MetalSwap Knowledge: Exploring backed and oracle-based liquidity

Exploring backed and Oracle-based liquidity management

DeFi is a continuously evolving sector, and particularly, the world of derivatives is evolving day by day.

Unlike their centralized counterparts, decentralized derivatives, whether they are hedging swaps like MetalSwap, perpetuals, or options, combine the advantages of trustless and permissionless systems without foregoing the primary benefits of centralized solutions such as speed and efficiency.

In a recent article, we explored different pricing models for derivatives in DeFi, delving into categories like Oracle-based, Hybrid models, and Virtual AMMs.

In today's article, we continue to explore the derivatives sector, this time focusing on the analysis of two different liquidity management methods.

Backed Pool - The MetalSwap Case

Currently, MetalSwap's dApp, which was the first to offer the hedging swap tool in DeFi, uses a liquidity system that we can define as "backed," which means that traders can complete trading actions only if the same underlying asset value is present within the liquidity pools.

This implies that every time a new asset is to be introduced into the dApp, liquidity pools need to be created where this asset can be deposited by liquidity providers.

This is why on the optimism blockchain, MetalSwap liquidity providers can deposit 4 assets, namely the 3 listed assets plus the stablecoin they are paired with.

This system was chosen because it brings numerous advantages, one of which is that the dApp is more protected in case of high asset volatility.

For example, if there are "long" positions open within the dApp on the WBTC-USDC pair and the price of WBTC increases by 500%, the dApp is covered and will always be solvent because it holds these assets, which are therefore appreciating.

However, the major downside is that listing new assets within the dApp becomes very complex. Unlike the oracle-based method we will see later, here, to include a new asset within the dApp, it needs to be deposited into the pools, and thus, liquidity providers need to be interested in depositing it.

When it comes to highly capitalized assets like WBTC and ETH, there is no problem, but when considering adding new assets, perhaps less capitalized and more volatile ones, liquidity providers are less easy to attract.

GMX v1 uses the same system as MetalSwap, with an index where all the assets that can be traded within its perpetual are deposited.

Oracle Based Pool 

Then there's a second method for managing liquidity in pools and listing new assets within various dApps, and that's based on unique pools and the implementation of decentralized oracles.

This system, taken to its extreme, involves the dApp having a single vault, perhaps in stablecoin, and dozens of pairs listed within the dApp.

Instead of trading directly with the underlying, traders use the price provided by the oracles to complete their operations and "win" and "lose" against the main vault.

If a trade is profitable, the trader can redeem their earnings by withdrawing from the vault. However, if the trade goes into a negative or is liquidated, their collateral ends up in the vault, increasing it.

This system makes listing new assets much simpler, as all that's needed is a price feed from a decentralized oracle, without the need for liquidity providers to deposit this asset within the dApp.

However, the downside is related to security. What happens if an asset performs incredibly well, and the vault, perhaps in stablecoin, is unable to pay out the profits to all the traders?

This leads to situations where the dApp will be forced to forcibly close profitable traders' positions, effectively reducing their earnings.


MetalSwap currently uses a "backed" system for its hedging contracts, prioritizing features such as security over a simpler mechanism for listing new assets.

However, it is not excluded that in the future, the dApp may adopt this liquidity management system, thanks also to its ongoing collaboration with Chainlink.

In conclusion, we suggest reading this series of posts on the official forum, where the role of Chainlink within the dApp and the possible integration of this type of liquidity management have been discussed.


-The DeFi Foundation


✎ What is MetalSwap?

MetalSwap is a decentralized platform that brings Hedging Contracts on financial markets with the aim of providing coverage to those who work with Digital Assets and an investment opportunity for those who contribute to increase the shared liquidity of the project. Allowing the protection for an increasing number of operators.

With MetalSwap we enable Hedging Contracts on the DeFi field, AMM style.