In the ever-evolving landscape of decentralized finance, dYdX has positioned itself as a pioneering platform, seamlessly integrating leverage trading and perpetual contracts, with its imminent v4 upgrade on the Cosmos chain signaling a transformative shift towards decentralized governance and community ownership.

1. Basics of dYdX and perpetual protocols

dYdX stands out as a decentralized perpetual contract exchange that emerged in 2017. Operating within the decentralized finance (DeFi) space, it seamlessly combines lending, leverage trading, and perpetual contracts. A pivotal move for dYdX occurred in 2021 when it transitioned to the StarkWare Layer 2 solution, effectively overcoming issues related to transaction speed (TPS) and gas fees, leading to a remarkable surge in trading volume.

The platform adopts a unique tiered trading fee system, providing advantageous rates for Makers and high-volume traders to stimulate liquidity. The impending v4 version of dYdX signifies a migration to a Layer 1 chain based on Cosmos SDK, introducing off-chain matching and on-chain consensus for trading processes. Additionally, v4 embraces fully decentralized governance and introduces the $DYDX token rewards, serving as an incentive for early adopters.

In the realm of perpetual protocols, dYdX's offerings are essentially financial contracts lacking an expiration date, enabling users to speculate on asset price movements without direct ownership. The platform's perpetual contracts encompass features such as leveraged trading and lending, creating a robust ecosystem for traders. The strategic move to Cosmos is anticipated to enhance scalability, composability, and regulatory resilience for dYdX, solidifying its position as a leading decentralized exchange in the perpetual contract market.

2. Metrics: daily users, volume and top pairs.

Disclaimer: historical data is not currently available. In v4, it will first be available through Numia, and prior to that the only one availabe (and displayed in this post) is available on metabase.

Daily Takers have been oscillating between 2300 and 3500 since August. The chart below does not include those only posting Maker offers.

Weekly volume peaked at $33 billion during October 2021, $31 billion again during February 2022 and has been oscillating between $3.6 billion and $14 billion weekly ever since.

During first half of 2022, the most traded pairs were BTC-USD and ETH-USD competing for the first place, AVAX-USD and SOL-USD competing for the third and fourth place, and AAVE, UNI, LINK, ATOM and other sporadic pairs having peaks of volume.

There are more metrics in the source above, such as TVL, number of liquidations and funding rates, but they are not as relevant as volume to illustrate the current state of the protocol, as we will see in this post.

And what about other derivatives products? As of today, dYdX still accounts for half of all derivatives volume along all DeFi, but its dominance has been decreasing over time, starting at 78% dominance at the start of 2023 to 48% on November. One can check the details in DefiLlama to see the breakdown of the pictures below, where red accounts for dYdX.

The total volume however has decreased overall in average, but it looks like this fall in dominance is due to the emergence of new derivative protocols rather than a decrease in dYdX volume, which varies from month to month, as we can see below from the same source.

3. Why cosmos

dYdX has been one of the few protocols which seems to have gained massive usage and a target user base and adoption. Volume has been high for a long time and it is the main alternative to CEXs in terms of leverage trading.

However, building this whole infrastructure had its highs and lows. They have build on top of ethereum, but using proprietary software such as is Starkware, therefore not fully owning the whole infrastructure and software from start to end. Being a well funded team thanks to high revenue (which will be discussed below) meant that they were able to look at alternative approaches to solve this gap, and that’s what they did.

Building a dYdX chain as a standalone chain meant that they did not rely on ethereum consensus, and being an open source free software leveraging the Cosmos stack, they could design the protocol and chain at their choice, eliminating dependencies on third parties. On top of that, the new native USDC on Cosmos will help dYdX, reducing cross-chain bridges and risks.

Finally, one last step from the dYdX team meant that they could now leave the chain and protocol open 100% to community. Starting at the launch of the new chain, all the revenue would be distributed to stakers as we will see, and it will be up to community to decide what to do next with the chain.

4. Business model

Maker and taker fees are calculated based on 30D volume. There are two type of orders on dYdX:

• Maker orders: orders that do not immediately fill and rest on the order book — these orders add depth and liquidity to the order book.

• Taker orders: orders that immediately cross existing Maker orders. They remove liquidity from the order book.

The current v3 fees as described here are as follows:

Currently on v4, the official numbers are not on their website, but some changes were discussed in forum posts such as this one, displayed in the following table.

Those fees up until dYdX v4 were distributed to the team and to cover transaction costs. Now, with the new v4 chain, it will be distributed to stakers.

Current annualized revenue, according to TokenTerminal sits at $93M, meaning $7.6M in the last 30 days prior to writing this post.

At the current date, there are 60 active validators, with a total 7M tokens staked (0.7%). Concerns are being raised regarding the fact that the top validators hold too much voting power. There are many users which have not bridged their dYdX to the dYdX chain, meaning that those numbers are very volatile.

There is a dune dashboard tracking the bridged dYdX from Ethereum to the dYdX chain, where we currently see that a total of 1000 addresses have bridged a total of 350M dYdX tokens.

In previous versions of dYdX, staking the token did not hold much value other than a few rewards since those staked tokens went to the Safety Staking Module, in case of a shortage of assets. Since v4 requires staking the token to provide security, the dYdX team needed a sustainable incentive formula so that users were incentivized to stake their assets. The solution? Rewarding stakers with the taker and maker fees.

5. Tokenomics

There are 1 billion dYdX tokens minted, but not all of them are in circulation. Many of them are vesting and will become available over time. Inflation can be increased through governance, but it is limited to a maximum of 2% per year.

The following data from DefiLlama displays how the total tokens are or will be allocated.

Interestingly enough, following the launch of dYdX v4, a huge unlock of tokens will take place throughout late 2023 and early 2024, mainly to employees, future employees, consultants and investors.

Those unlocks will be interesting to see together with the renewed v4 business model, which returns the revenue to stakers rather than to dYdX the company.

6. Governance

As stated here, there are several entities involved in dYdX:

• Exchange: v3 hosting, dYdX Trading Inc. company, and core devs

• Foundation: in change of governance

• Trade: dYdX Ops Subdao, hosting infrastructure and frontends for the dYdX chain.

As of dydx v3, the foundation is/was in charge of governance proposals. As a sovereign Cosmos chain, anyone can post a governance proposal which can be voted by all users.

For anyone not familiar on how Cosmos governance works, it is a delegated proof of stake system, where validators and delegators can vote, and a delegator vote can overwrite their validator vote. As a summary, we find:

1. Validators: Cosmos relies on a set of validators, typically a limited number, who are responsible for proposing and validating blocks. These validators are selected based on the number of tokens they hold or that have been delegated to them.

2. Delegators: Token holders in the Cosmos network can delegate their tokens to validators of their choice. By doing so, they effectively vote for those validators and provide them with a higher chance of being selected to create new blocks.

3. Voting Power: The voting power of a validator is directly proportional to the number of tokens delegated to them. Validators with more tokens delegated to them have a higher chance of being chosen to create new blocks.

The specific details on the dYdX chain are as follows, but can be modified:

• Minimum deposit (in order to place a proposal): 10k dYdX

• Voting period: 4 days

• Quorum: 33.4% (at least 33.4% of all staked dYdX must have voted)

• Threshold: 50%. Simple majority of 'Yes' votes: Greater than 50% of the participating voting power must back the 'Yes' vote by the end of the voting period

• Veto: 33.4%. At least 33.4% of participating voting power must have backed 'NoWithVeto' by the end of the voting period

Voting power, whether backing a vote of 'Yes', 'Abstain', 'No', or 'NoWithVeto', counts toward quorum. Quorum is required for the outcome of a governance proposal vote to be considered valid and for deposit contributors to recover their deposit amounts.

Conclusion

The platform's journey from its inception in 2017 to the 2021 transition to the StarkWare Layer 2 solution reflects a commitment to addressing scalability and gas fee challenges, resulting in a notable surge in trading volume.

Examining key metrics, including daily users and volume, dYdX has maintained a substantial presence in the perpetual contract market. Despite facing increased competition from other derivative protocols, its volume dominance has decreased due to the emergence of new players rather than a decline in dYdX's own activity.

The strategic move to Cosmos is justified by the desire for independence from Ethereum's consensus and the ability to build an open-source protocol on the Cosmos stack. The transition to a fully community-owned chain further underscores the commitment to decentralization.

In terms of the business model, the shift to v4 brings changes in fee distribution, with stakers now receiving a portion of the fees. The current annualized revenue and active validator count provide insights into the platform's financial health, though concerns about top validators' voting power linger.

Exploring tokenomics, the unlocking of a significant number of tokens post-v4 launch adds an interesting dynamic, especially as the revenue-sharing model shifts towards stakers rather than the company.

Finally, the governance structure, based on Cosmos's delegated proof-of-stake system, empowers token holders to participate in decision-making.

As dYdX continues to evolve and navigate the dynamic landscape of decentralized finance, its v4 upgrade on the Cosmos chain positions it as a trailblazer, setting the stage for a community-driven and decentralized future.