From 3,000 to 150,000 in six months: Decoding the driving factors and technical means of BTC on the Ethereum chain

This report is produced by Huobi Blockchain Research Institute and released on November 27, 2020. Authors: Ma Tianyuan, Zhao Wenqi, Yuan Yuming

summary:

In the past six months, the number of BTC-pegged coins on Ethereum has grown nearly 50 times, from 3,000 to 150,000 today. As of November 24, the value of BTC locked up reached $2.7 billion, accounting for almost one-fifth of the total locked up amount of DeFi. This growth rate is unprecedented and is also the largest large-scale cross-chain in the history of blockchain.

So what is the reason that drives these BTC into the Ethereum network? Through the analysis of the data on the main anchored coins, we can find that about 40% of the anchored BTC has flowed into the top DEX, and 30% of the anchored BTC has flowed into the top lending DeFi, and the rest is mainly distributed in some CEX, second-tier DeFi applications and some personal and institutional addresses.

In other words, the main driving force is to obtain the liquidity "mining" rewards provided by DEX, and the second is to conduct on-chain lending. However, a large amount of loaned funds will continue to be invested in liquidity mining. Of course, objectively, such migration has also brought about BTC's performance improvement and increased the asset scale ceiling of the DeFi industry.

At present, the main BTC anchor coins include WBTC, renBTC, HBTC, sBTC, tBTC, oBTC, imBTC and pBTC, etc., in order of total volume. Among them, except for a small amount of sBTC, the remaining 98% of anchor coins use the "custody + mapping" method to complete cross-chain, and sBTC is generated through asset over-collateralization. Several custody mechanisms have their own advantages, mainly in terms of different degrees of dependence on centralized institutions. They mainly use two methods to ensure the security of underlying assets: 1) credit endorsement and 2) technical means.

At present, there have been no security incidents in these pegged BTCs, and the number has exceeded 100,000, which has effectively increased the confidence of minters in this type of technology. However, this does not mean that these pegged coins are absolutely safe. For example, "black swan" risks such as hacker theft, internal theft, and private key damage always exist. How to better deal with these potential risks, each custodian needs to prepare for the rainy day.

Overall, although the liquidity "mining" reward is declining, these BTC anchors still have no tendency to leave, but the growth rate is slowing down. In the long run, these custody mechanisms still have room for improvement in terms of security and distribution. As long as they are safe, as the technology matures and applications are implemented, I believe we will see a higher number of BTC entering the Ethereum network.

1. Why do we need to cross-chain BTC to Ethereum?

In 2020, BTC on the Ethereum chain has achieved substantial growth. In particular, in the past six months, the number of BTC anchored coins on Ethereum has increased from 3,000 to 150,000, a rapid increase of nearly 50 times. As of November 24, the value of BTC locked reached 2.7 billion US dollars, accounting for almost one-fifth of DeFi's overall TVL. This year's growth rate is unprecedented.

From the development trajectory, the earliest WBTC was born at the end of 2018, but until the end of December 2019, the number of BTC anchored in the entire industry was only about 1,000. However, since the beginning of 2020, the number of BTC anchored in the network has rapidly increased from 1,000 to 11,000 at the end of June; then, it has rapidly increased from 11,000 to 150,000 today. From these data, we can see the strong demand for BTC to enter the Ethereum chain.

So, why does BTC need to cross-chain to Ethereum? What is the current status of BTC cross-chain to Ethereum? What are the technical principles and mechanisms behind BTC's cross-chain completion by "eight immortals crossing the sea"? This report will explain these issues.

1.1 Why are these BTCs called BTC-pegged coins?

Everyone is familiar with the ERC-20 standard, which is a specification for creating tokens through Ethereum. It is currently the most common blockchain token creation standard. BTC built on Ethereum, such as WBTC, HBTC, etc., are mostly based on the ERC-20 standard token (a small number are based on the ERC-777 standard). They use different algorithmic technologies to map BTC 1:1 to obtain ERC-20

Tokens can only obtain features such as being used in DeFi. In essence, this is a process of exchanging real coins for "mapped tokens". Because the redemption channel is very smooth, their prices can be roughly 1:1 anchored with BTC. Therefore, these tokens are usually called "BTC anchor coins".

1.2 Why does BTC need to cross-chain to Ethereum?

In the past six months, the total amount of BTC-pegged coins has rapidly increased by nearly 50 times, attracting great attention from the industry. So why is there such a large demand for mapped tokens? The answer is not complicated: BTC holders want to improve the efficiency of asset utilization, such as (1) participating in mining to obtain income; (2) lending funds as collateral. Of course, objectively, these BTC-pegged coins have also improved BTC transfer performance and programmability, and increased the asset ceiling of the entire DeFi sector. A small amount of demand also comes from these two aspects.

(1) Improving the asset utilization efficiency of BTC holders

From the user's perspective, different cryptocurrency participants have different holding preferences. In the current market environment, BTC has an industry position that cannot be ignored. However, the Ethereum network ecosystem is richer, especially in the DeFi field, where more innovative applications have been formed.

Unlike PoS blockchains, BTC itself does not have a native way to earn interest. With the rise of liquidity mining, many DeFi projects incentivize the injection of ERC-20 funds themselves, for example: DEX will reward liquidity providers, lending DeFi will give token rewards to both borrowers and lenders, etc.

One wants to earn interest, the other wants more assets, and the two "hit it off", and a large amount of BTC has entered the Ethereum DeFi ecosystem in the form of anchored BTC. According to the on-chain data in early November, more than 40% of the anchored BTC was placed in lending applications, releasing a large amount of funds (stable coins and other tokens); more than 30% of the anchored BTC was directly invested in the liquidity mining (yield-farming) of DEX, and these yield-farmings provided BTC with a considerable annualized return (APY) of 10~30%.

(2) BTC can thus obtain better performance and programmable features

From the user's perspective, BTC-pegged coins have performance and fee advantages. Compared with the BTC network, the Ethereum network has a slight advantage in performance and fee, and the ERC-20 version of BTC is essentially a token based on the Ethereum network. Currently, the TPS of the BTC system is only 7, while the TPS of the Ethereum system has increased to about 15. At the same time, Ethereum has a faster block speed and a higher certainty of arrival time. Therefore, BTC migrated to Ethereum is cheaper to transfer and faster to confirm, and it also clears the congestion of the BTC main chain.

In addition, the ERC-20 version of BTC is essentially a token on the Ethereum chain, which makes them programmable. It will allow developers to write smart contracts based on BTC assets. This programmability also allows the ERC-20 version of BTC to be freely combined with various innovative applications of DeFi.

(3) Raising the DeFi asset ceiling

In addition to users needing to anchor BTC, DeFi applications also need it. Most DeFi applications are concentrated on the Ethereum network, but Ethereum has an asset ceiling. The asset ceiling of DeFi means that the overall market value of assets based on Ethereum, represented by ETH, is limited, which will gradually form a constraint on the development of DeFi.

The DeFi sector is very small compared to the entire cryptocurrency market. As of November 23, the total market value of digital currencies was nearly 600 billion US dollars. Among them, the market value of BTC was 340 billion US dollars, accounting for 2/3 of the total market value. To a certain extent, the various DeFi lock-up amounts on ETH account for 1.5% of the total market value. If it wants to continue to grow, BTC must be included, otherwise the relatively small number of ETH and ERC-20 assets will become the ceiling of DeFi development.

Through the ERC-20 version of BTC, users can experience better liquidity. These ERC-20 versions of BTC bring greater liquidity to the Ethereum ecosystem, greatly increasing the ceiling of DeFi's total assets.

So, how fast are these BTC entering the Ethereum network? Where are they going? What about redemption? We will analyze this in Chapter 2.

2. Current status of BTC cross-chain Ethereum

2.1 Distribution of various categories and overall growth

According to on-chain data statistics, as shown in Table 2-1 and Figure 2-1, the current mainstream BTC-pegged coins are ranked in order of total volume: WBTC (about 2.1 billion USD), renBTC (about 300 million USD), HBTC (about 100 million USD), sBTC (about 30 million USD), tBTC (about 24 million USD), oBTC (about 16 million USD), imBTC (about 14 million USD) and pBTC (about 2.5 million USD), etc. Among them, WBTC accounts for more than 80%.

As shown in Figure 2-2, BTC on Ethereum has started to grow rapidly in the past six months, and the curve is relatively steep. Since WBTC has an absolute dominant share, the trend is also highly consistent with the overall curve. However, with the decline in the popularity of liquidity mining in recent months, the current growth has slowed down slightly, but it is still on an overall upward trend.

2.1 Where are the main anchor coins?

WBTC and renBTC are the anchor coins with the largest total volume, accounting for more than 90% of the entire sector. Therefore, the destination of these two anchor coins can represent the destination of the entire anchor coin. So what do these BTC anchor coins do after arriving on the Ethereum network?

We selected two time points to count its distribution, November 5 and November 24, which were before and after Uniswap stopped liquidity mining rewards.

First, on November 5, the main destinations of WBTC and renBTC are shown in Table 2-2 and Table 2-3:

It is not difficult to see from the table that whether it is WBTC or renBTC, its main destination is mostly the top DeFi applications. Maybe these applications do not have the highest APY. But due to comprehensive factors such as brand credibility, the top DeFi applications have absorbed the most liquidity funds.

In terms of classification, the main destinations of anchored coins are mainstream DEXs that support liquidity mining, such as Uniswap and Curve, accounting for about 40%; and mainstream lending platforms such as Compound and MakerDAO, accounting for about 30%. Of course, there are still some unspecified contract addresses, which may be personal accounts or some new DeFi addresses that need to be supplemented.

During the writing of this report, Uniswap’s liquidity mining rewards stopped on November 18. Uniswap LP Pool was once the largest destination for WBTC. After the mining was stopped, what changes have occurred in the overall BTC distribution? Let’s take a look at the data on November 24, as shown in Table 2-4 and Table 2-5.

Overall, the share of WBTC and renBTC in the mainstream DEX sector has dropped to 25%, while the share in mainstream lending applications has risen to 40%. The main reason is that after UNI stopped mining, a large amount of WBTC was withdrawn from Uniswap, and the WBTC that still provided liquidity on Uniswap dropped by 80%. In Table 2-4, the 6,681 WBTC suspected to be in personal addresses were withdrawn from Uniswap from the chain. In addition, AAVE and Sushiswap are also the main inflow targets of WBTC after the mining was stopped.

From this we can see that among the two main destinations of anchored coins, the liquidity mining incentives provided by DEX were once the main goal of anchored coins. However, as DEXs have reduced production or stopped liquidity incentives, the proportion of anchored coins in DEX has declined. However, a large number of anchored BTCs have not been redeemed in large numbers from the Bitcoin network, but have entered other Ethereum lending applications. Users have borrowed a large number of other tokens, such as stablecoins, by mortgaging anchored coins.

2.3 Minting and destruction of major BTC-pegged coins

As of early November 2020, the minting and destruction of WBTC and renBTC are shown in Table 2-6.

Among them, WBTC is rarely destroyed, while renBTC is destroyed very frequently. As shown in Table 2-7 and Figure 2-3, the highest amount of renBTC destroyed is equivalent to 1003.3 BTC, followed by 601.97, both of which occurred on September 18, 2020. In terms of the number range, the largest number of transactions is between 0.1 and 1, which is 1733 transactions, followed by 1 to 10, which is 930 transactions. In contrast, WBTC has only been destroyed 23 times in total, and it is concentrated in 4 of them, which account for 98.47% of the total destruction.

Why is the number of renBTC destroyed more than WBTC? The reason is actually that the operating mechanisms of the two are different. WBTC adopts a merchant model. Every time a user redeems, he actually exchanges it with the merchant responsible for acceptance, exchanging the position in the hands of the acceptor without the need for real destruction. However, renBTC does not have an acceptor design, so each redemption requires on-chain destruction, which leads to the difference in the number of destructions between the two.

Regarding the operating mechanisms of various BTC-pegged coins, we will conduct a detailed analysis in the following chapter.

3. Detailed explanation of the BTC anchoring model

The reason for pegging BTC is to allow BTC, which cannot directly appear on various non-BTC blockchains due to technical system incompatibility, to appear in the form of a "stand-in". Currently, all solutions for generating pegged BTC are backed by assets of equal or excess collateral. Among them, 98% of the total amount of pegged coins is completed in the form of "custody + mapping".

There are two main approaches depending on the collateral: pledging BTC to generate anchored BTC, and pledging other blockchain assets to generate anchored BTC.

The former method will not expand the total number of BTC in circulation and anchored BTC, and because it is real BTC collateral, there will be no frequent clearing and settlement processes due to "insolvency".

However, because it is real BTC collateral and then released on another chain, the design of the cross-chain model is inevitable. The difference in the design of the cross-chain mechanism is one of the core points of the differences between the various anchored BTC models. For example, WBTC realizes artificial cross-chain through the interaction between the custodian and the merchant, while renBTC realizes cross-chain through RenVM. But in essence, these mechanisms will entrust BTC to one or some specific groups.

The latter method has a more complicated clearing and settlement mechanism, but since the collateral can be assets on the same chain, cross-chain can usually be avoided. For example, the generation process of sBTC all takes place on Ethereum. This type of mechanism uses smart contracts as a tool, so no custody is required, but the disadvantage is that asset utilization efficiency is low and there is a risk of non-liquidation.

But whether it is the former or the latter, since they are both based on collateral, there will be some differences around the collateral mechanism, as shown in Figure 3-1 and Table 3-1. For example, WBTC is BTC collateralized by a centralized custodian, renBTC is BTC collateralized by a decentralized network (but it has not yet been fully realized), and sBTC is SNX collateralized by a contract.

To go further, to understand the operating logic of each BTC anchoring solution, the most important thing is to understand two issues.

1. How to mint and destroy the anchored BTC?

This problem can be broken down into three small problems:

1) Who is responsible for minting and destroying?

2) Who will be responsible for the custody of the mortgage?

3) How to exchange cross-chain information?

2. How to solve the problem of fund security in the life cycle of BTC minting, circulation, destruction, etc.?

The following table briefly compares the types of BTC anchors that will be introduced in this chapter. Later in the text, we will analyze each type of BTC anchor in detail and discuss the above issues.

3.1 WBTC

WBTC (Wrapped Bitcoin) was launched in January 2019. Its custodian is BitGo, a well-known digital asset custodian. It is the earliest ERC-20 token based on the Ethereum network and pegged to BTC at a 1:1 ratio. It has the largest share among all types of BTC anchors, with an issuance volume of more than 120,000. Its issuance rules have also been used as a reference by many later entrants.

The WBTC system is a trust-based alliance governance model, with a two-tier distribution structure at its core. As shown in Figure 0, the two-tier distribution structure of WBTC involves three roles: custodian, merchant, and customer. Under this structure, the interaction between the custodian and the merchant is responsible for minting and destroying WBTC; the interaction between the merchant and the user is responsible for placing and withdrawing WBTC in the secondary market; the user will not directly interact with the custodian.

As shown in Figure 3-2, we will discuss the advantages and disadvantages of this model by introducing the minting and destruction process of WBTC and the rights and responsibilities of various roles.

3.1.1 Minting, destruction, distribution and recycling: two-tier distribution

1) Minting and destruction

The minting and destruction of WBTC occur between the custodian and the merchant, and transactions will occur on BTC and Ethereum at the same time. The core point of minting is to lock BTC on the BTC chain and release an equivalent amount of WBTC on the Ethereum chain. The minting process of WBTC is as follows:

1. Transfer BTC: First, on the BTC chain, the merchant will send a certain amount of BTC to the custodian;

2. Apply for coin minting: Then, on the Ethereum chain, the merchant will initiate a request for coin minting to the WBTC smart contract. The request parameters will include the transaction ID of the BTC chain transfer.

3. Coin minting: After the custodian sees the request for coin minting and confirms that the transaction has been completed based on the transaction ID of the BTC transfer, it will send a confirmation request to the contract. The confirmation request will trigger the coin minting operation in the contract, and the contract will automatically mint coins and put them into the merchant's Ethereum address.

Destruction is the opposite process of coin minting, but the difference is that in the coin minting process, it is the custodian who finally confirms the initiation of the coin minting action, but in the destruction process, it is the merchant who confirms the initiation of the destruction operation. The specific process is as follows:

1. Create a destruction transaction: The merchant creates a WBTC destruction request through a contract on the Ethereum chain to destroy a specified amount of WBTC;

2. Transfer BTC: After the destruction operation is completed, the custodian will transfer an equivalent amount of BTC to the merchant on the BTC chain;

3. Transaction confirmation: After the transfer is completed, the custodian will initiate a transaction on the Ethereum chain to confirm that the destruction operation has been completed.

It is worth noting that the process of minting and destroying coins is not fully automated and usually takes several hours to dozens of hours (usually within 48 hours).

2) Distribution and recycling

The distribution and recycling of WBTC occurs between merchants and users. After the merchant completes the minting process, it holds the WBTC token. The WBTC model does not restrict the form of BTC-WBTC exchange between merchants and users. In theory, merchants can complete each transaction with users by re-implementing cross-chain communication, but more often, merchants, as centralized institutions, will complete off-chain exchange transactions on exchanges or wallet applications within their system.

3.1.2 Roles and Responsibilities: Alliance Governance Based on Trust

In the WBTC model, there are four main roles: custodians, merchants, users, and DAO members. Three of these roles have been mentioned in the previous article, and we will discuss them one by one below.

1) Custodian

The name of the custodian has clearly revealed its core role in the WBTC model - responsible for the custody of the pledged assets used to generate BTC anchors.

In addition, the custodian is also the actual executor of the minting behavior (the mint function is triggered by the custodian's contract call). However, in the WBTC model, the custodian's power is also restricted through three levels to prevent it from abusing the minting power or transferring the custodial assets without authorization: 1. The custodian cannot mint coins on its own. The merchant must first initiate a minting request, and the custodian mints coins based on this request; 2. The BTC in the custodian's custodial address can only be transferred to the merchant's on-chain address in the whitelist and cannot be transferred at will; 3. The addition and deletion of merchants is determined by the DAO and is not directly controlled by the custodian.

Currently, BitGo is the only custodian in the WBTC system.

2) Merchants

Merchants play a role as a transit point in the WBTC model. Successfully minted and to-be-destroyed tokens are stored at the merchant's address, and the distribution and recycling of tokens to users are also performed by the merchant. The actual destruction operation is also performed by the merchant.

In addition, since merchants can operate in a centralized manner, they can avoid cross-chain transactions every time a user requests a mint or return, and can complete the process off-chain, greatly improving efficiency. Users entrust BTC to these institutions in exchange for WBTC, return WBTC and then exchange it back for BTC. This is also the reason why we found in Chapter 2 that the number of WBTC destructions on the chain is very small.

Merchants actually use their own positions to redeem and exchange with users. In theory, users do not need to trust any merchants, but only need to trust the ultimate custodian BitGo.

3) Users and DAO

Users are the ultimate demanders of WBTC, but they do not directly participate in the process of minting and destroying coins. However, WBTC clearly requires users who participate in (indirect) minting and destruction to pass KYC and AML in its rules.

WBTC manages the entry and exit and role permissions of custodians and merchants in the form of DAO. Custodians and merchants can serve as DAO members. According to the information published on the WBTC official website, there are 17 DAO members, including the only custodian BitGo, some merchants such as Ren, Loopring, Maker, etc., and some pure DAO members such as Compound, Blockfolio, etc., which are relatively scattered.

3.1.3 Advantages and disadvantages of the model

Under the WBTC model, the biggest advantage lies in its two-layer distribution structure. This design structure can bring two major benefits: First, relatively time-consuming and complex operations are solved on the first layer, such as batch coinage, destruction, and trust governance issues, so that fast distribution and recycling for users can be achieved on the second layer, greatly improving the user experience; the second major benefit is that in terms of mechanism, since merchants use their own positions to help users exchange, making it impossible for them to do evil, the nature of the merchants who actually distribute and recycle to users is no longer important, so that service providers in the ecosystem that already have a large user base can become merchants in the WBTC system, accelerating the expansion of WBTC. The fact that WBTC has become the product with the highest coinage volume among BTC anchors is closely related to its design model.

However, this model also has its potential security issues. Although the mechanism design has very good constraints on merchants’ malicious behavior, the overall trust is still based on trust in a few institutions, such as the only custodian BitGo.

3.2 renBTC

renBTC is an ERC-20 pegged BTC issued based on Ren Protocol, with an issuance volume of approximately 20,000 pieces. Together with WBTC, it occupies more than 95% of the pegged BTC market.

Compared with WBTC, renBTC has a flatter model, and its minting and destruction mechanisms are more trustless. Its core idea is to rely on a BFT-type network RenVM to implement minting, custody and destruction, and use the notary mechanism of distributed signatures to achieve cross-chain. Users or DAPPs can directly interact with the Darknode (i.e., the node in the network) in RenVM to generate renBTC through 1:1 mortgage and release it to the target network.

3.2.1 Coin Minting and Destruction

1) Coinage

The minting process in RenVM mode is fully automated, so the process can not only be initiated manually by the user, but also be internalized into the logic of the DApp. The main process is as follows:

1. Transfer BTC: The user or DApp transfers BTC to the escrow address of RenVM and informs RenVM (steps 1 and 2 in 0). It is worth noting that in the future, the private key of RenVM's escrow address will be generated by Darknode in the network based on multi-party secure calculations. Unless more than 1/3 of the nodes in the network jointly commit evil, this private key will not be controlled by any node; however, due to limited technological progress, according to its official disclosure, its escrow work is still completed by "Greycore" rather than Darknode. Greycore is the Ren team.

2. Generate a minting signature: After RenVM confirms that the transfer is complete, it will generate a minting signature for the user or DApp based on the private key mentioned in the previous step (steps 3 and 4 in 0);

3. Coin minting: After the user or DApp obtains the signature, it can use it to complete the coin minting (step 5 in 0). This process can also be triggered in the DApp, saving the cost of the user's own operation.

2) Destruction

The destruction process is relatively simple, as shown in Figure 3-4. The user or DApp destroys renBTC and provides its BTC address, and RenVM will automatically release BTC to the address after the transaction is confirmed.

In addition to the classic "destruction" process mentioned above, RenVM also supports re-minting renBTC on another chain (such as Polkadot) after destruction. The process is equivalent to a combination of destruction and minting. Users or DApps destroy BTC on Ethereum and provide the address on the Polkadot network. After monitoring the transaction, RenVM will generate a minting signature. Users or DApps can use this minting signature to mint renBTC on the Polkadot network. However, this function has not yet been put into practical use.

3.2.2 Darknode hosting mechanism

The Darknode in the RenVM network is the core of the entire system. Coin minting, destruction and custody will all be handled by Darknode. There are three main ways to prevent Darknode from doing evil. The first is staking. Each Darknode needs to stake 100,000 REN. If a node does evil, a portion of the staked tokens will be confiscated. The second is privacy computing technology. Multi-party secure computing technology ensures that Darknodes in the network can collaborate to generate private keys, but each node cannot obtain the entire private key alone (unless more than 1/3 of the nodes do evil). The third is sharding. The Darknode in each shard will use MPC to collaborate to generate private keys, but the Darknode in each shard will be randomly reassigned to different shards every day to reduce the possibility of collusion.

Therefore, in this mode, the pledged BTC can achieve trustless custody. However, this is the state after all the capabilities of RenVM are realized. According to the official stage, RenVM is still in the Sub-Zero stage. In this stage, the network is maintained by RenVM's own development team (ie Greycore), so in this stage, RenVM is still a very centralized structure.

3.2.3 Advantages and disadvantages of the model

One of the biggest features of RenVM’s design model is that it uses a network to bridge and realize cross-chain asset transfer, and this process can be completed automatically, which allows its capabilities to be directly embedded in smart contracts and better integrated into the DeFi ecosystem. This is also one of the important reasons why renBTC can become the second largest anchor BTC.

Its second major feature is decentralization. However, as mentioned in the previous article, the current RenVM has not yet achieved this capability and is still in a very centralized model, which poses certain financial security risks.

3.3 sBTC

sBTC is a cryptocurrency synthetic asset (Synths) generated on Ethereum through the decentralized synthetic asset issuance protocol Synthetix. Its value is supported by the network token SNX. Users must first mint sUSD stablecoins by over-collateralizing SNX through a dApp Mintr that interacts with the Synthetix protocol, and then trade the newly minted sUSD on the Synthetix.Exchange platform in exchange for sBTC. The entire process does not involve cross-chain and does not entrust a third-party custodian. Below we will introduce the issuance and exit process of sBTC and the advantages and disadvantages of this model in turn.

3.3.1 Issuance and Exit Process

1) Issuing sBTC

Specifically, the sBTC issuance process has the following steps:

Initiate a request to pledge SNX: The smart contract in Mintr checks whether the user can pledge. The pledge rate must comply with the excess pledge rate stipulated by the community governance mechanism. This is done to reduce the risk of SNX value fluctuations caused by insufficient consensus.

Registering Debt: After the pledge is confirmed, the system will add the "debt" owed by the user to the debt register and continuously update the cumulative debt increment ratio to track the debt percentage of each mortgagor;

Minting: After the debt is distributed, the sUSD smart contract updates the total supply and distributes the newly minted sUSD to the user's wallet.

In this way, users can use the minted sUSD to purchase synthetic assets sBTC. In essence, it is the process of destroying the original synthetic assets and generating new synthetic assets:

Destroy the original sUSD: including reducing the sUSD required for exchange in the user's wallet address and updating the total supply of sUSD in the system;

Exchange sBTC: The amount of sBTC that can be exchanged is determined according to the exchange rate automatically pushed to the chain by the oracle, and a transaction fee is charged during the process;

Transaction completed: issued by the target, which is sBTC’s smart contract, and updates the sBTC balance in the user’s wallet and the total supply of sBTC in the system.

2) Exit process

When a mortgagee wants to exit the system and unlock the mortgaged SNX, he must first repay the remaining debt recorded in the debt register. The specific process is as follows:

Debt determination: The debt balance owed by the mortgagor is determined through the Synthetix smart contract;

Destroy debt: Destroy sUSD, set the pledger's SNX balance to transferable state, and remove it from the debt register.

The biggest difference between sBTC and other BTC-pegged assets is that it does not generate BTC-pegged assets by pledging BTC, but generates synthetic assets by pledging its platform tokens, so there is no process of processing cross-chain transactions. In addition, the collateral does not directly generate sBTC, but first generates sUSD, a trading medium within the Synthetix system, and then sUSD is exchanged for sBTC.

3.3.2 Advantages and disadvantages of the model

In this mode, sBTC transactions are mainly executed according to smart contracts, without involving trading books and counterparties. The exchange rate is allocated by tracking the real-time price information of assets through oracles, realizing the free conversion of synthetic assets without slippage problems. In addition, the Synthetix protocol also provides incentives for SNX pledgers, including trading rewards and token issuance rewards. The former usually charges a transaction fee of 0.3% for each transaction completed on Synthetix.Exchange, which is then deposited into the fee pool and distributed to SNX pledgers in proportion every week; the latter uses the Synthetix protocol's own inflation policy to generate new SNX, which is also distributed in proportion to pledgers whose SNX pledge rate is not lower than the target threshold every week.

However, the debt calculation of Synthetix will fluctuate with the exchange rate changes in the system. This means that even if the user does not do anything after borrowing sBTC, as long as BTC rises, the user's debt will increase, and more sUSD will be required to be returned when returning; not only that, even if the user only borrowed sUSD, if the asset price of other users increases, the overall debt of the system will increase (for example, other users exchanged the borrowed sUSD for sBTC, and the sBTC price rose, causing the overall debt of the system to increase), the user will also need to return more sUSD.

In addition, the value fluctuation of the native token SNX as collateral will also have an adverse impact on the system. When the price of SNX drops sharply, users may choose not to replenish collateral to repay debts, resulting in insufficient collateral in the system, thus affecting the entire system. This is why Synthetix has set a super high multiple (750%) of collateral asset rules. At the same time, as a collateral asset, the upper limit of SNX's market value will also constrain the upper limit of synthetic assets. In addition, this model also faces problems such as oracle risks, imperfect clearing and settlement mechanisms, and cumbersome debt calculation methods. In the subsequent development, there is still room for improvement and perfection.

3.4 Other BTC-anchored

HBTC

HBTC is an ERC-20 standard anchored coin launched by Huobi on Ethereum in February 2020. The asset is anchored 1:1 to BTC, and Huobi is responsible for minting, destruction and custody. As of now (October 2020), the number of HBTC issued in the contract address has exceeded 6,000, and it is active in applications such as Uniswap, Curve, Balancer, Nest, etc.

Users can conduct two-way exchange business through HuobiGlobal or HBTC official website. Deposit BTC assets into Huobi Global, choose to withdraw HBTC assets when withdrawing, or deposit BTC on the HBTC official website to quickly exchange for HBTC assets. Similarly, the process of exchanging to BTC is to deposit HBTC assets into Huobi Global, choose to withdraw BTC assets when withdrawing, or deposit HBTC on the HBTC official website to exchange for BTC assets.

tBTC

tBTC is an ERC-20 BTC-pegged coin jointly issued by Keep Network, Cross-Chain Group and Summa on Ethereum. It was issued in May 2020 and has issued more than 900 coins in nearly half a year since its launch.

tBTC uses the t-ECDSA elliptic curve signature algorithm to sign transactions, and its operating mechanism is open source and transparent. In addition, the biggest feature of tBTC is its trustlessness, as it uses a "signer group" system. When a user wants to mint a new tBTC, the system selects three signers from the "group" through a random beacon, and creates an address for the user on the BTC network to lock the BTC involved in the exchange. When the three signers act in unison and BTC is successfully locked, a new tBTC will be minted at a ratio of 1:1BTC. In order to ensure the stable operation of this decentralized system, signers must over-collateralize Ethereum worth 1.5 times the BTC stored by the user. Once any signer behaves maliciously, the collateral will be confiscated by the system and returned to the stolen user, which is not worth the loss.

But at the same time, in order to achieve decentralization to the greatest extent, tBTC sacrificed its scalability. For example, only 1BTC is allowed for a single exchange, and there is a lock-up period of up to half a year after the exchange is completed, which is very user-unfriendly; at the same time, the signatory needs to have 150% over-collateral, which also sets a high capital threshold for the signatory, resulting in an invisible ceiling for this model; in addition, technical bottlenecks are also one of the important factors restricting its development. The Keep protocol that tBTC relies on is slow and has not been verified. A major security vulnerability incident occurred only two days after the mainnet was launched, resulting in an emergency suspension of the project. If the technical bottleneck can be broken through in the future, it still has great development potential.

oBTC

oBTC is a relatively new BTC-pegged currency. It is a 1:1 BTC-pegged token issued by BoringDAO based on ERC-20. The mainnet was launched on November 12, 2020. The current minting volume has reached 800 coins. It hopes to build a decentralized asset bridge connecting different blockchains and expand its compatibility in the form of DAO.

The minting process of oBTC is relatively simple. Users send BTC to a multi-signature escrow address controlled by institutions and the community, and provide their Ethereum address to the other party through BTC's op_return function. When the custodian receives the funds and reaches a consensus on the network, it mints an equivalent amount of oBTC on Ethereum and sends these anchored tokens to the user's ETH address. During the period, 0.2% of the total value of the assets will be charged as a minting fee, but a 0.4% BOR subsidy can be obtained through minting mining. During the whole process, the user provides his own ETH address and the BTC to be exchanged, and performs a transfer operation. Because op_return is a native function of BTC, no centralized server is required in the whole process.

Its operation mode is based on "tunnels", that is, it creates a tunnel for each blockchain asset, which operates in the form of a DAO and performs minting and redemption between blockchain assets and ERC-20 tokens. Any community user can create a new tunnel by staking, but there can only be one tunnel for each cryptocurrency. In this article, we focus on the BTC tunnel.

In terms of fund security, BoringDAO adopts a three-layer pledge mechanism. In other words, each oBTC has about 200% collateral, of which 100% consists of native blockchain assets, that is, BTC; the second layer is about 100% collateralized by the tunnel contract layer and other assets such as BOR. The third layer also has some on-chain insurance. In this way, even if a black swan event occurs, the community can compensate users through contract layer liquidation and insurance.

imBTC

imBTC is the Ethereum ERC-777 tokens under imTokenlon, which is responsible for issuing, custody and acceptance. It was launched in October 2019 and has a total issuance of more than 900 pieces. Its custody address is open and transparent, and users can track the minting and destruction of all imBTC through on-chain information, ensuring 1:1 anchoring with BTC.

The anchor coins issued by imBTC are generated through "lock-update exchange". Every time a user locks a BTC in the Tokenlon account, they can subscribe to the same amount of imBTC, and they can also call smart contracts to destroy imBTC. At the same time, in order to compensate for the liquidity losses caused by BTC pledged in Tokenlon secure cold wallet, users can obtain subsidies for transaction fees and redemption fees. In addition, unlike other anchor BTC tokens, imToken is based on ERC-777 instead of ERC-20 protocol. ERC-777 is an upgraded version of the ERC-20 protocol, which has the advantages of simplifying transaction processes and avoiding token loss caused by mistaken issuance. It can be seen that Tokenlon hopes to use a better protocol to bring a better user experience.

With the user base of imToken, it is said that imBTC has an innate advantage. However, it has been one year since its launch and its development trend is still lukewarm. The reason may be related to the reentry attack vulnerability of the ERC-777 token and Uniswap/Lendf.me contract combination. The attacker has repeatedly iterated the method function called tokensToSend to steal the ETH/imBTC trading pair on the platform.

pBTC

pBTC is a BTC anchor coin issued by pTokens in March 2020 based on TEE technology, which is also BTC1:1. pBTC is centralized in a lighter color and plans to transform to the DAO model in the future. Currently, the number of issuances on Ethereum is about 200.

Using pTokens, users can mint pBTC through trusted calculations. Users only need to deposit a certain amount of BTC on the corresponding pToken smart contract and provide the receiving address. The transaction will be carried out in a set of trusted execution environments (TEEs). After verification by the enclave program, the corresponding amount of pBTC will be minted and transferred to the address provided by the user. The entire process is transparent and visible, and there is no intermediary fee.

3.5 Potential risks

At present, these anchored BTC have never had any security accidents of asset loss or stolen in the Bitcoin layer. However, there was an accident at the Ethereum layer. imBTC used ERC-777, and some factors caused it to steal the liquidity pool by hackers on Lendf.me and Uniswap. However, the BTC assets of its Bitcoin layer are still safe.

Because the technology of the Bitcoin layer is relatively stable and does not have complex contract logic, the probability of risk is relatively low. In addition, the total number of BTC anchor coins has exceeded fifteen, which effectively increases the confidence of coin minters in this type of technology.

Of course, no security accidents have occurred, which does not mean that these anchor coins are absolutely safe, such as hacker theft, internal theft, and private key damage, the risks of "black swan" always exist. Every custodian needs to prepare for the future to better deal with these potential risks.

4. Summary

In just half a year, 150,000 BTCs have completed cross-chain in the form of "Eight Immortals Crossing the Sea". Due to the technical characteristics of BTC itself, it is almost impossible for BTC to have a non-custodial solution. Therefore, more than 98% of BTC currently use the "custodial + mapping" solution. Considering that these methods are running smoothly, there are no security accidents, and DeFi is still continuing to provide yield-farming rewards, the coin minters have a high willingness and their overall development momentum is still upward. At the same time, objectively speaking, such cross-chain not only brings smart contract functions and performance improvements to BTC, but also increases the total assets for Ethereum blockchain. Therefore, we believe that more BTCs will enter the Ethereum network in the future, and perhaps it can be further increased by another order of magnitude.

References and information

[1] WBTC official website: https://wbtc.network/

[2] renVM official document: https://github.com/renproject/ren/wiki

[3] HBTC official website: https://www.htokens.finance/zh-cn/

[4] Synthetix official document: https://synthetix.community/docs/intro

[5] Keep Network official document: https://github.com/keeperdao/docs/wiki

[6] BoringDAO Whitepaper：https://boringdao-prod.oss-accelerate.aliyuncs.com/

[7] pBTC official website: https://ptokens.io/how-it-works

About Huobi Research Institute

Huobi Blockchain Application Research Institute (hereinafter referred to as "Huobi Research Institute") was established in April 2016. Since March 2018, it has been committed to comprehensively expanding research and exploration in various fields of blockchain. It takes the field of ubiquitous blockchain as the research object, and accelerates the research and development of blockchain technology, promotes the implementation of blockchain industry applications, and promotes the ecological optimization of the blockchain industry. The main research content includes industry trends, technology paths, application innovation, model exploration, etc. In line with the principles of public welfare, rigor and innovation, Huobi Research Institute will carry out extensive and in-depth cooperation with governments, enterprises, universities and other institutions through various forms to build a research platform covering the complete blockchain industry chain, provide blockchain industry personnel with a solid theoretical foundation and trend judgment, and promote the healthy and sustainable development of the entire blockchain industry.

Contact Us:

Consultation email: [email protected]

Official website: https://research.huobi.cn

WeChat official account: HuobiCN

Sina Weibo: Huobi Blockchain Research Institute

https://www.weibo.com/u/6690456123

Twitter: Huobi_Research

https://twitter.com/Huobi_Research

Medium: Huobi Research

https://medium.com/@huobiresearch

Disclaimer

1. Huobi Blockchain Research Institute does not have any relationship with the projects involved in this report or other third parties that affect the objectivity, independence and fairness of the report.

2. The information and data quoted in this report are all from compliance channels. The source of the information and data is considered reliable by Huobi Blockchain Research Institute, and its authenticity, accuracy and completeness have been conducted as necessary verification. However, Huobi Blockchain Research Institute does not make any guarantees on its authenticity, accuracy or completeness.

3. The content of the report is for reference only, and the conclusions and views in the report do not constitute any investment advice for related digital assets. Huobi Blockchain Research Institute shall not bear any responsibility for losses caused by the use of the content of this report unless clearly stipulated by laws and regulations. Readers should not make investment decisions based solely on this report, nor should they lose the ability to make independent judgments based on this report.

4. The information, opinions and speculations contained in this report only reflect the researchers' judgment on the day of the final draft report. In the future, based on industry changes and updates of data information, there is a possibility of updates on opinions and judgments.

5. The copyright of this report is only owned by Huobi Blockchain Research Institute. If you need to quote the content of this report, please indicate the source. If you need to quote a large amount, please inform us in advance and use it within the scope permitted. Under no circumstances shall this report be cited, deleted or modified in any way that is contrary to the original intention.