FEI DAO Investment Policy Statement (IPS)

Hello Tribe! :evergreen_tree:

After receiving community support for the creation of the PCV Diversification working group, @Eswak, @countvidal, @Matthew_Graham and me started to work on the defined objectives: (i) Investment policy and risk management strategy, (ii) Mechanism and process to manage PCV, (iii) Initial allocations to diversify PCV.

During these first 3 weeks of the working group, we prioritized building a faster solution to diversify PCV and proposed FIP-6 that will go to snapshot in the next days about buying stable coins. The code is under external audit and we expect it to be ready next week.

In parallel, we also worked intensely on the first version of the Investment Policy Statement. Today, we are very happy to share this with the community and open to receive feedback and contributions. :slight_smile:

We believe the IPS can be the governing document vital to the success of managing the PCV and it is very important to collectively build it with the community, incorporating different perspectives. The IPS is the compass we have to better navigate the future. :compass:

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Hi @Bruno,

An excellent write up on your points backed by research. I have a few questions:

Risk Tolerance
What made you come to the conclusion of the target TRIBE risk profile of volatility 3M of 5% and Expected Shortfall of 12%? Is this based on a comfortable risk appetite as discussed within your Working Group or is there certain sampling of users who are comfortable with losing over a certain percentage of their portfolio? There is a lack of causality explained in getting to these figures.

Asset Allocation
On a similar note, what made you come to the conclusion of the target desired allocation of assets within a 6 month timeframe (not not longer/shorter)? As experienced with the recent market moves, 6 months is an eternity in the crypto space. Therefore, can you please elaborate whether this time period includes other unmentioned factors such as code development to diversify, waiting for suitable times to enter the market, FIP-6 implementation, etc?

Stablecoins and other Assets
Can you please comment on:

  1. Whether it makes sense to hold small amounts (basket) of other algo stablecoins, subject to your performance criteria to be included;
  2. Whether it makes sense to hold other large-cap DeFi tokens in an indexed form (DPI) or in their constituents; subject to your performance criteria to be included;
  3. Preferred vehicle for asset to be invested in;

Risk Management
To make this clear to users and the community, can you please give an example of one asset that you can apply your methodology on as an example case. You can/should use some of your research from the FIP-6 assets on DAI/USDC.

Implementation
I disagree that by holding indexed tokens we will miss out on governance. Again, I quote the Index Coop model, their governance token can be used for meta-governance, based on the underlying shares and components of DPI, which influences the INDEX token.

Performance and Changes to the model
Can you please comment on how/if based on market conditions and other influencing factors, whether and how the IPS will be modified, and under what criteria will be used to ‘reweight’ the investment portfolio into other assets, if necessary. There appears no consideration on whether the investment policy should respond quickly/slowly to changes in DeFi and the wider cryptosphere.

Again, great work and looking forward to developing this.

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Thanks for the feedback, very good questions, @arcology !

It is an initial suggestion based on the scenarios we presented here: FIP-6 PCV Initial Stable Coin Investment - #32 by Bruno

We can have 5% of volatility and 12% of Expected Shortfall, If we hold in the future sth between 20% and 25% stables, for example. As the FIP-6 first investment would be around 15% of PCV we would not be far from this objective. One way of reaching this target would be to add a basket of decentralized stablecoins. We could also reduce this volatility by other means, adding less correlated assets, which is not so easy in the crypto world.

This was just a starting point and the intent is to gather the sentiment of the community about it.

Each proposal requires time to do a robust analysis, discussing with the community and voting. If we use the code from PCVSwapper, the coding part is more quickly. But when we are talking about providing liquidity to Uni V3, it will require more time to develop and audit it.

Usually, some funds, as endowments, establish the target allocation each year, others funds define a more permanent allocation limits. In our case we preferred to let this short period of 6 months, because, as you said, it is an eternity in crypto. We also preferred to let some flexibility with min and max, because each investment will depend on DAO specific analysis and vote.

The duration of 3 months would be the minimum possible period, as each quarter we need to do a review of PCV performance and will have more insights about its performance. I think 6 months is reasonable because the target allocation is flexible with minimum and maximum %. We can view more as a roadmap for the next 6 months instead of a determination. But If we feel the need to review with the quarterly reports, there is no problem in updating it.

I think so. The great differential for FEI is liquidity. So, holding a basket of other stables could help, by increasing the liquidity with them. The benefit for it, is facilitating current users of stablecoins to exchange for FEI. Additionally, it also helps to reduce portfolio volatility.

I would prefer to hold directly the large-cap DeFi token instead of the index, because of meta-governance. If we hold the index we cannot vote. “By holding tokens, FEI DAO can take advantage of meta-governance and influence other protocols’ decisions. As a stablecoin, Fei has a central role in DeFi, and meta-governance can be valuable to foster a thriving environment with other DeFi projects”.

Another benefit is that we could provide liquidity for the pair FEI/DeFi Token, making it easier for token holders to swap to FEI. It can be an attractive feature as many DeFi protocols have liquidity mining programs and some users may want to sell their governance tokens.

Did not get this one.

An example of this methodology was used for FIP-6 and selecting the DAI/USDC. The risk analysis of each token is here and the impact on portfolio risk metrics (volatility and Expected Shortfall) is here. If you need further explanation, please tell me.

Hmm according to the information I got with the team there, If we hold DPI we will not have voting power on DeFi protocols. Index Coop has the right to vote.

We expect the IPS to be periodically updated to reflect any major change in the TRIBE/FEI ecosystem and DeFi/crypto environment. By each quarter, we will have the opportunity to analyze PCV performance and discuss if it is necessary any change. In case of an unexpected event, we could also make an extraordinary revision of the IPS.

Thanks one more time for the questions and feel free to bring more points!

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You are doing great job @Bruno. Do not have free time as before to go thru, but whenever I go through your content, you present meaningfully and repond to community questions meaningfully. Community members can be technical or non-technical but you surely know how to respond :slight_smile:

I am faithful that the working group will become inspiration for other working groups. Growth is inevitable.

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Thanks for the clarifications.

There has been extensive discussions on the percentage allocation of the PCV to stablecoins (that I have participated in and can attest to) and the 15% seems to be a good balance. We will see how this plays out.

I also strongly suggest not just for utility purposes but for marketing and outreach that we include a small basket of other algo-stables for support. I have been advocating for an ‘alliance of algo-stables’ and we should use our position both in MCap and has a leader/first mover to create a joint liquidity pool as an alternative to DAI and other centralized stables - if we are serious about the ‘stablecoin for DeFi’ ideology.

I was mistaken regarding the use of DPI versus INDEX. INDEX is the token for meta-governance but DPI is a token with weighted constituents of the various DeFi blue chips. Personally I do not like the idea of holding separate tokens because of the added workload in managing all of them, but I would be open to having liquidity pools for a selected number of DeFi constituents.

The ‘preferred vehicle’ means what type of investment vehicle we should provide for said asset. For example, do we simply hold the tokens? Will it be within liquidity pools on Uniswap? Or will it be within another protocol (eg Yearn, Pickle) as a yield aggregator, hopefully with institutional advantages?

Again, thank you for taking the time to draft this, and looking forward on initializing the investment strategy, curious on what we would be discussing in the first Quarterly Report.

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Thanks for bringing more points to discussion, @arcology !

I think this idea makes sense. It will be good to analyze each stablecoin under the risk management framework defined on the IPS and see the result. Do you have any suggestions of stablecoins to consider on this basket?

Yeah, I agree, it is a tradeoff, in one side we have increased liquidity for FEI and meta-governance and in the other management simplicity. I would say especially for the lending protocols tokens that would be good to hold the token directly. The lending business is extremely related to Fei business. So, it could be good candidates to analyze, Aave and Compound, and zero coupon bonds projects as, Notional and Yield.

Index Coop is still discussing how to better use the voting rights from DPI.
Anyway, they see value on it. A “consistent, thoughtful and well-informed meta-governance participation is key to building trust with each of the protocols underlying DPI.

I think we have space for both, focusing on providing liquidity and earning yield. Liquidity is our competitive advantage, it is the great differential for FEI. So, we need to be capital efficient and provide liquidity to the most relevant pairs. I believe as LP capital efficiency grow we can have more assets earning yield.

In relation to yield, I think it is a good opportunity the stETH. Nexus Mutual approved and implemented it last week and they are staking now 15k ETH. They have a very interesting post regarding using Lido for earning yield on ETH: Investing the Capital Pool in stETH - Potential Protocol Changes - Nexus Mutual Community Forum

The current APR using Lido is ~6%. So, If we invest only US$ 50M, PCV would gain annually US$ 3M.

There are risks involved in ETH2 staking, so it would be good to have a low initial investment to test.

In general, I think we need to watch closely the movements from Nexus Mutual as they also hold a relevant amount of ETH. The crypto insurance business can provide some insights for PCV investments.

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Thanks for your kind words, @mans9841! It is just the beginning and I hope can inspire other groups. Communication with the community and building the solutions collectively is the way to succeed.

Hi @Bruno,

On Algo-stables
I was looking at the coingecko marketcaps for stables and I would suggest the following as a start (but not exhaustive):
FRAX, RAI, Float, sUSD, Terra and Liquity (not too sure about the last 3).
As Joey mentioned some time ago we can put all of this into a Balancer pool or leverage Rari to do this (see separate thread on Rari: White paper: FEI Lend)
Finally also would like your thoughts on how much we should invest into the stables pool? (I reckon anywhere in the ballpark of 2-4%)

On DeFi Blue Chips
No further comments, but if we are to hold blue chips in addition to Aave and Compound, I would also suggest Maker and YFI just to round it off, they each have a lot of intrinsic value so would be good to start with these 4.

On stETH
I’ve also mentioned in the Discord but Lido staked ETH is actually a good investment in the long run to capture (perceived) growth from ETH2 - great idea! Perhaps we can have a small pool into a stETH-ETH LP? I also agree on having an initial capped investment and then raising the cap by governance vote.

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Ok @arcology, I will include them in the list to analyze. I think it would be good to prioritize the most liquid.

I think it will depend on how risky and liquid they are. We can think about this decision later when we have more info about that.

As we discussed in the discord, let’s see the additional risks it brings and discuss with more community members to gather more perspectives.

I love the level of thought and detail put into this analysis and the overall commitment to the goals of FEI stability, liquidity, and growth in the Fei DAO. It is great that the community is putting together this document to have discussions and seek consensus around PCV management strategies. This is a good jumping off point for a broad discussion about what PCV is for and what it is not.

The first thing to consider is that there are inflows and outflows to the PCV that don’t occur in normal portfolios. FEI can be minted and purchased from the bonding curve when demand rises, growing the PCV through an external source. Likewise FEI can be burned and sold in the reserve stabilizer or reweights when demand falls. This to me is a primary metric and component of PCV composition that does not have a direct comparison to a portfolio.

Another consideration is that the primary purpose of the PCV is to support the function of FEI. Investments, although important, are secondary to maintaining the peg and ensuring adequate liquidity is available on the market. You do highlight this in the document, but the overall language and framing does not really capture this sentiment. Take the title of the document as an “Investment Policy Statement”, perhaps “PCV Deployment Guidelines” better captures our goals. Even using frameworks like mean variance analysis and comparing to benchmarks does not quite feel appropriate. PCV is not really a portfolio in the traditional sense, and the language and analysis in the doc should reflect that.

I do think we should be issuing reports on PCV composition, inflows and outflows. Having target percentages of various asset classes also makes sense. In my opinion, the deployments should be productive or tactical in nature such as:

  • providing liquidity
  • performing metagovernance on other platforms
  • Brand/vision alignment
  • Earning yield to grow PCV

The broader category breakdowns can be motivated by some level of diversification and risk management as well.

There is another important category of risk that you allude to multiple times in this doc which I think needs to be discussed in more detail: integration and security risk. As recent hacks in DeFi have shown us, the composability of DeFi comes with serious security implications. Given the nature of PCV, Fei Protocol needs to consider this risk with at least the same level of priority as the actual performance of the assets that have PCV allocated to them. Any strategy for PCV management needs to be heavily influenced by the security and decentralization models of the target assets/investments as well as the specific implications for Fei Protocol if things were to go south.

I would love to flesh out deployment sizing relative to overall risk thresholds in more detail as this would be a great framework to invite other teams to work with us on integrations. In general, its important to slowly ramp up liquidity and volume on new contracts and integrations. For example we might put a substantial portion of the PCV in a well established contract like Aave but not as much in newer protocols which aren’t as battle tested.

How does everyone feel about the framing that PCV is not an investment and that FEI supply and demand are key pieces of the puzzle?

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We discussed this earlier on Discord: a natural first step here would be to separate PCV into several funds with different purposes and hence different management policies:

  • Market-making fund
  • (multiple?) Yield fund(s)
  • (possibly multiple?) Extras/Moonshots fund(s)

managed differently with different inputs, like investable universe, risk profile, different portfolio models and different resulting deployment structures. Then in view of PCV’s global purpose of supporting FEI development monthly (quarterly) rebalances between those funds can be performed.

Now, an interesting question is whether we need anything but the market-making fund. Possible scenario: we mint new FEI against all assets above the collateralization level (maybe leaving it at ~110%) and use it to drive adoption/create new pools with new pairs on multiple markets. (Whether there will be enough demand is an open question — maybe the rebalancing level can be calculated from demand/trading volume data) Here the premise is that driving FEI adoption is the single best goal, printing money is the best yield strategy, all grants/growth stimulation efforts can be paid for with TRIBE, first from the Treasury and then through TRIBE emission: since with FEI adoption TRIBE price will also (supposedly) grow, we only need to make sure that quantitive easing doesn’t spur TRIBE inflation above certain level (0?). That’s also an interesting approach.

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Great, I will highlight this in the document. I think this can be the main driver for PCV growth.

It is true, I will adjust the framing. Although it is not a hedge fund, it can learn a lot from central bank experiences. A common term in central banking is Reserve Management, so I would propose here to call this document “PCV Management Guidelines”.

I will make some changes on this line, but I still think that is important to follow some risk metrics, as volatility for example. I think we have a long way before we can operate in an undercollateralized way. The demand for FEI needs to be robust and trust in TRIBE consolidated. I would say it can take years. So, I think it is important to follow these metrics.

I will let more clear on the document this part. As we saw with FIP-6, this motivations will be key to get passed allocation proposals.

I will include this in the smart contract risk section.

I think this document can have these guidelines and each proposal may refer to the guidelines and framework approved. The rules of the game would be clear and approved by the community.