Summary
- We propose a price impact mechanism based on utilization, diverging from Gauntlet’s recommendation of using trade size. We find the trade size approach ineffective, as trades can be split to circumvent the impact. Currently, we do not advocate for an imbalance-based mechanism to avoid making drastic changes to the protocol, which is already functioning well.
- We suggest setting the base fee at 8 bps for SOL and 7 bps for BTC/ETH, with an optimal utilization (Uoptimal) of 80% for all assets, aligned with Uoptimal for borrowing. We recommend a maximum price impact of 50 bps for SOL and 30 bps for BTC/ETH. This represents a reduction from current values at low utilization, making Jupiter highly competitive while collecting higher fees during peak demand. Close trades will always pay the base fee.
- For the borrowing rate mechanism, we’ve endorsed Gauntlet’s approach to a kink model but suggest higher borrowing values. Given the borrowing rates currently paid on the protocol, we see no reason to reduce the profits from fees significantly.
Current JLP State
Jupiter’s JLP pool is currently distributed approximately:
- SOL - 44%
- BTC - 10%
- ETH - 11%
- USDC - 26%
- USDT - 9%
Using historical utilization, the JLP index’s approximate delta ranged between 0.1-0.43, while 70-80% aggregate long and 10% short utilization are more frequent values, leading to a delta of 0.165-0.23.
*These values depend on the JLP assets’ distribution and assume the current values.
We aim to incentivize traders in a way that improves market balance, increasing short OI and subsequently raising delta exposure for JLP. Our approach is to make adjustments carefully, ensuring that we do not significantly disincentivize long OI, which could negatively impact trading volume and the fees collected.
Price Impact Fee Mechanism
Motivation
While the OI remains highly imbalanced, we do not currently recommend introducing funding rates and price impact as a function of imbalance. Such changes would significantly alter trading activity and pool behavior, incentivizing balanced OI and reducing borrowing fees in favor of funding. Maintaining the current borrowing rates while adding new funding rates would likely disincentivize volume and long OI, reducing collected trading fees.
Further attempts to balance delta exposure by aiming for a 50-50 target index for stablecoins and non-stablecoins in the JLP, alongside the kink model for borrowing rates, could lower the potential long OI. If LPs prefer a more significant positive delta exposure, we could aim to balance the OI, attempting to leave them with a delta approximately equivalent to the distribution of JLP assets.’
A price impact mechanism that only considers position sizes will not necessarily reduce the risk of manipulation, just as enforcing a maximum position size is ineffective if a trade is split across multiple accounts simultaneously. Additionally, the majority of trade size revenues come from smaller trades, as seen in the graphs below. Therefore, cutting the base fee in half, combined with the practical unenforceability at the smart contract level, will decrease revenues without reducing manipulation risk.
Solution (suggested mechanism)
We propose a price impact as a function of utilization, which aligns with the kink model for borrowing rates.
The suggested function is:
Open Fee _{t+1} = \begin{cases} \text{base\_fee} & \text{if } u_{t+1} < u_{optimal} \\ \text{base\_fee} + \text{price\_impact\_fee} & \text{if } u_{t+1} \ge u_{optimal} \end{cases}
where
and
while
As utilization increases on a given size, JLP’s effective delta exposure diminishes. To account for this reduction in exposure, JLP should be compensated accordingly, particularly under the assumption that historically, only one side (long or short) tends to be utilized predominantly.
As JLP’s AUM continues to grow, it becomes essential to implement dynamically adjusting open/close fees. This adjustment helps mitigate the risk of manipulation and ensures that increased liquidity is available, thereby maintaining a fair and efficient trading environment. This approach serves as an alternative to limiting the OI by making it more expensive to open trades, rather than imposing direct restrictions.
Parameters
base_fee - a constant paid fee
max_price_impact - price impact paid at 100% utilization
u_{optimal} - optimal utilization rate, which should be aligned with borrow rates.
Parameters Specification
Currently, demand for SOL is by far the highest on Jupiter, representing the largest portion of JLP, as well as volumes and fees accrued. Over the last month, SOL accounted for 78% of fees accumulated, BTC for 14%, and ETH for 7%.
Therefore, a 30% reduction in the base fee for BTC and ETH is recommended. This reduction will not significantly impact overall revenue but could make these markets more competitive on Jupiter, potentially increasing demand.
Given SOL’s current high demand, substantial weight in the JLP (44%), lower liquidity, and higher volatility, we recommend a 20% decrease in the base rate. Additionally, implementing higher fees under high utilization conditions will help manage liquidity and volatility effectively.
Based on historical trades and slippage observed in prominent centralized exchange venues for SOL, BTC, and ETH, as well as factoring in fees on competing perpetual decentralized exchange venues, we have devised the following recommendation.
i.e. for SOL, at 90% utilization, the open fee will be 8 + \frac{1 - 0.9}{1 - 0.8} * 50 = 33 bps.
Borrowing Rates
Jump Rate Model
We endorse Gauntlet’s recommendation for a jump rate model for borrowing rates on Jupiter. This approach aims to maximize capital efficiency and adequately compensate JLP holders for passively providing liquidity at high utilization rates.
Motivation
Considering the historical utilization rates and borrowing costs observed on Jupiter, coupled with the platform’s high trading volumes and consequent demand, we propose adjusting the lower slope values to steer demand toward convergence at approximately 80% utilization, which we designate as the target threshold. Conversely, the upper slope values are defined as a function of the volatility and liquidity of the asset, aiming to compensate accordingly under instances of spiked utilization rates.
Consequently, our aim is to achieve slightly reduced borrowing costs at the target utilization level while ensuring that fee revenue remains robust. Striking this balance is crucial as the market currently perceives the borrowing rates as equitable based on observed utilization.
For stablecoin assets, we recommend lowering borrowing rates to incentivize short positions, with the aim of reducing open interest skew and aligning JLP exposure more closely with index distribution expectations.
Future Work
In the near future, we will introduce a methodology designed to balance target index weights. This methodology will consider factors such as demand for specific assets, their volatility and liquidity, and overall implied long/short exposure over time.