floor were 4% and the former only 1% greater still) would endow us with the necessary incentive-mechanism to potentially transform Zero from a one-trick pony, into a Swiss Army stallion capable of supercharging adoption across the whole spectrum of aspiring self-sovereign bitcoiners.

[Edited for syntax.]

[Profesh]

The following proposes an alternative model which would retain the origination-fee but incorporate a secondary, exit-fee mechanism to discourage ‘early’ re-payment:-

• Partition the current fee into a Base Rate and a Ceiling Rate;
• Base Rate payable on origination and deducted immediately by the protocol—currently this bottoms-out at 0.5% but per @Sacro and @yago, could perhaps more than double without retarding adoption (or undermining the peg, per @one_digit);
• Ceiling Rate levied only on redemption: re-payment of an already over-collateralised LOC is of sole benefit to the borrower, so this ‘deferred’ or ‘exit’ fee can afford to be somewhat punitive in comparison. However;
• Allow creation of fixed-terms up to (e.g.) 10 years. The shorter the term, the higher the Base Rate: at 1 day (‘payday loan’ or ‘peg arbitrage’ territory), this might entail up to 5%; at 10 years, 0.5%;
• Exit-fee would then be set independently—potentially as high as 10%—but could perhaps decay across the remainder of the term, similar to a voluntary SOV staking contract. Furthermore;
• The larger the LOC, the lower the Base Rate. If someone is sufficiently capitalised to maintain a $200,000 loan at >110% collateralisation over 10 years (or indefinitely) but needs only $20,000 of liquidity right now, it profits us none that the lion’s share of their bitcoin should remain on the sidelines for want of an inducement;
• Such economy-of-scale could also solve the arbitrage dilemma noted above, by enabling whales to continue defending the ZUSD peg efficiently;
• Of course, the Base Rate alone is amenable to being discounted in this fashion—the Ceiling Rate (and exit-fee) must remain inflexible to deter exploitative behaviour.

I grant that an exit-fee may appear to some unpalatable—even unethical. To these Sovryns I would merely re-capitulate that the mission-statement of Zero is a loan that one need never repay. Concordantly, incentivising larger LOCs and dis-incentivising repayment of those LOCs—rather than simply ratcheting-up the origination-fee—seems to me more properly aligned with that aim, and to the maximisation of $DLLR issuance in turn.

[rufus]

Great ideas. I especially like the exit fee decay feature.