Delta Neutral
Last updated
USDN Protocol
Last updated
The delta-neutral strategy is a financial risk management method aimed at neutralizing the impact of market fluctuations on an investment. It involves adjusting positions so that the potential gains from one position are offset by the potential losses from another, making the overall investment stable regardless of market movements.
Simple example to understand the concept: Suppose you have $100 to invest. To protect this investment against market fluctuations, you place $50 in a stock that increases in value when the market rises, and $50 in another that increases when the market falls. No matter what happens, the gains from one stock offset the losses from the other, and the total value of your investment remains stable at $100.
As illustrated above, the stock portfolio reacts to market ups and downs while maintaining a total value of $100. Now that the concept is clear, let’s examine how the Delta-Neutral strategy works in the USDN Protocol.
The USDN Protocol is based on the interaction between two sides: the Vault Side and the Long Side, which work together to maintain a Delta-Neutral strategy, ensuring the stability of USDN.
USDN Side: Users who choose this side deposit their assets into the Vault and mint USDN in exchange. Their goal is to gain exposure to USDN, a stable asset, while benefiting from potential yields. Thanks to the interaction with the Long Side, their investment remains protected from market fluctuations.
Long Side: Longs bet on an increase in the price of the underlying asset. They deposit assets as collateral and can use leverage, made possible by the assets present in the Vault (deposited by USDN holders). If the price of the asset rises, Longs make a profit. If the price of the asset falls, they incur a loss, and part of their collateral is transferred to the Vault to compensate.
The interaction between these two sides maintains a Delta-Neutral strategy. This means that regardless of price fluctuations, the value of USDN remains stable. If Longs make gains, it does not affect the value of USDN because the protocol automatically adjusts the assets in the Vault based on the performance of each side. This ensures that USDN holders have a stable asset, even during periods of volatility.
As mentioned, the USDN Protocol relies on an underlying asset. It is the dollar value of the collateral held in the Vault that determines the stability of USDN. Let’s see how this works when the price of the asset fluctuates:
When the price of the underlying asset increases: Longs benefit from the rise, and a portion of the asset held in the vault, corresponding to their gains, is transferred to the Long Side. Although the Vault now holds less assets, the increase in value compensates for the decrease in token amount. Thus, the dollar value of the assets in the Vault remains sufficient to support the amount of USDN in circulation, ensuring that USDN holders can always exchange their USDN for the underlying asset.
When the price of the underlying asset decreases: Longs, who bet on a price increase, incur losses. A portion of their collateral is automatically transferred into the Vault. This increases the amount of asset available in the Vault, which helps maintain the value of the USDN token stable at $1, even if the price of the asset falls.
It is possible for USDN to deviate slightly from its peg on certain occasions. However, most of the time, it remains stable around the value of $1 and can generate a yield. These points will be discussed in more detail in the following sections.
