In today's episode I discuss oracles and their role in decentralised finance, introduce Polytrade -a decentralised trading protocol-, and review the release of Ondo's new product.
Pythia of Delphi
Origin of oracles
In ancient times, the Pythia was the oracle in the temple of Apollo at Delphi.
Women officiating as Pythias were supposed to be symbols of sober living with a pure personality. They delivered predictions, sometimes incomprehensible, to common mortals. They obtained those predictions after entering a state of trance to communicate with the beyond.
The oracle in blockchain obviously loses the religious connotation. However, the purity aspect - represented by the transparency and resilience of the trustless infrastructure - and the communication with another world -off-chain- are key characteristics of oracles.
Oracles now
Blockchain is a transparent and trustless that contains the history of all exchanges (data and transactions) between users since its creation. Then, a blockchain is only connected to the outside world by elements provided by its users.
If Bob tells Alice that the weather is nice in San Francisco through a blockchain transaction, you can verify onchain that “Bob told Alice that the weather is nice in San Francisco” but not the underlying information “the weather is nice in San Francisco”.
Thus, there is a need for a tool to verify the veracity of information “from the beyond”
Blockchain oracles are entities that connect blockchains to external systems, thereby enabling smart contracts to execute based upon inputs and outputs from the real world.
Chainlink - Oracle network infrastructure layer
There are several on-chain oracle solutions, but the clear leader is Chainlink.
It has a 63% dominance in terms of TVS for DeFi protocol amounting to $21Bn and more than 230 integrations (66 for the second on TWAP).
(TVS stands for Total Value Secured or the aggregate amount of TVL within all protocols and platforms that depend on the proper operation of an oracle network to protect user funds)
Its biggest competitors are UMA, API3, Band as generalist oracles and Uniswap-TWAP and Maker for price feeds. However, they lag behind in terms of adoption by third parties protocols and are not battle tested as Chainlink.
The Chailink oracle network has two different architecture designs:
An off-chain node provides data to an on-chain Chainlink client. It is an on-chain transcription of an API.
Oracle consumers face their dependency to only one provider that needs to be trusted both in terms of data accuracy and data availability.
Each data feed is updated by multiple, independent Chainlink oracle operators.
Outliers are removed from price calculations. When nodes are too far from the consensus they could be slashed/fined.
Main use cases
Data-feeds
Price Feeds provides the price of on-chain (tokens) or off-chain assets.
Smart contracts often act in real-time on data such as prices of assets.
For example, Lending and borrowing platforms like AAVE use Data Feeds to ensure the total value of the collateral.
Proof of Reserve Feeds provide the status of reserves for stablecoins, wrapped assets, and real world assets. The output is in units of measurement such as ounces (oz) or number of tokens.
Paxos Gold (PAXG) is a token with real world reserves. They could be proven on-chain thanks to the oracle.
NFT Floor Pricing Feeds provide the price of the lowest priced NFT available in a collection.
Randomness
Sometimes it is necessary to resort to randomness when programming (generating a key, a character, a lottery draw). Solidity and, more broadly, the EVM do not allow this natively. Chainlink fills this gap.
Chainlink VRF (Verifiable Random Function) is a random number generator (RNG) that enables smart contracts to access random values without compromising security or usability.
Today the majority of oracle usage is price feed and the most used ones are crypto-currencies.
Here we have a paradox: the tool that was supposed to make the crypto ecosystem communicate with the real world only serves to amplify its endogeneity.
There, we will explore severalapplications that try to serve the need of external data for the on-chain ecosystem.
Real world use cases on the application layer
dClimate - climate data
dClimate defines itself as a transparent truth layer for Earth’s climate record. In other words, it is a decentralized network for climate data. The aim is to build an ecosystem where participants provide realized and forecasted data for various climatic variables
dClimate uses Chainlink as underlying oracle network infrastructure
Publishers: dClimate gives the opportunity for climate data company to publish and monetise their works. Data is stored in the IPFS
Consumers are companies (insurances, industrials), public entities (states, cities) or academics (universities, students) willing to use data for their needs (feed machine learning models, statistical study of the impact of climate on product sales). They have data at their disposal (free of charge or not) thanks to the decentralised storage in the IPFS, and can also check the quality of the published data thanks to a skill score system.
Validators: They apply dClimate DAO-approved algorithms as a means of evaluating the quality of Publishers’ data. These algorithms generate Skill Scores for the Publishers that are shared with consumers in order to aid them in filtering between publishers. For forecasts, these scores will be based on accuracy, while for realized data, they will include metrics such as data gaps, possible errors, distance from the nearest weather station, and indicators of fraudulent behavior, as well as a credibility score based on usage.
Paradigm change:
Data quality assessment: Today it is easy to obtain climate data, but it is more difficult to judge their quality. Agencies or companies sometimes consolidate data after several weeks, months or even years of data collection (e.g. ibTracs). dClimate facilitates quality assessment with a transparent methodology.
Easier monetisation channel: Unlike large companies with an elaborate sales department, smaller entities find it difficult to find customers on niche data. dClimate inherently provides a strong audience and monetisation.
On-chain composability: Having on-chain data available, sometimes with very low latency, allows it to be connected to other protocols.
DeFi use:
Parametric insurance (e.g. Arbol) can reimburse these policyholders, once a temperature/wind threshold is crossed, using a neutral and transparent data source (e.g. dClimate)
Synthetic weather instruments and prediction markets: just like insurance, coverage mechanisms could be widen to more personalized transactions.
Today:
Copernicus : Copernicus is the European Union's Earth observation program. The program is coordinated and managed by the European Commission. It is implemented in partnership with member states, the European Space Agency (ESA), the European Organisation for the Exploitation of Meteorological Satellites (EUMETSAT), and the European Centre for Medium-Range Weather Forecasts (ECMWF). Large amounts of global data from satellites and terrestrial, air, and maritime measurement systems are freely available to all.
NOAA: It is an agency under the purview of the US Department of Commerce. Its mission is to understand and predict changes in climate, weather, ocean, and coasts so as to share that knowledge and information with others.
Truflation - Consumer goods data
The prices of consumer goods, inflation figures, are impacting businesses, public authorities, and individuals on a daily basis.
Yet access to detailed and quality information on prices is still missing. State agencies compile and calculate price indices with their own means, but sometimes have to make shortcuts, assumptions, and hierarchies in the face of the mountain of information they have to process.
Truflation leverages 30 data providers on different verticals (McDonalds for food), (Zillow for Real Estate), (J.D Power, Car gurus) for transports and aggregates price reporting in a weighted index.
The current limitations are that price reporting is only done by privileged actors and not in a permissionless manner by any individual. The transparency of the methodology is not complete and the dependence (and risk of censorship) on these providers is significant
Avoid the opaqueness of traditional index computation
More modularity and granularity: Truflation data is available on a continuous basis (not only quarterly or monthly). Moreover it is possible to rebuild an index on top of Truflation’s one with different weight assumptions.
DeFi use:
It is possible to create financial instruments on top of neutral index data provided by Truflation. This is the case of Fortunity, a decentralized exchange (DEX) for trading forecast derivatives on economic variables acting as perpetual prediction markets on any underlying variables.
Today:
Insee : it is a statistical institute of public utility in France. It ensures the transmission of figures on the inflation of the French economy, on a monthly basis with a public and transparent methodology
CPI US Bureau of Labor Statistics in the US offers monthly inflation figures
Underlying providers: Food (Urner Barry), Energy (Argus), Metals (Fast markets).
They are more and more projects adopting oracles standards to leverage the onchain use of offchain assets:
Kresko: synthetic asset platforms (bonds, etfs)
LandX: perpetual commodity vaults protocols (corn, wheat, rice etc.)
Four questions to Polytrade
From time to time, I interview RWA players in decentralised finance on their product, their vision and the barriers they face.
This interview was conducted with Ashish Sood, Head of Product at Polytrade.
About Polytrade
Polytrade is a decentralized global proof of trade (PoT) protocol. Proof of trade certifies that the custody of the underlying instrument is locked with Polytrade and no third party is involved, ensuring end-to-end safety of funds. We acquire real-world assets to help borrowers unlock liquidity access in the DeFi world.
We aim to bring sustainable yields to DeFi.
Since going live in Feb 2022, Polytrade has funded around $2,337,883 worth of invoices and plans to do $50Mil+ by end of year 2023.
What is trade finance market size? Under which conditions (operational, legal, technical) Polytrade could support a significant part of this market?
AS: A study by market research firm Technavio also estimates the global trade finance market size to reach USD 1.2 Trillion by 2023, growing at a CAGR of over 5% during the forecast period.
Polytrade will lead the technical growth of trade finance in the coming years.
Decentralization: Polytrade allows for decentralized systems, which can provide increased security and transparency for trade finance transactions. This can also help to reduce the need for intermediaries.
Smart Contracts: Polytrade uses smart contracts, which automates and streamlines many trade finance processes, such as issuing and tracking assets. This can help to reduce errors and increase efficiency.
Tokenization: Polytrade is tokenizing assets and financial instruments, this facilitates the creation of new financial products and services, such as trade finance tokens which can provide liquidity and accessibility to new investors and traders.
Traceability: Polytrade offers an immutable and transparent ledger that can track the origin and movement of goods, enabling a more secure and efficient supply chain finance.
Who are trade finance typical counterparts and why would it be better for them to use Polytrade instead of their current process?
AS: Any seller who is selling his products on credit could be involved in a trade finance transaction.
For example:
a shoe manufacturer is selling its production to Walmart.
Walmart will pay post 90 days.
Polytrade comes in day one. We buy invoice from the shoe manufacturer and walmart pays us post 90 days.
Trading counterparts would benefit from using Polytrade as using blockchain technology reduces the processing time, increase liquidity options and thus shortening the working capital cycle which in turn means more business.
What is the next big thing for Real World DeFi and the narrative for its mass adoption ?
AS: The next big thing for Real World DeFi is likely to be the integration of DeFi applications and services with existing financial systems and institutions. This will enable a more seamless and efficient use of DeFi for a wider range of users, including those who may not be as familiar with blockchain technology. Additionally, the development of more user-friendly interfaces and improved scalability and security will also be important for the mass adoption of DeFi. The narrative for mass adoption of DeFi will likely focus on the benefits of decentralization, such as increased security, transparency, and accessibility, as well as the potential for higher returns and more control over one's financial assets.
The rates convergence
Traditional finance and decentralised finance were two separate ecosystems with their own rules.
I described a few month ago how risk-free rate differs greatly between the two worlds.
This may no longer be the case.
Ondo Finance has announced the launch of a tokenized fund that allows stablecoin holders to invest in bonds and US Treasuries.
These funds are restricted to accredited investors and an entry ticket of $100,000 in line with securities distribution regulators.
In parallel with the launch of the regulated and restricted fund, Ondo announced Flux.
Flux is an over-collateralised lending protocol that brings together two types of players.
On the one hand, accredited investors in tokenised funds can - as borrowers - leverage their assets and earn higher returns.
On the other hand lenders who can access rates of return close to the risk free rate, with a similar risk profile.
As borrowers' and lenders' interest rates on Flux depend on the supply and demand of capital, the lending rate equilibrium (less Flux spread, and Loan-To-Value coefficient) will approximates Ondo's tokenised funds return.
A perfect example of composability in DeFi and the announced convergence between risk-free rates of traditional and decentralised systems.