Understanding the Wombat Protocol in One Article: How It Innovates the Stablecoin Exchange Experience

Since the DeFi Summer of 2020, stablecoins have experienced explosive growth. According to Coingecko data, among the top ten cryptocurrencies by market capitalization, there are three stablecoin projects: USDT ($72.5 billion), USDC ($53.6 billion), and BUSD ($17.9 billion). The market capitalization of these stablecoin projects has increased more than fivefold in the past two years.

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Stablecoins are an indispensable part of the DeFi ecosystem, mainly including fiat-collateralized stablecoins (such as USDT and USDC), crypto-collateralized stablecoins (such as DAI), and algorithmic stablecoins (such as the recently failed UST). Regardless of the type of stablecoin, they provide irreplaceable value for DeFi players, primarily reflected in liquidity mining, profit settlement, cross-chain conversion, and other related activities. Therefore, stablecoin exchange is a rigid demand for DeFi users, and the stablecoin exchange market will become increasingly larger.

The main clients of stablecoin exchanges are market makers and traders, and their core competitiveness lies in slippage and liquidity pool depth. For stablecoin exchangers, the premise of trading is that the stablecoin prices in the liquidity pool remain pegged, and there is excellent low slippage exchange depth at the pegged price point. Only by ensuring these two points can stablecoin exchanges gain users' trust, which is also a prerequisite for the subsequent expansion of scenarios and users for stablecoins.

Curve is the leading protocol in the stablecoin trading track, known for its low slippage and excellent trading depth, with its total value locked (TVL) consistently ranking in the top three among all DeFi protocols. Most of the emerging stablecoin exchange markets on the market are forked versions of Curve, lacking further innovation and improvement. Faced with the growing demand for stablecoin exchanges, these DEXs face many challenges, such as complex liquidity pool designs, low capital efficiency, and scalability limitations.

Wombat Exchange is an emerging stablecoin exchange protocol aimed at providing users with higher capital efficiency to promote the development of DeFi. This article analyzes the advantages and disadvantages of Wombat's mechanisms, data, algorithms, etc., by comparing Wombat with stablecoin exchanges like Curve, Ellipsis, and Platypus.

Wombat Introduction

Wombat Exchange is a stable exchange protocol based on BNBChain, designed to improve capital efficiency by eliminating the island effect of stablecoin liquidity pools and introducing coverage into the stable exchange mechanism to solve scalability issues, featuring low slippage, single LP staking, and multi-chain exchanges.

For stablecoin exchanges, the locked capital directly affects the slippage during exchanges and is an extremely important indicator. Curve has a locked amount of USD stablecoins reaching $290 million, with 29 liquidity pools, thanks to Curve being one of the earliest protocols focused on stablecoin exchanges. Additionally, Curve's staking model and ecological expansion strategy are also key factors.

Ellipsis Finance is a BNBChain fork version approved by Curve, with the current main stablecoin exchange pools 3EPS and val3EPS (BUSD, USDC, BUSD-T) having a TVL of around $58 million. The exchange protocol Platypus Finance based on Avalanche is also a challenger in the stablecoin exchange track, absorbing $268 million in stablecoin locked amounts, with a total of five unilateral liquidity pools.

In contrast, Wombat Exchange currently has only four unilateral liquidity pools: DAI, USDC, BUSD, and USDT, with a total locked amount of $40 million, successfully surpassing other BNBChain DEX projects, including Dodo and AcryptoS. The reason for the lack of explosive growth in locked amounts is that Wombat is in the beta testing phase and has reached its deposit limit; the locked amount may significantly increase once fully opened.

Wombat mainly attracts users through four innovations:

Maximizing capital utilization: Wombat's open liquidity pool design aggregates liquidity into a shared pool, providing higher capital efficiency through complex balancing via coverage.

Minimizing slippage: Wombat uses an asset-liability model to eliminate slippage before higher transaction amounts and reduce slippage when it occurs.

Enhancing scalability: Wombat's flexible liquidity pools allow staking with a single token, promoting liquidity growth without complex operations.

Simple UI design: Wombat helps users swap tokens across various blockchains and earn interest on any stablecoin through an intuitive UI, making it more user-friendly.

Core Mechanism

Wombat achieves innovative functions through the design of shared liquidity pools, algorithmic innovations, and balanced coverage.

1. Shared Liquidity Pool

Liquidity and slippage are inversely proportional. The deeper the liquidity pool, the lower the slippage, as the pool can maintain a closer balance even with larger transaction volumes. Considering this logic, Wombat has designed a shared liquidity pool.

The structure of liquidity pools in popular stable swaps:

Curve and Ellipsis isolate liquidity pools in their designs, causing the same stablecoin USDT to have different liquidity depths and slippage rates in different pools. Unlike traditional banks' foreign exchange operations, which do not separate currencies like USD, EUR, and AUD, as this would make funds very inefficient, only by aggregating funds can optimal slippage and liquidity be achieved. This process is the same as how Wombat constructs stablecoin liquidity pools, where Wombat's shared liquidity pool design offers better trading depth, ultimately significantly reducing trading slippage for users.

In addition to isolating liquidity, Curve and Ellipsis also cannot effectively maintain the balance of various stablecoin components, as each stablecoin exchange breaks the balance of the liquidity pool. Therefore, establishing liquidity pools based on any single token pair would be counterproductive.

2. Balancing Coverage

Coverage is a common concept in traditional finance, used to describe a company's ability to cover its liabilities with its assets (assets divided by liabilities). In the case of Wombat, each stablecoin is like a company, and each coin has its own coverage. We can consider coverage as a health indicator for Wombat's liquidity pools. The higher the coverage, the more assets there are compared to liabilities, indicating lower default risk.

Example: The BUSD liquidity pool has an initial asset of 1000 BUSD (i.e., $1000 in assets and liabilities). A user deposits 200 BUSD and then exchanges 400 BUSD for USDT.

Since Wombat receives a deposit of 200 BUSD (asset) and simultaneously owes the depositor 200 BUSD (liability), both the assets and liabilities of BUSD will increase by the same amount, while the coverage remains unchanged.

During the token exchange, the assets of USDT increase by 400, while the assets of BUSD decrease by 400, resulting in an increase in the coverage of USDT and a decrease in the coverage of BUSD.

Maintaining the balance of the liquidity pool is Wombat's core goal. Since Wombat's asset-liability management design still has room for withdrawal arbitrage, to prevent arbitrageurs from depleting the liquidity pool's funds, the team has designed an additional reward system: as long as users help restore the balance of the liquidity pool, they can earn deposit rewards. Additionally, the team has introduced withdrawal fees to further prevent withdrawal arbitrage events. This way, unless the liquidity pool encounters severe imbalance, the pool's assets will not be affected.

Wombat will also protect user assets through balancing coverage (ECR). Balancing coverage is the total coverage of all liquidity pools, responsible for monitoring the protocol's operations and conducting risk control (taking proactive measures in extreme cases). If a black swan event occurs, the system will only terminate the operations of the affected pools. For example, in the event of a de-pegging crisis with USDT, users can only withdraw the USDT they previously deposited and cannot exchange USDT for other coins, while the pools for BUSD, USDC, and DAI will continue to operate normally.

3. Algorithm Innovation

The blockchain field has given AMM new application scenarios, and this type of AMM can be referred to as "constant function market makers," or CFMM. Compared to Uniswap, Curve is more inclined towards stablecoin exchanges, thus introducing invariant algorithms that allow its CFMM algorithm to align more closely with a straight line, ensuring lower slippage over a larger price range while maintaining good liquidity in the pool.

Therefore, when constructing stablecoin exchanges, most DEXs reference Curve's algorithm. Platypus uses a single-variable function; although it has innovated on the original Curve algorithm, it still has some limitations. Wombat integrates the advantages of Platypus, not only to meet current demands but also to pave the way for future multi-chain expansion.

Considering the precision required for stablecoin exchanges, a single-variable function cannot accurately calculate how much stablecoin a user needs to deposit. It's like a user wanting to exchange dollars for 89 pounds, but the exchange cannot accurately tell the user how many dollars they should pay.

Wombat tends to provide more precise values, avoiding approximation errors in stable exchange estimates, by offering this accuracy through innovative algorithms. Wombat's invariant function uses an efficient and scalable closed-form quadratic solution:

CSMM's balance [K] --- amplification factor * (Δ? + Δ?) = invariant balance [D]

By using the amplification factor, Wombat minimizes changes in the liquidity levels of tokens x and y in the invariant formula, achieving or getting as close to balance as possible. With a more accurate invariant algorithm, Wombat can adapt to different public chains and become a potential challenger to Curve Finance. The estimated effects of Wombat's invariant algorithm are illustrated in green in the following diagram, used for comparison with other stablecoin exchanges.

At the same time, by introducing coverage into the CSMM and invariant algorithms, Wombat can reduce slippage losses by 40% compared to its competitors. The x-axis in the following diagram represents the user's exchange amount, and the y-axis represents the slippage percentage. It can be observed that Wombat's slippage changes at higher exchange amounts, as shown by the divergence of the blue and orange lines from the x-axis; if the divergence points are magnified, Wombat's anti-slippage capability becomes more apparent.

Token Economics

Wombat's native token is WOM, issued on BNBChain, with a total supply of 1 billion tokens, serving the following purposes:

• Governance: WOM token holders can participate in decision-making governance and have voting rights.
• Liquidity rewards: Earn WOM tokens as rewards by providing liquidity to the pool for stablecoins.
• Yield acceleration: Users can directly lock WOM tokens to obtain veWOM, increasing rewards for staking stablecoins.

Similar to Curve's ve-token model, Wombat has also launched veWOM as a voting escrow token, which can enhance rewards for staking stablecoins:

• Users can lock WOM tokens to mint veWOM for a period ranging from 7 days to 4 years.
• Users can set multiple WOM locking conditions, including pool positions and locking periods, supporting up to 10,000 different locking positions.
• veWOM cannot be transferred or traded.
• After the locking period, users can reclaim WOM, while the corresponding veWOM will be destroyed.

The team will soon release a more specific token distribution plan; please follow official channels for the exact date.

Team and Financing Situation

Wombat's founding team has a strong background in blockchain and finance:

• Founder Alex Lee is a quantitative trader and blockchain engineer with extensive experience in cryptocurrency, project management, and portfolio management.
• Chief Technology Officer Daniel Chan is an early supporter of cryptocurrency and a blockchain engineer with a startup background in DeFi, banking, and social enterprises.
• Chief Marketing Officer Raymond Wong is a marketing expert with years of experience in both cryptocurrency and traditional finance, skilled in project operations and expansion.
• Additionally, Mr. Duckbill, the founder of Platypus Finance, serves as an advisor to the project.

In November 2021, Wombat completed a seed round of financing invested by Binance Labs. In March 2022, it completed a $5.25 million financing led by Animoca Brands and Hailstone Ventures at a valuation of $70 million, followed by a strategic round of financing in April led by Shima Capital, with participation from Jump Crypto and Wormhole.

Development History

Wombat joined Binance's incubation program in November 2021 and was selected for Binance Chain's Most Valuable Builder Program MVB IV due to its classification as a high-level DeFi Lego block, winning the Project Star (MVB Monthly Star) award in January 2022.

On March 21, Wombat launched its testnet and initiated a bug bounty program, offering up to $100,000 for users who submit smart contract vulnerabilities. Notably, Wombat places great importance on the security of its protocol, subsequently launching the Immunefi bug bounty program with a maximum reward of $500,000. Currently, Wombat has received security audit reports from Hacken, Zokyo, and Peckshield.

Wombat adopts a gradual opening of liquidity pool deposits to ensure the safety of funds within the protocol. On April 25, Wombat launched its Beta version, opening a liquidity deposit limit of $20 million, which reached its limit within 30 minutes. On May 19, the team increased the Beta version deposit limit to $40 million.

Additionally, Wombat has launched a contributor program and hosted numerous community activities, including art contests, meme contests, and more.

Conclusion

This article compares well-known stablecoin exchanges in the market and finds that Wombat performs well in terms of operational models, locked capital amounts, and trading algorithms.

Wombat's open liquidity pool theoretically can significantly increase the depth of stablecoin liquidity pools, thereby improving capital utilization efficiency. However, currently, the composition of the liquidity pool's coins can only be approved by the official team, lacking a community voting DAO organizational form. From this perspective, the protocol has not yet achieved complete decentralization.

In terms of security, the open liquidity pool puts all funds in a shared state, which increases the overall risk of the fund pool. To address this issue, Wombat employs ECR to manage pool balance while also having deposit rewards/withdrawal fees mechanisms to encourage users to protect the safety of the fund pool. For some higher-risk coins (such as algorithmic stablecoins), the team will create sub-pools to segregate risks, with the main pool only containing BUSD, USDC, USDT, and DAI. In summary, Wombat has set up triple protection measures to keep the fund pool in a safe and controllable state.

Moreover, reducing trading slippage is a core goal for every exchange. Currently, Wombat's locked capital amount is limited by the $40 million cap, and it will need to fully lift this restriction to test the impact of Wombat's innovative algorithms on trading slippage during stablecoin exchanges.

Looking to the future, Wombat's incubation plan encourages other projects (including staking protocols and lending protocols) to build their own ecosystems on top of Wombat. For developers, Wombat can help protocols improve capital efficiency and increase TVL. For users holding veWOM, there will be opportunities to receive new project airdrops, whitelist access, priority participation rights, and even early opportunities in incubated projects.

Regardless, after receiving funding from Binance Labs and Animoca Brands, Wombat is refining every detail of its product, including various on-chain functionalities, user communities, and media articles. Animoca Brands co-founder Yat Siu stated that Wombat Exchange has assembled a resilient and experienced team to develop a stablecoin exchange protocol that drives DeFi growth. We look forward to seeing Wombat make meaningful contributions to the BNB Chain and its adoption in a multi-chain world.