DeFi applications are limited by the assets and instruments available on the blockchain. Most people do not seek to invest in crypto tokens. They seek safer options such as bonds, stocks, commodities, et cetera.
Synthetic tokens are a great solution. They are coins that follow the price of an asset. This greatly expands the type of on-chain assets. E.g., a user can get exposure to real-world assets by minting iEUR, iUSD, iJPY, iGBP, or iTSLA.
Synthetic assets can bring bonds, stocks, and commodities to the blockchain. This expands the type of assets available for crypto investors and brings a new type of investor to the crypto industry.
DeFi developers can build lending, swap, and leverage solutions for these tokens.
NFTs are not easy to integrate into DeFi applications due to their lack of fungibility. Each token in a collection has a unique price and cannot be divided.
A synthetic token that tracks the floor price of an NFT collection solves both issues. Synthetic tokens are fungible. Therefore, an investor does not need to buy an entire crypto punk NFT. He can buy a fraction.
Synthetic tokens are a safer alternative to bridged tokens. Bridge tokens are usually backed by a 1:1 ratio, while synthetic tokens are overcollateralized by at least 3x.
Bridges are infamously hard to implement securely, as shown by the recent hacks. Bridges have many moving parts: smart contracts, validators, et cetera. E.g., a DeFi developer would be more comfortable implementing a synthetic BTC on the Cardano chain instead of a bridged BTC.
There are two parties involved in synthetic tokens: creators and end-users.
Creators put up collateral to create synthetic tokens based on an LTV.
All synthetic tokens have the same LTV to facilitate the swap between synthetic tokens for creators. E.g., a creator needs to put in 1000 USD to create 200 USD of synthetic tokens with an LTV of 20%. If the price of the synthetic goes up, the position becomes undercollateralized, and the creator gets liquidated.
Creators only lose rewards when they get liquidated. They do not lose collateral!
Each synthetic token has a transfer fee given to the creators and the treasury. Creators are incentivized to create highly demanded tokens and provide liquidity to them. These rewards are the ones they are illegible to lose on liquidations.
Creators can swap a synthetic token for another synthetic token with 0 slippage and unlimited quantity for a small fee.
Users can acquire these tokens to speculate on their price. They pay a fixed transfer fee to reward the creators.
dApps can be built around these tokens to provide new financial instruments for their users.
Synthetic tokens are immutable ERC20 tokens with 18 decimals. The owner has very limited power to make them safe for the end users and creators.