I wanted to create a document which could be used as a starting point to help guide the culture of Shade governance over its DAO (Protocol Owned Liquidity) and Silk’s Basket. To do this I think we first need to have a common understanding of the purpose of both of these features.
DAO’s purpose is to act as the Balance Sheet of Shade. This is where value accrues so that the protocol can strengthen its own market position and create a competitive moat. The most obvious example is owning liquidity inside its own decentralized exchange, and slowly becoming less reliant on renting liquidity via emissions (a cost to the protocol). It also allows Shade to earn money, using non-correlated assets, to offset its costs. This is how Shade becomes sustainable.
Silk Basket’s purpose is to decentralize risk and safeguard value from being destroyed by any one institution. This is why the Basket is not tied to any one sovereign currency (central bank), and includes commodities (which are governed by the laws of nature). It reduces regulatory risk by taking our currency outside the scope of any one government. In the future, when more oracles exist, we can tie in things people need to live (housing prices, food prices, etc). This is how Silk redefines store of value.
These only addressed the purposes, but what should make up the financial exposure? Who should define it? What expectations do we have for management of it? I can only recommend one solution - treating their financial exposure like indexes. By this I mean that these should be very passively managed and try to track a defined market. Here’s some of my worries if we don’t treat it this way:
- Accidentally turning Shade into a security. The Howey Test (Howey Test Definition) defines securities as relying on the expertise of others. Active management implies expertise and professional insights are being used to position the portfolio, or the basket in ways that are beneficial to the holders. This is not a hedge fund.
- Reacting to the markets requires swift action and centralized authority. This is the opposite of decentralized finance. This is not a hedge fund.
- Forcing our views of the markets onto others. If people feel the market is going to drop in the short term they should exit the position, or hedge against it, not try to adjust the exposures. This is not a hedge fund.
Should there be some scenarios in which we trust a team to make slight adjustments to the exposures? I would argue that there needs to be some exceptions that are agreed upon by the community: saving assets actively depegging, saving assets compromised in a hack, and making adjustments to align with a simple investment guideline.
We should treat Shade’s DAO exposure as an index of high quality crypto, and we should treat Silk’s Basket exposure as an index of high quality stores of values. Every component and weight of these indexes should be highly scrutinized by the community under the assumption that no active management will occur as market conditions change. This will force us to take long term views on assets and allow for true decentralized decision making (which is slow). It shifts the focus from trying to preserve and grow capital to tracking the market (which has ups and downs). It raises the question of what markets do we want to track?
There are no widely accepted crypto or store of value indexes. It is for us to decide what it should be, but we can look to traditional markets for inspiration. Three of the top four ETFs by AUM are S&P500 trackers (Largest ETFs: Top 100 ETFs By Assets). People want to passively invest in high market cap securities in developed markets. How do we recreate that same feeling within Shade DAO and Silk Basket?
- We should approach the compositions with a conservative long term stance. Every component should be easily understood at a distance as being of high quality. We should try not to form a thesis on why something exotic will outperform the market.
- We should approach Silk’s Basket with guidance from traditional markets since it includes traditional assets. We can consult accepted industry classifications and limit non developed markets. (Market classification - MSCI)
- We should weight the indexes by market cap to help us track the broader crypto market.
Here is my example of a conservative starting point and a format which we should use for the DAO. You’ll notice that I’ve added Lower and Upper Ranges. This is where I think as a community we could outsource some control to a treasury management team. This would not be active management, but rebalancing back to the agreed upon SAA set by the community.
I’m not sure when we will reach this state of maturity, but I think it’s important we lay that groundwork now. When should this take effect? How often should we be reviewing the components? Would love any feedback on this framework.
TL;DR:
- We should stop assuming expertise.
- Shade and Silk are indexes.
- We should take long term views on their composition.
- We should be conservative and biased toward developed markets/proven crypto.