f(x) Protocol : A New Capital-Efficient Stablecoin for Yield Farmers

11 min readDec 6, 2024

By Kazuma, the Researcher from BlockBooster

Most decentralized stablecoins in the market tend to be inefficient, often requiring more collateral than is required, largely due to the volatility associated with the underlying reserves. This inefficiency inhibits the stablecoin’s ability to scale and be used by crypto natives daily. But what if there was a stablecoin that strips away some of that volatility and offers it to users who are willing to want increased volatility through leverage? f(x) protocol is a new DeFi primitive that aims to do just that by splitting the collateral into both a lower volatility token, which forms the backing of their stablecoin, as well as a higher volatility token, which offers leveraged returns on the price movements of the underlying asset. The protocol’s main stablecoin, fxUSD, is pegged to the value of the US dollar and is built on top of its original split token design, utilizing ETH as the underlying asset.

In 2024, f(x) Protocol has grown its Total Value Locked by 273% from $15M to $56M today. The platform has also introduced a variety of other stablecoins that utilize the same mechanism but with different collateral assets. For instance, rUSD and btcUSD have both been issued, backed by liquid restaking tokens (LRTs) and bitcoin, respectively. Earlier in June 2024, f(x) introduced an auto-compounding version of rUSD, known as arUSD, which allows users to also earn points from the underlying LRTs.

With the resurgence of the DeFi sector, the platform is now preparing to launch its V2 in December and has teased a sneak peek of its whitepaper.: Project partners such as StakeDAO and Convex are also eagerly awaiting the latest version of f(x) Protocol:

As of 5 November, f(x) Protocol has finally revealed the whitepaper for its V2, which shifts the focus more towards leveraged xPositions as a means for promoting further utility for fxUSD, as highlighted by some of their new key features below:

Higher variable leverage on xPositions: The current version of xPostions allows users to obtain a variable leveraged position on the underlying reserves using X-tokens. However, this ratio can fluctuate based on the demand for fxUSD. On the other hand, V2 lets users directly open fixed xPositions with up to 10x leverage without having to mint the X-token in their wallet. To facilitate this higher leverage while maintaining the system’s stability, the protocol automatically mints a specific amount of fxUSD through a flash loan, such that the total collateral for the xPosition position matches the user’s chosen amount of leverage.
No individual/ full liquidation risks: f(x) V2 helps xPosition holders to manage their positions and avoid full liquidations by incorporating a Rebalance mechanism, where some of the minted fxUSD will be automatically redeemed to recover the position if it reaches the preset Rebalance threshold.
Real revenue through USD-based Delta-Neutral Stability Pool. f(x) V2 introduces a new Stability Pool for stablecoin farmers where users can deposit USDC or fxUSD in one click to help maintain the system’s stability. Unlike the V1 Stability Pool, where holders must repurchase the underlying reserves, the V2 Stability Pool acts as a peg stabilizer between USDC and fxUSD, ensuring that the value of user deposits remains denominated in USD. In this new Stability Pool, participants earn new income streams through arbitraging price discrepancies in the fxUSD/USDC AMM pool and trading/rebalancing fees from X-token traders without having to perform or manage complicated strategies.
Zero funding fees for specific assets.

To better understand these latest updates and how they will help fxUSD to truly become a scalable and high-yielding decentralized stablecoin, let’s take a deeper look into the current state of f(x) Protocol and its underlying technology.

How Does fxUSD Work?

f(x) utilizes a dual token mechanism where the underlying deposits are divided into fxUSD (USD-pegged stablecoin) and xPositions (leveraged position). In V1, users must deposit their assets first to mint either fxUSD or the xPositions in the form of X-tokens. Users can simply swap their assets directly into fxUSD using the CowSwap aggregator, which is capable of minting additional stablecoins to facilitate the exchange in case users want to swap large amounts or encounter high-price slippage.

In V2, fxUSD can be obtained directly through CowSwap via Curve’s secondary liquidity pools. The available supply of fxUSD supply is minted as a by-product of xPositions, which can now be directly opened without having to mint any additional tokens.

Key Mechanism of fxUSD:

User deposits stETH into f(x) Protocol to mint fxUSD or xPositions, where $1 worth of fxUSD is backed by $1 worth of fxUSD.
As the price of the underlying assets changes, the value that they can redeem from the reserve also changes, but xETH will absorb the volatility first to make up the difference.
If the price of ETH drops, the value of the X-token/xPosition will also plunge to a larger degree since xETH functions similarly to a leveraged position, while fxUSD will remain close to its peg of $1.
If the price of ETH increases — the system remains fully collateralized, while xPosition holders enjoy leveraged returns.

To further maintain the stability of fxUSD, users can deposit stablecoins of liquid staked assets into a stability pool to earn the native staking yield from stETH, as well as emissions in the form of the protocol’s native FXN token, with the inclusion of trading fees in V2.

Unique Strengths of f(x) Protocol

As so many decentralized stablecoins exist, such as DAI and LUSD, the market for such a product has become highly competitive, and it is difficult for new protocols to gain market share. In its effort to attract capital and users from long-standing stablecoin protocols, f(x) Protocol boasts several innovative design choices that have allowed its stablecoins to grow at an impressive rate:

No over-collateralization required: Unlike other decentralized stablecoins that require over-collateralization to offset the volatility of the underlying reserves, the dual token design of F & X tokens helps to skew the impact of price movements towards the X-token to create a stable-leverage pair. The stable pair can then be used to form the back fxUSD at a 1:1 ratio.
Diverse but isolated backing: The backing for fxUSD consists of $1-pegged stablecoins from a basket of whitelisted liquid-staked token (LST) stability pools. However, the main fxUSD reserve is separated from the stability pools for those LSTs. This allows f(x) Protocol to mitigate risks of utilizing a single and to allow the market to efficiently capture arbitrage opportunitie that may arise from LST depegs.
Aligned incentives for maintaining stability: In most cases, all of the native staking yield from LSTs used as collateral goes back to the depositors who wish to mint stablecoins, regardless of whether the stablecoin remains in the ecosystem. However, f(x) protocol flips the script and offers a share of the yield to users who choose to maintain the stability of the protocol with their minted fxUSD. Paired with token emissions, this helps to align incentives between depositors to ensure the health and growth of the protocol.
Simpler way to obtain real yield on stablecoins: For users interested in generating transparent returns on their stablecoin holdings, fxUSD offers a more efficient method to access multiple sources of yield from the underlying staked ETH reserves of f(x) Protocol, as well as FXN token emissions, which will be fully emitted over 50 years. As mentioned, V2 will also fuel further growth of sustainable yield from xPosition traders, such as fees for opening/closing X-positions.

To further protect the peg of its stablecoins, f(x) also features a unique combination of risk management strategies and mechanics:

Utilizing X-tokens/xPositions as the first line of defense against volatility helps absorb price movements, maintain the stability of the F-tokens, and offer a suitable leverage product for crypto degens.
Should there not be enough X-tokens to endure the price impact, then a portion of F-tokens will be redeemed from the stability pool. From a user perspective, this is similar to a liquidation, where you must buy back the underlying collateral at the current market price. In exchange for taking on that risk, the protocol incentivizes staking by offering yields from the underlying staked product and token emissions.
In an extreme black swan event or flash crash, X-token holders will not be liquidated in the traditional sense. Instead, its value will go to zero, and F-tokens will have the sole claim on the underlying reserve. This also means the F-tokens will experience 1:1 volatility as the underlying asset. However, should the protocol be able to restabilize, X-tokens should regain their value, and F-tokens will revert back to a lower volatility token.

Comparison of fxUSD vs Other Stablecoins

Most major stablecoins in the market today are pegged to the US dollar, and they largely rely on near-identical mechanisms to maintain that peg. However, they often differ in terms of the types of collateral, market size, and how well they are integrated within the larger crypto ecosystem. Below are some of the similarities and differences of fxUSD compared to other stablecoins in a few key aspects:

Collateral: While the DAI stablecoin was built on top of collateralized ETH positions, the rise of the liquid staking narrative has seen newer stablecoin issuers using LSTs as collateral on stablecoins such as mkUSD by Prisma and eUSD by Lybra. This allows such protocols to offer yield-bearing stablecoins, redistributed from the ETH native staking yield. fxUSD has followed this trend by utilizing multiple LSTs as its primary reserve. On top of that, f(x) Protocol has also allowed liquid restaking tokens (LRTs) and popular DeFi tokens, such as CVX to be used as collateral for their respective stablecoin on the platform.

Collateral Ratio: Most decentralized stablecoins that utilize a volatile asset for collateral, such as ETH, typically require over-collateralization for users to mint. This means that users will have to lock up a certain amount of assets valued larger than the amount of stablecoins they are planning to mint/borrow. Depending on the type of asset, this ratio can vary anywhere from a minimum of 110% on ETH to even higher for more volatile tokens. However, fxUSD can offer a 100% collateral ratio, where its stablecoins are backed at a 1:1 ratio with its reserves, achieved through their dual-token mechanism.

Adoption & Integration: Larger stablecoins such as USDC, USDT, and DAI have long existed and are deeply integrated within crypto and DeFi, providing multiple use cases for users across various blockchains. These stablecoins have become the go-to option for veterans and new users, especially when readily accessible through CEXs. Although fxUSD is native to Ethereum, the protocol can access deep liquidity and promote growing use cases through further integrations with prominent DeFi protocols on the mainnet, such as Spectra, StakeDAO, and Convex Finance. But, compared to USDT, USDC, and even DAI, fxUSD is still far from the adoption level required to become a suitable option and trading pair for both CEX and DEX users.

Price Stability: USD-pegged stablecoins backed by safer assets such as US treasuries are generally considered more stable than those backed by crypto or algorithms and are usually valued at close to $1. Yet, this does not mean that have successfully maintained its peg throughout its lifetime. On many occasions, USDC and USDT have also depegged during periods of high volatility or black swan events since 2017. Decentralized stablecoins are no exception and are more at risk of depegging during these situations. So far, fxUSD has largely retained its peg, but it is still a new stablecoin, and its limits have yet to be fully tested.

Market Cap: Since its launch, the circulating market cap of fxUSD has grown to around ~$10M, which is insignificant when compared to the likes of DAI, which has more than $3.3B worth of stablecoins in circulation. However, this merely signifies that fxUSD has plenty more room to grow and achieve greater adoption among crypto users. Although it has only been less than a year since its launch, fxUSD has already overtaken other smaller decentralized stablecoins like Lybra’s eUSD and is slowly catching up to the rest.

Risks and Challenges for f(x) Protocol

As mentioned previously, is not easy to launch a new stablecoin in such a competitive environment, and f(x) Protocol faces several obstacles in its efforts to increase the adoption of fxUSD:

Fierce competition from larger, more established issuers: Despite its innovative mechanism, fxUSD has only grown to a market cap of just $10M, which is just a fraction of other older and more battle-tested alternatives such as DAI and FRAX, and even smaller still compared to centralized options such as USDT. These issuers have built up trust and recognition among crypto users over a longer period of time, making it harder for fxUSD to become the stablecoin of choice in the space. However, with the latest changes, f(x) aims to promote the image of fxUSD as a ‘real yield’ stablecoin by optimizing for xPositions. The fees generated from xPosition traders allow f(x) to create a sustainable yield flywheel to attract idle capital farmers, which further fuels the growth of its ecosystem while increasing the adoption of fxUSD for daily use along the way.
New primitives carry outsized risks: As one of the newer stablecoin protocols, users are more wary of parking their idle capital into protocols that have not been stress-tested in the real market environment. Additionally, utilizing a new primitive risk exposure to vulnerabilities that may have been undetected in the protocol’s early years, even though it has been audited.
Lack of incentivization and utilization: Older stablecoins have been integrated across various DeFi protocols and blockchains, making them useful for a wider range of transactions, including on lending platforms, where average yields have increased during this current market environment. Currently, fxUSD is native to Ethereum and is largely used within its own ecosystem, making it unattractive to crypto natives due to its limited use case. However, most stability pools on f(x) Protocol currently offer higher yields for its stablecoins compared to other platforms, and with its new V2 yield flywheel from xPositions, Stability Pool participants will be able to generate greater yields from position and AMM fees, which fuels further growth for fxUSD.

Despite these challenges, the current state of crypto is ripe for f(x) to capture the incoming wave of new and existing market participants. With fxUSD positioning itself as the alternative for users to access multiple sustainable revenue sources and accessing zero-liquidation leveraged positions, the stage is set for f(x) V2 to further compound on its success so far.

About BlockBooster: BlockBooster is an Asian Web3 venture studio backed by OKX Ventures and other leading organizations, aiming to be the trusted teammate of promising builders. We bridge Web3 projects and the real world through strategic investment and deep incubation.

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