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Last updated: Aug 14, 2023
Defrost Finance allows its users to utilize LP tokens and other pool tokens from various Avalanche and cross-chain protocols as collateral, to create H2O – an Avalanche-native stablecoin with a soft-peg. Through the protocol users can improve their capital efficiency from assets locked in pools or vaults, since it allows them to provide liquidity to gain additional yields from incentives such as farming, borrowing, staking, swapping, or providing bridge support for convenience when trading.
The stablecoin H2O is backed by existing collateral with a soft peg to one USD, the token can be minted by depositing various LP or pool tokens as collateral, and aims to become not USD-backed but releasing more liquidity from LP tokens. The stability of the coin is not controlled by a central party, nor does it rely on any centralized authorities. All of the circulating supply of H2O is generated from vaults in Defrost smart contracts and has the same use as any other cryptocurrency.
One of the main factors driving the value of the H2O stablecoin is the over-collateralization. The Defrost vaults facilitate the minting of H2O against locked-up collateral and have a minimum collateral ratio that users need to uphold in order to avoid their positions getting liquidated. The aforementioned ratio varies by vault type, generally, a high collateral ratio in a vault means low leverage and low liquidation risk, whereas riskier collateral is likely to have a higher minimum requirement.
Users can deposit and withdraw LP tokens or borrow and repay H2O stablecoins when the collateral ratio is above the needed minimum. However, if the ratio is at the minimum or falls below it, the liquidation is open to a third party.
The amount of H2O which can be minted is calculated by dividing the value of the collateral by the minimum collateral ratio. Since these calculations depend on prices fed by oracle contracts, the Defrost platform uses third-party protocols such as Chainlink to provide for these needs.
The protocol’s vaults smart contracts are used to generate H2O through leveraging any accepted collateral assets, and also to burn H2O when users repay their generated H2O balance. Since the process of minting happens entirely on-chain, anyone can audit the amount of circulating H2O as well as the collateral backing it. The minimum amount of H2O tokens which can be minted is 200. In order to withdraw the collateral staked in a Vault, users need to pay a Stability fee.
The Stability fee is essentially the borrowing interest of H2O, it aims to address the inherent risk in generating H2O against collateral in the Defrost Vaults. Each vault type may have a different fee depending on votes from MELT token holders, which govern the protocol. The fee is calculated and can only be paid in H2O. The fees are collected into the Reserve pool continuously to be used in powering the interest in the Saving Pools as well as insurance for the protocol deficit in extreme market movements. It can also be distributed to staked MELT holders directly or for MELT market buy-backs.
The platform utilizes a savings pool mechanism that is designed in a way that enables users to lock their H2O into them at any time, to have the assets continuously accrue interest denominated in H2O to the user’s balance, based on the current H2O Savings Rate. There are neither withdrawal nor deposit limits, nor any liquidity constraints regarding the Savings Pool smart contract.
The savings rate is variable and depends on accrual earned by locking H2O in the Saving Pool smart contract. Holders of the token earn savings automatically while retaining control of their H2O. The rate is set by MELT token holders through governance voting and can be viewed as a monetary policy tool aimed to influence the demand for H2O.
The process of liquidation consists of selling collateral to cover the amount of H2O a user has generated from the Vault. Since a Vault can be liquidated if the value of its collateral falls below the minimum required level, during the liquidation process enough collateral is sold to cover the debt along with a liquidation penalty, but the remaining collateral is left available for withdrawal. Any third party can choose to pay part of the H2O debt thus implementing the liquidation, in exchange for being able to obtain ownership of the equivalent amount of the collateral.
The platform also utilizes Super Vaults, which are a next-generation vault allowing users to earn further rewards from three sources – embedded rewards in LP tokens, similar to interest or transaction fees, mining rewards distributed by interoperated projects, and MELT rewards for minting H2O and providing liquidity on Curve. Recently, Defrost introduced Super Vault II whose main difference from the previous Super Vault is that it has a “ticket” for users who wish to join, paid in MELT, and proportional to the LPs deposited. The MELT charged in the form of a fee for entering the Vault is burned.
Through the Defrost Finance app, users can leverage their LP or other pool tokens, which can further be used as collateral to provide loans paid in the form of H2O. This happens by connecting a wallet with Defrost Finance’s app, choosing the desired pool tokens to be deposited into the platform’s Vaults. Users can create a Vault by powering it with a specific type and amount of collateral used to generate H2O. In exchange for keeping their collateral locked in the Vault, users can generate a specific amount of H2O as long as it is within the collateral limit. In order to retrieve the collateral provided, users need to repay the minted H2O, plus the Stability Fee Defrost Finance charges. The returned H2O tokens are burned and the Vault remains empty until the user chooses to make another deposit.
The liquidation process happens in the following order. First, the protocol detects a Vault is falling out of the collateral requirements and triggers a liquidation. Positions opened for liquidation can be found on the dApp interface. All of the collateral is put up for liquidation to cover the outstanding H2O debt plus the Liquidation Penalty. The first user to get the transaction on-chain in the liquidation process is considered the final liquidator of the vault and earns the Liquidation Reward, once the liquidation is complete. The reward is in the form of an equivalent amount of the collateral since the liquidator’s H2O is burned. The original owner of the Vault receives any remaining collateral from it after the liquidation process is finished.
To use Defrost’s Super Vault, users need to deposit their LP tokens into them and then into the current vaults contract. The Super Vault smart contract doesn’t change any current mechanism and its contract cannot be upgraded. Through it, users receive fees from the LP tokens on the original platform plus rewards from the original platform and MELT rewards from Defrost, as well as fees from the LP tokens on the Curve H2O pool. Upon launch of the feature the fee for using the auto-compounding mechanism is set to 20% of the generated rewards, however, the amount is subject to governance and can be changed. This fee is distributed in part to MELT token stakers, and in part stored as an operating fund.
H2O is a stablecoin issued by Defrost Finance, native to the Avalanche network, which can also be used as a leveraging tool. The token is minted by staking different LP or other pool tokens in a vault, with the requirement of constant over-collateralization. The H2O stablecoin can be used in the same manner as any other crypto coin, it can be transferred, used as payment for services or other assets, or it can be held as a hedge against market volatility, and more.
Since different pool tokens have different requirements of collateral ratios, the types of collaterals supported by the platform as well as their collateral ratio are subject to community governance. In order for a token to be approved for use on Defrost, it should come from proven safe protocols with relatively stable value.
The project supports cross-chain LP tokens by utilizing Wanchain’s cross-chain technology, which ensures decentralized and trusted cross-chain functions according to the Defrost team.
MELT is the governance token for the Defrost Finance protocols. Its total supply is 100,000,000 tokens and the Super Vault II feature of the platform constantly burns MELT tokens used as entry tickets.
Among the possible parameters to vote on in the projects’ governance, are approved collateral types, stability fees parameters, the H2O savings rate, liquidity mining incentives, and the minimum collateral rate.
MELT acts as the final safety fund for the Defrost Finance protocols. The token is bought back from the market and burnt when the platform reserves exceed a threshold. If the protocol is experiencing a deficit and the system debt exceeds a threshold, MELT in the stabilizer system is triggered and automatically auctioned for H2O in order to recapitalize the system.
Staking MELT tokens allows users to earn from the distribution of the protocol incomes, which are accumulated from the stability fees and liquidation penalties. The token can also be mined as an incentive for providing liquidity to the Defrost platform. In the future, the team behind the project plans to introduce more use cases of the MELT token, such as mining boosters, higher liquidation tolerance rate, NFT privileges, and discounts on protocol costs.
The Defrost platform was originally supported by the Avatar Fund and Wanlabs – which is the research fund of Wanchain. The co-founder and CEO of the Defrost Finance team – Michele claims the company’s motivation behind creating the project was the lack of a stablecoin native to the Avalanche ecosystem.
The company compares its security practices with the Mochi stablecoin (USDM) controversy claiming Defrost’s application of Dexes’ LP tokens, Curve AV3 LP tokens and Benqi’s lending pool tokens for backing up the value of the stablecoin is far superior to USDM’s practices. Furthermore, the Defrost team claims using yield-bearing assets for additional rewards and leverage may seem a big step, however, Defrost is still conservative enough to only include mainstream and widely accepted assets with deep liquidity. Another advantage the team takes pride in is that the protocols do not allow for price and supply manipulation, and whitelisted assets are public.
Defrost Finance audits can be found in the protocol dashboard on this webpage.
Besides collaborating with Avatar and Wanlabs which helped in the creation of Defrost, some of the first partnerships established by the platform include other Avalanche native platforms like Trader Joe and Benqi. There is also a collaboration with Curve. The team claims their main goal is to have a community-oriented project which is why there have not been any pre-sales, VC investments, or pre-allocation of the tokens to the team members.
Recently, Defrost announced their newest partnership with North Pole - a peer stable project on the Avalanche blockchain, which allows its users to borrow against their deposited collateral and receive their stable coin POLE. Defrost has also established partnerships with StakeDAO and Chainlink.
Currently, the team is working on listing the MELT token on more exchanges, and whitelisting more cross-chain assets for minting H2O, as well as providing H2O liquidity across other blockchains.
For Q3 and Q4 of 2022 Defrost plans to launch “Defrost Incubation Labs” to facilitate the growth of new crypto projects. There are also plans on releasing derivative products, leveraged farming programs, and integrating options trading.
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Last updated: Aug 14, 2023
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