Introducing Ithil’s call option model: say goodbye to liquidity mining

Discover the sustainable way to incentivise and reward early liquidity providers.

In our previous essay, we clearly established that liquidity mining is not a sustainable way of incentivizing liquidity, nor is it suitable for onboarding LPs as DAO members / governance participants.

Today, we explore a novel method of attracting, rewarding, and maintaining capital: the call option model.

Note: this article was approved by our Resident Quant ™

What is a call option?

In traditional finance, a call option is a financial contract that gives the option buyer the right, but not the obligation, to purchase an asset or instrument at a specified price within a specific time period.

Let’s look at an example. At the time of writing, Tesla shares are trading hands for ~180$ each. You think that Tesla is a great company, and you’re confident that the price of their shares will increase again. However, you don’t want to spend all of your money buying spot $TSLA. Instead, you can purchase call options.

You choose to buy 10 “at the money” options, which grant you the option to buy Tesla shares at the same price ($180), with an expiration date (the latest date at which you can exercise your options) one month from now.

Obviously this flexibility comes at a cost, as it can give you significant profits while limiting your potential losses. To avoid complicated explanations, let’s just say that the price your pay for this flexibility would be $1 per option.

If the share price starts to rise and hits 200$, you can exercise your call options and purchase 10 $TSLA shares for 180$ each. If you sell them immediately, you pocket 19$ net profit per share. You earn 200$–180$=20$ per share, from which you have to subtract the 1$ you paid for the option, so your final profit is 19$. This would yield a total profit of 19$x10=190$.

If the price goes down, your maximum loss would be 1$x10=10$, the cost of the options.

TL;DR:

Call options grant you the right to purchase shares or tokens at a different price from the market price, ideally this means an opportunity for a discount/profit!

How do Ithil’s call options work?

Ithil is web3’s financial interoperability layer — we’re not dealing with boomer technology here. This means our call options work in a different way than boomer stonks. Their intent is different too: rather than a speculative financial instrument that can be purchased, our call options exist to reward Ithil’s liquidity providers in a sustainable way.

This is how it works: Ithil’s call options also give the holder the right, but not the obligation to buy Ithil tokens. The option gives the buyer a discount that grows over time.

Ok, you might ask, so how can I obtain call options for Ithil tokens? Good question. The short answer is of course: by providing liquidity to Ithil’s Vault. The long answer is slightly more complex.

The token boost model

It starts with Ithil’s governance: the community can vote to enable the boost model for any supported ERC20 token. When a token is enabled for boosting, anyone can deposit the token to Ithil’s Vault and renounce the APY they would normally receive from providing liquidity.

The yield from their deposit will instead be distributed among the normal depositors, who receive a boosted yield — hence the name “boost model”.

This feature is very useful to bootstrap new token Vaults, since the combination of (relatively) low TVL and boosted yield will create super high APYs that will attract a lot of depositors.

Call options as LP rewards

Naturally, no one will renounce their yield and expect nothing in return. Indeed, as a reward for boosting, the depositor receives an NFT wrapper that acts as a call option.

This NFT entitles its owner to redeem an increasing amount of ITHIL tokens, with a discount that grows in proportion to the duration of the deposit. The redemption mechanism works by exchanging the deposited liquidity for Ithil tokens, essentially purchasing them straight from Ithil’s main Vault.

If for whatever reason the depositor decides that they don’t want to exercise their call option, they can at any point in time still withdraw their liquidity from the vault and burn the NFT representing the call option.

Differences between liquidity mining and call options

Incentivising liquidity is useful and often necessary — we are not here to do away with it. Instead our aim is to do it in a sustainable manner, without creating hyperinflation — we’ll leave that to central banks and other Ponzi's.

So which are the important differences between call options and liquidity mining?

Discounts instead of dumping

There is no free lunch (there never is any, anyhow). We don’t print tokens and award them directly to LPs. Instead, tokens have to be purchased from Ithil’s main Vault — with a discount of course, the call option is still a reward.

However, as the call option is an NFT, it can be traded. This means that it’s possible to create a secondary market of products built on top of these call options, for example through tranching. As such, LPs can profit from their deposit without redeeming the option. This prevents selling pressure on the ITHIL token.

Loyalty is rewarded — but not enforced

Rewards grow over time, instead of diminishing. Usually, liquidity mining APYs start high, and drop exponentially over time. We do it the other way around: the longer someone has been LPing, the more value they’ve provided to the ecosystem, and so the larger the discount that they will receive. This accomplishes two crucial things:

1. It incentivizes a long-term commitment to the ecosystem — without the need for 4-years lockups. In fact, users can still withdraw their liquidity at any time without any penalty — it’s an option after all.
2. It prevents predatory capital from aggressively farming and dumping tokens.

Conclusion

By using a slightly modified version of a classic financial instrument, it becomes possible to reward liquidity providers without creating hyperinflation or immense sell pressure.

Therefore, we see call option rewards as an ideal replacement and upgrade for liquidity mining. It eliminates all issues, retains the most important benefit, and adds several new ones.

Finally, it provides a very attractive *ahem* option for people or organisations that want to become governance participants of Ithil’s community.