Liquidity Fees

Everything you need to know about fees at notional for lending and borrowing activities.

Hey, Anon are you a liquidity provider 🤽🏻‍♂️? Don't you wanna know how fees flow from Lenders and Borrowers to you at Notional?

A 🧵 explaining it all (with examples of course)

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To determine the quantity of Cash/fCash received from swapping fCash/Cash, we need an interest rate.

This interest rate is determined by the pool proportion, the AMM and the liquidity fee.

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With a liquidity fee applied, the resulting interest rate used to determine the exchange value is always in the favor of Notional.

Here is a quick refresher on how fCash valuation works:

[LINK to fCash valuation thread]

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With that said,

If a lender wants to lend 1000 DAI for 1 year in a 1 YR DAI pool, their 1000 DAI will be swapped for an equivalent amount of +fDAI.

If we assume no fees, the rates to be 5% and the time to maturity of 365 days (1 year), the lender should get about 1051.27 fDAI

[LINK to fCash valuation thread - Tweet 3]

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But if a 0.3% liquidity fee is applied, the lender would only receive 1048.12 fDAI (4.7%) instead of 1051.27 fDAI (5%).

The amount of offset from the current interest rate is computed as:

0.3% * (days to maturity / 365)

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In our example, the days to maturity is 365 days.

Thus the offset will be 0.3% from 5%.

The lending rate offered would be 5%-0.3% and if this was a borrow trade it would be 5%+0.3%

If the days to maturity is 6 months, the rates for lending and borrowing would be 4.85% & 5.15%

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A similar thing would happen at the time of exit as well. A lender would swap their fDAI for DAI at the worst rate that is offset by 0.3% than the current rate depending on the time left to maturity.

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The Lender entered at a 5% rate and was promised a 4.7% rate with liquidity fee consideration.

Similarly, when a borrower borrows at 5%, at maturity they would be paying as if the rates were 5.3%.

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so,

The total fee is the fee in BPS paid on the annualized interest rate by borrowers and lenders on every trade they make between fCash and Cash.

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This fee is shared between Notional reserves and Liquidity Providers.

The reserve fee share (currently 80%) is the share of the total fee that goes to the protocol reserves. The rest of the fee stays in the pool, thus accruing to liquidity providers.

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The purpose of redirecting part of the total fees to the protocol reserves is to build cash reserves to protect the protocol against potential undercollateralized accounts. In such events, Notional's reserve funds would be used to cover the account's obligations to the protocol.

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The part of the total fee that flows to liquidity providers incentivizes them by enhancing their returns and by partly compensating them for impermanent losses.

NOTE incentives are also enticing 😉 if you are providing liquidity through nTokens.

Stay tuned for more anon.

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A healthy disclaimer and the things to expect:

👀 What's upcoming?

🔹 Lender's trade (Everything Lending I)

🔹 Lender's trade Advanced 🚀(Everything Lending II)