The FXS token is part of the Frax Protocol, a stablecoin protocol that aims to create a stable and efficient digital asset. FRAX v3 introduces an innovative Real World Asset (RWA) strategy designed to maximize returns from the U.S. Federal Reserve System’s Interest Rate on Reserve Balances (IORB) while minimizing maturity risk. This article will introduce in detail the RWA strategy of FRAX v3, the sFRAX pledge vault and how it operates.
Real World Asset Strategies for FRAX v3
FRAX v3 utilizes a Real World Asset (RWA) strategy that activates when the IORB oracle reports high interest rates. FRAX v3 only utilizes assets with returns close to the IORB rate and minimal duration risk. Currently, only the following assets are considered unless the frxGov process changes:
short term treasury bills
Federal Reserve Overnight Repurchase Agreement
U.S. dollars held in the main account of the Federal Reserve Bank
Shares of Select Money Market Mutual Funds
FRAX v3’s cooperative custodians mainly focus on the above-mentioned assets. RWA partners must report at least once a month on the custody, brokerage, banking and trust arrangements used in holding these assets. FIP-277 establishes FinresPBC as the first RWA partner for FRAX v3. FinresPBC will focus on securing “cash equivalents” low-risk RWA and optimize backing the sFRAX pledged vault with yields close to the IORB rate. Additional RWA partners can be introduced via frxGov governance votes.
sFRAX Staking Vault
Target IORB interest rate: Staked FRAX (sFRAX) is an ERC4626-based staking vault that allocates a portion of the Frax Protocol’s earnings to stakers every week, with the earnings denominated in the FRAX stablecoin. sFRAX tokens represent pro-rata deposits within the vault, and FRAX stablecoins can be withdrawn at any time at a pro-rata rate. sFRAX's Annual Percentage Yield (APY) attempts to roughly track the U.S. Federal Reserve System's Interest Rate on Reserve Balances (IORB) rate, a benchmark rate widely accepted as the "risk-free rate" for the U.S. dollar. FRAX Collateral Vault attempts, but does not guarantee, to achieve this rate target in any way.
How sFRAX Vault Works
The APY of sFRAX vaults is based on a utilization function that can be set by the frxGov governance module. Currently, the highest end of the utilization curve is 50% APY, and theoretically there is no bottom. As more FRAX is staked into the vault, the protocol will attempt to deploy FRAX to DeFi governance-approved AMOs/strategies as well as RWA sources whose yields are as close to the IORB rate as possible to keep the bottom APY close to the IORB target.
Every Wednesday at 11:59:59 UTC, Frax Protocol will add newly minted FRAX stablecoins to the sFRAX vault. These newly minted FRAX are proportional to Frax Protocol’s earnings in the previous week and are therefore fully backed at 100% CR. Each sFRAX epoch is 1 week, the same length and start time as the FXS meter and sfrxETH epochs. The protocol does not guarantee that deployed capital will come from any specific type of asset, and the frxGov governance module will control the deployment path and asset type of sFRAX proceeds.
Sources of income for sFRAX: The income from the Staked FRAX vault mainly comes from the real world assets (RWA) strategies used by Frax Protocol’s partner custodians, including but not limited to FinresPBC.
in conclusion
The real-world asset strategy of FXS tokens and FRAX v3 provides investors with a low-risk and stable source of income. By utilizing short-term U.S. Treasury bills, Federal Reserve overnight repurchase agreements, U.S. dollars held in master accounts at the Federal Reserve Banks, and shares of select money market mutual funds, FRAX v3 is able to maximize utilization of IORB rates while minimizing maturity risk. The sFRAX pledge vault further provides investors with a stable and efficient income mechanism, allowing them to obtain stable income in the DeFi world.
The successful implementation of this strategy will depend on the governance model of FRAX v3 and the selection of partners. More RWA partners may join in the future to further enrich and optimize the asset allocation of FRAX v3. In any case, the innovative strategy of FRAX v3 brings new possibilities to the stablecoin market and deserves close attention by investors and market participants.