Synthetix is the third-largest DeFi platform in terms of volume of locked assets, behind Maker DAO and Compound. Moreover, it is the first in the DeFi derivatives sector.
This open-source and decentralized protocol, based on Ethereum, allows the creation of Synths, i.e. synthetic on-chain assets that track the value of real-world assets. Originally it was a project born to create a stablecoin anchored to the value of the U.S. dollar, called Havven, but in time it was later renamed Synthetix and enhanced to be launched on the mainnet in February 2019.
As of May 2019, Synthetix supports over 20 Synths, representing fiat currencies, commodities like gold, as well as crypto-assets. In the future, the company plans to add new ones representing equities, indices or other derivative financial products. There is also a native token, SNX, which can be locked as collateral to create new Synths. Each Synth is a freely exchangeable ERC20 token that tracks the price of the underlying asset.
The protocol also features a decentralized, non-custodial exchange, Synthetix.Exchange, which allows trading Synths for free. It is possible to either buy or sell Synths on this exchange, or initiate loans using ETH as collateral. The DEX has no order book, and all the trading is done through the smart contract, according to the P2C (Peer-to-Contract) model. Assets are assigned an exchange rate using price feeds provided by oracles, and can be traded using the Synthetix.Exchange dApp, which provides liquidity for the total amount of collateral held in the system.
Synthetix synthetic assets allow investing in certain assets without having to own them. This is very convenient, as in the case of physical assets such as gold, or in the case of blockchain-based assets other than Ethereum. In addition, the decentralized exchange allows the free exchange of these assets without the need for KYC, unlike all centralized exchanges that allow these assets to be traded.
The first Synth was actually a stablecoin, a token that replicated the value of a fiat currency, and which could be owned without having to hold the fiat currency itself. The advantage was that it could be traded freely on a decentralized exchange anonymously, without registration and without KYC. Subsequently, many more Synths were added, some replicating the market value of other fiat currencies, others replicating the value of cryptocurrencies or tokens, and others replicating the value of physical assets such as gold.
This allows these assets to be traded without having to physically own them on a non-custodial DEX, and without intermediaries. In fact, Synths can also be swapped among themselves, as well as bought and sold using ETH.
To create a Synth it is necessary to lock SNX tokens in a special smart contract to mint the token that replicates the desired value. To ensure the coverage of Synths, it is necessary to over-collateralize them, locking the SNX in the smart contract for a value five times greater than the value of the Synth that is being created.
The SNX token, in turn, is tradable on several exchanges, including some major centralized exchanges on the market. SNX is the driving force behind the operation of the entire Synthetix protocol, because it is necessary to mint Synths, and it provides the collateral. The tokens also allow their holders who have used them to mint Synths to collect a portion of the transaction fees.
There are currently five categories of Synths: fiat currencies, commodities, cryptocurrencies, reverse cryptocurrencies and cryptocurrency indices.
The fiat currencies include the U.S. dollar (sUSD), the euro (sEUR), and many others, while commodities include synthetic gold and synthetic silver, both measured per ounce. Among the cryptocurrencies there are bitcoin (sBTC), Ether (sETH), Binance Coin (sBNB) and others, while the inverse Synths track the price of some cryptocurrencies in reverse, meaning that they rise if the underlying falls, and vice versa. Whereas the current indices are sDEFI and sCEX, and their reverse, which respectively track a basket of DeFi assets and a basket of centralized exchange tokens.
As revealed by the authors themselves, the system is not risk-free. Synthetix is a complex and experimental system, and this necessarily implies several issues that have yet to be investigated and analyzed in their entirety.
For example, those who lock SNX to create Synths run a risk because of exchange rate variations within the system. That is, one could run the risk of having to burn more Synths than those that have been minted, in the case of SNX tokens being issued and unlocked, and although many investors are aware of these risks, they arise from price fluctuations beyond the control of the platform.
In addition, some aspects of the system are still centralized, considering that it was decided in this phase to provide an efficient implementation of the project, and a certain ease of updating. For the moment this requires users’ trust in the team, but over time these centralized aspects will be removed.
Several new types of Synths will also be added in the future, including leveraged assets, indices like S&P 500, or stocks like AAPL and TSLA. The development team also expects to launch the possibility for traders to also use synthetic futures on the DEX. Leveraged trading could attract a large number of users, as it is already responsible for a significant share of the trading volume in the crypto markets.
In addition, while the current version of Synthetix.Exchange only supports market-type orders, which significantly reduces the usability of the exchange, in the future a more advanced order engine may also support limit, stop loss, stop limits and other types of advanced orders.
The goal is to become a leader in this market by offering a large number of tradable assets, and considerable liquidity, a bit like Binance did in the centralized exchange market. The fact is that, to date, DEXs have never managed to attract a number of investors even remotely comparable to centralized exchanges, with trading volumes that pale in comparison.
However, if a DEX offers a great choice in the number of tradable asset pairs, good liquidity, advanced trading tools, as well as the fact that it is non-custodial, anonymous, and without intermediaries, it could actually develop a leading role in the crypto markets.