A vToken is a staking wrapped asset, provided by Bifrost, that maintains security in PoS networks by requiring validators to stake assets like in Kusama’s network, which requires validators to stake KSMs. Another vToken definition is a transferable redemption certificate provided by Bifrost’s SLP. Although yields are present in PoS Staking, the staked assets are locked and inaccessible for a period (7 days for KSM and 28 days for DOT), thus exposing the user to the risk of price fluctuations in the secondary market.
Bifrost’s SLP protocol provides a liquid staking service. When staking on the PoS network through the SLP protocol, users receive a wrapped asset called vToken. Thus, vTokens are essentially transferable redemption certificates provided by Bifrost’s SLP.
The SLP protocol issues a tradable passbook, or vToken, which is like a fixed deposit in a bank.
vToken employs a decentralized escrow mechanism, eliminating the risk of human control. vTokens represent staked assets held in Bifrost’s system account, which are not subject to third-party control or manipulation by the Bifrost team. Authority lies solely with the BNC holder and governance resolutions established by the code deployed on the Bifrost chain.
As a parachain, the Polkadot/Kusama relay chain bolsters Bifrost’s security, making the likelihood of a Bifrost chain reorganization negligible. As such, vToken holders can confidently retain their tokens, which always represent the original token and are redeemable at any time.
There are two methods to obtain vToken: Mint and Swap. To illustrate, let’s consider vKSM. You can mint KSM to vKSM, where the system utilizes your KSM for staking and generates vKSM based on the current exchange rate. The exchange rate is a fixed value at a given time, irrespective of the number of mints made. Over time, it will increase as Staking gains accumulate.
Alternatively, you can exchange KSM for vKSM, backed by an AMM pool. The exchange ratio is impacted by the number of tokens exchanged, leading to a price shift.
The choice between Mint and Swap depends on the specific situation. To obtain the maximum amount of vTokens, consider which method is more cost-effective. You can input the number of tokens via the front-end, and the system will estimate the vToken amount. The difference is negligible due to arbitrageurs. However, if you intend to deal with a considerable amount of assets, Mint is preferred over Swap. A substantial token number could cause a significant price impact, resulting in fewer vTokens.
vToken is an interest-bearing asset that is equivalent to holding Staking Token. With vToken, users earn passive income without any active operation. Unlike Staking Token, vToken can be easily transferred or sold, allowing users to accumulate earnings without worrying about the liquidity risk of locking up their positions.
Furthermore, vToken combined with a Token to provide liquidity to the AMM pool of vToken/Token, generating transaction fee income through liquid farming. vToken holders can engage in farming and LP Farming activities to improve their yields. Bifrost is also developing more vToken usage scenarios to improve the asset’s performance.
Bifrost’s system is fully decentralized and managed through code, mitigating human risk. Our system account hosts a variety of farming programs that allow users to provide farming assets. The asset security, including the Staking assets corresponding to vToken, depends on the Polkadot/Kusama relay chain and is not controlled by any third party, including the Bifrost team. While participating in LP farming carries a risk of impermanent loss, other farming options, such as single-asset farming, have no risk from a coin-based perspective.
Although there’s a risk of impermanent loss, the transaction fee income benefits outweigh the disadvantages.
Here’s the description of impermanent loss:
When you provide liquidity for an A/B pair, you provide two assets, A and B, in a certain ratio, assuming a total value of p. However, the price of A/B fluctuates, and when fluctuations occur, the total value of liquidity (A and B assets) you can get back is q. q is always less than p, and p-q is the impermanent loss!
When the price does not fluctuate, p = q, there’s no impermanent loss.
If we assume that the price of A/B, despite fluctuations, always returns to its initial price upon liquidity provision, then this loss is temporary and non-permanent, hence impermanent loss. For most asset trading pairs, this assumption is not reliable.
To minimize the risk of impermanent losses, many smart LPs provide liquidity to stablecoin trading pairs (e.g., USDC/DAI) as they have low volatility and stable return.
While vToken/Token is not a stablecoin trading pair, both assets have low volatility, and their prices revert to the minting rate. Although the minting rate rises as Staking yields accumulate, this move is slow, and the gains from transaction fees can fully cover the impermanent losses from the rate move.
Providing liquidity for vToken/Token will earn LP Token, and the Bifrost farming area will launch LP Farming activities from time to time; pledging LPs can earn additional income.
This is how vToken payout revenue works. As the minting exchange rate rises, the redeemable vTokens in your possession will continue to increase.
Consider KSM:
In the initial state of SLP deployment, the minting exchange rate of vKSM/KSM is 1:1, i.e. 1 KSM mints 1 vKSM, but this 1 KSM continues gaining after participating in staking, and the yield will become 1.01 KSM after staking. Your 1 vKSM can redeem 1.01 KSM, and the extra 0.01 is the Staking gain.
Since the vKSM/KSM exchange rate has changed, another user minting vKSM can only mint ~ 0.99 vKSM for 1 KSM, so it’s fair to every minting or redeeming user.
