UMA stands for Universal Market Access. The UMA protocol, built on Ethereum, allows users to create custom collateralized synthetic assets where underlying assets can virtually be anything. In other words, the UMA protocol allows the traders to trade in any asset using ERC-20 tokens without the user having to expose themselves to the original asset itself. Since the basics of UMA protocol has to do with synthetic assets, let us have a brief overview of what synthetic assets are and what they imply in the world of cryptocurrency.
What are Synthetic Assets?
Synthetic assets imply a mix of assets that follows the value of some other asset. For example, derivatives such as options, futures, and swaps are an asset class in itself, whereas stocks are a different type of asset class. With a mix of these derivative assets a synthetic asset can be created that follows the value of the stock. If an investor purchases a call option and sells a put option on the same stock, the investment is essentially following the price of the stock without the investor having to purchase the stock.
What are Crypto-Synthetic Assets?
Crypto synthetic assets follow this same logic. If we replace the role of the derivative assets in the above example with some crypto protocol, then we reach the formation of crypto-synthetic assets. In UMA protocol, users create such tokenized derivatives using ERC-20 protocol that provide them access to trade in traditional-finance underlying assets such as fiat currency, commodities, index funds, and other types of digital assets.
Types of Synthetic Assets to Create with UMA Protocol
- UMA’s Synthetic Token Builder: UMA’s synthetic token builder has been live on the Rinkeby Testnet for over a year now. Using this token builder, an investor can create tokens tracking the price of almost any other underlying asset. Let us have a look at the types of underlying assets that can be leveraged.
- One can create a tokenized synthetic asset tracking the price of the Chinese Yuan (CNY).
- One can create tokens that follow the price of TESLA’s (TSLA) stock. To make it synthetic one can go short on TSLA and sell that to another investor in the DEX willing to go long on it.
- One can also create a token that follows the performance of the S&P 500.
- Collateralization: The important thing to remember here is that these synthetic assets created on the UMA protocol are required to have collaterals. To be more specific, the users are required to have testnet ETH and testnet DAI to create these assets. The decentralized application in UMA’s synthetic token builder helps to create the token facility by launching a smart contract. As per the terms set in this smart contract, the user has to deposit DAI into the token facility to be able to mint synthetic tokens fully backed by the deposited DAI.
It is recommended to keep the token facility overcollateralized. It helps to ensure that the synthetic tokens are backed all the time. In turn, it instills confidence in the buyer who is buying these synthetic tokens.
- Decentralized Crypto Futures: Apart from enabling users to create custom collateralized tokenized synthetic assets, UMA protocol also helps to create smart contracts that represent levered crypto exposure. Essentially, it includes almost everything that can be expressed with decentralized futures, contract for difference or CFDs, and total return swap contracts.
- Yield Curves on Ethereum: Ytokens are synthetic assets collateralized by ETH that pays $1 worth of ETH at expiry. These YTokens can be implemented as a UMA protocol synthetic asset to create loans of fixed-term.
UMA’s Synthetic Token Builder Characteristics
Before moving into the operating mechanism of UMA protocol in greater detail, let us have a look at some of the signifying characteristics of UMA’s synthetic token.
- The tokens have a price identifier referring to the price of some external assets.
- Each of the tokens come with an expiration date. This is the date on which the contract is settled.
- The tokens have a mandatory collateralization requirement. Although we have already discussed the collateralization aspects, it would be useful to mention that the minimum threshold for over-collateralization is set at 120% of the value. It implies that if someone wants to issue $100 worth of synthetic tokens, the minimum collateral requirement is $120 worth of cryptocurrency.
The Tokenomics of UMA Protocol
The UMA token, developed on the ERC-20 protocol, is used to vote and settle disputes on the collateral liquidation claims. The total supply of UMA is a little more than 100 million tokens. As per the latest available data for October 2020, there are 55 million UMA coins in circulation. Let us have a quick look at the distribution of UMA tokens:
- 2 million tokens were sold during the Initial Coin Offering or the ICO.
- The founders of the projects have 48.5 million coins reserved for them.
- 35 Million UMA coins are used as rewards for the developers of the protocol.
- 14.5 million UMAs are designated for sales.
Built on the Ethereum ERC-20 protocol, UMA coins are protected by the proof-of-work hash function Ethash.
UMA Protocol and its Data Verification Mechanism
UMA protocol is sometimes referred to as the ‘priceless’ protocol. The term priceless derives from the fact that UMA does not need a constant price feed to operate its protocol. Instead of checking the price of the collateralized asset, the purpose of UMA is to encourage the users to constantly verify that the issuer of the token is appropriately collateralized.
If the user disputes the liquidation claim at any point in time, they can stake a bond in UMA tokens. This way, the token facility owner becomes a dispute. Upon intimation of such disputes, the DVM oracle of UMA is invoked to resolve the issue by verifying the price of the collateral.
If the DVM oracle finds that the liquidator has made an incorrect claim, he is penalized and the dispute is rewarded. On the other hand, if it is seen that the claim of the disputer was wrong, they lose their bond and the liquidator becomes the owner of all the collaterals.
The Governance Mechanism of UMA Protocol
UMA token holders have two major roles regarding the governance of the protocol. The first one is to vote on the price of an asset. The second one is to vote on proposed changes or upgrades to the protocol. The proposed changes or upgrades may include the introduction of new assets, removal of redundant smart contracts, and shutting down of smart contracts when there is an emergency.
In UMA protocol, 1 token equals 1 vote. To get any resolution passed, as the standard consensus mechanism, 51% of the tokens should vote in favor of the resolution or the proposal.
Inflation serves as the voting reward at the rate of 5% of the 100million initial supply. The distribution of the rewards happens in proportion to the percentage of staking out of the total volume staked.
The Latest Milestones of UMA Protocol
In the most recent development, the UMA protocol launched a new incentive program by the name of ‘Developer Mining’. The aim of the UMA protocol in launching this program is to reward developers who would launch successful products that gain use over time. This program will help UMA protocol to attract talented developers by giving them an avenue to bootstrap when the talented blockchain developers often do not find a conducive atmosphere that would help them to earn while they test out their product in the market for the appropriate product-market fit.
By paying out developer rewards proportional to the value of the total value locked, these developers would have a safety net helping them to survive based on the usefulness of their innovation. The total potential allocation in this program is as high as $250,000,000 which is the current currency value of 35% of UMA’s total token supply.
On September 10 this year, UMA protocol collaborated with trustless cross-chain bridge REN protocol to launch a yield dollar named uUSD backed by bitcoins. The collaboration also issued a joint liquidity mining program.
As per reports published on September 1, 2020, UMA protocol overtook Yearn.Finance and became the largest decentralized finance protocol on Ethereum. UMA protocol achieved the position by hitting US$1.3 billion in market capitalization. According to industry experts, the surge in the value of UMA protocol was driven by it achieving the highest APY pool for the SUSHI token. Among other factors, the incentivization strategies of the UMA protocol also played an important role in taking it to the top.