At Dragon Stake, we have conducted an analysis of the research done by Nethermind for the protocol, regarding the recommendations that should be followed. These are our initial conclusions.

Nethermind_dYdX_Tokenomics_Research_Oct24.pdf

https://drive.google.com

1 Recommendations: Protocol Revenue Distribution

First of all, it is important to clarify a financial concept regarding Staking costs, which in our opinion does not truly reflect the nature of this financial flow. We explain this in detail in this article related to Ethereum, but it applies equally to dYdX Staking.

“As highlighted by Steakhouse Financial in their proposal, this allocation results in 200% of net trading fees being spent on security after accounting for growth investments, making it unsustainable”

The cost of Staking is fundamentally a dividend for the project's token holders. The expenditure on security, which would be carried out by the validators, would account for at most 5% of this cost, if the validators had no margin in performing this activity

The decision to reduce the cost would therefore result in lower profitability for the token holder, which in the short term would have an impact on the token's value.

The research provides an incomplete view of the protocol's situation as it does not audit the current costs of the project, even overlooking some of the most important items that have clearly been ineffective in creating value, such as the incentive program. This cost has failed to generate long-term volume growth, has been distributed among a few wallets, and has been one of the main sources of selling pressure on the token.

The cost of this program is approximately the amount intended to be reduced from the remuneration to Token Holders, effectively redirecting this capital to an activity that generates little value

We believe that a review of the project's expenses is necessary, because without this analysis, the token's remuneration might be reduced due to activities that do not add value to the project. Reducing the dividend could put downward pressure on the token's value, which would lead to fewer resources for the protocol due to the lower valuation of the foundation's own tokens.

“Currently, on dYdX Chain, 100% of protocol revenue is distributed to stakers and validators in exchange for the provision of network security”

This statement would make sense if we were purely talking about a cost, as maintaining the same level of security would mean gaining efficiency. However, upon deeper analysis, this recommendation actually represents a reduction in the dividend to the token holder, and therefore it will have an impact on the token's price, just as dividend reductions typically do in a corporation.

It may be necessary for the company's growth to lower the dividend in order to invest in expansion, but we believe that an analysis without considering the expenses is incomplete and encourages making the company less efficient at the expense of the token holders."

2 MegaVault Revenue Share

The current Vault statistics do not truly show an increase in liquidity within the protocol. It seems somewhat reckless to allocate so much capital to a Vault that is executing a strategy which, based on the results we know so far, does not appear to be efficient

“ Liquidity is essential for a perpetuals DEX like dYdX, because it ensures efficient price discovery, minimizes slippage, and stabilizes markets, all of which contribute to a better trading experience. We propose routing 50% of the dYdX Chain’s protocol revenue to MegaVault upon its launch”

We believe it is necessary to review the strategies of other protocols. In fact, in the article, we highlight some of the most efficient strategies in other traditional derivatives. If properly implemented, this activity could emerge as an additional revenue stream, which could allow for increased spending on growth. We believe it would be prudent to assess the efficiency of implementing these Vaults with a small amount of capital before making such an aggressive capital allocation decision

We should not assume that providing liquidity means a continuous subsidy from the project, as this would be unsustainable. There are many alternatives to turning this activity into a source of revenue for the project, which I believe deserve to be explored.

It should be done even before being offered to investors.

The report acknowledges that this comparison is fictitious, and the data confirms this so far.

However, the report remains incomplete by not providing the returns of these strategies that are already in production.

“Again, as noted above, although HLP and MegaVault may not be directly comparable (because HLP is not automated), these data points may serve as an indication or benchmark for MegaVault performance”

3 Launch Incentives Program

The data ultimately shows that the incentive program was not efficient at all. As we can see in the previous chart, the cost was 16 million over 6 months, which, annualized, amounts to 32 million .

“In Season 6, incentives likely accounted for 38% of fees, translating to an annual fee impact of $19M”

It is true that it results in an increase in operational volume, but it does not appear to be sustainable in the long term, and efforts should be made to internalize this activity. In the end, it would likely be much more efficient to hire professionals directly, given the high cost of subcontracting this activity

The data confirms the analyses regarding this incentive program, which we voted against—not because we believe the activity is unnecessary, but in order to attempt to execute it in a much more efficient way.

4 Validator Profitability

This measure does have an impact on the level of security, as having fewer validators will degrade the network. The positive side could be a reduction in synchronization time between nodes. However, if this is not an issue, reducing the number of validators instead of allowing them to make their own profitability decisions doesn't seem positive for the project. It is even likely that some validators would be willing to subsidize this cost due to their long-term commitment. Losing validators also degrades governance, as there will be less human capital involved in decision-making.

“The current active validator set on the dYdX Chain consists of 60 validators. At the current fee level, over 17 active validators are unprofitable after accounting for a fixed infrastructure cost of $1,000 per month at their respective commission rates. The proposed MegaVault and dYdX Treasury subDAO revenue shares would further reduce staking yields and, therefore, the funding validators receive from their respective commission, exacerbating unprofitability”

We do not believe it makes sense to degrade the network's security by deciding to exclude companies from validation that are willing to bear that cost. This is especially true because the calculations really depend heavily on specific circumstances, and also because these validators may have already made investments and are highly efficient.

5.Trading Rewards

It is interesting to carry out this reduction, although given the potential impact on an operation that has already been significantly reduced, we would favor a much more gradual reduction to be able to study the impact and the traders' sensitivity to this incentive."

“We propose reducing the C constant from 0.9 to 0.5. This adjustment aims to decrease inflation and mitigate selling pressure on the DYDX token by reducing trading rewards.”

6. The Bridge

The reasons outlined in the report are reasonable; however, we believe that this policy could generate a significant reputational impact for the project. At the very least, we would always provide the option to recover those tokens through a more manual process at some point. I think closing off that possibility could cause significant reputational issues, particularly with traders who, due to some issue, might not be able to meet the window."

“After this date, the dYdX Chain will no longer recognize transactions through the Bridge Smart Contract, and ethDYDX holders will not be able to convert their ethDYDX tokens on Ethereum into DYDX tokens on the dYdX Chain via the Bridge”

I would at least extend that manual option for a few years. And it could have an associated cost of 5% for the foundation's administrative tasks, but at least it would provide that option