Frax Finance Explained

What is Frax Finance?

Frax Finance is a decentralized project, composed of subprotocols focused on creating and managing algorithmic stablecoins, including the USD-pegged FRAX and the Ethereum-pegged frxETH. With a total value locked (TVL) of $655 million across 20 blockchains, and FRAX as the 10th largest stablecoin, the platform continues to play an influential role in crypto in 2024.

FRAX v3 marked an important milestone in advancing full collateralization by maintaining a 100% collateralization ratio using automated market operations (AMOs) smart contracts and real-world assets (RWA). It leverages oracles and governance to uphold a stable USD peg while operating entirely on-chain through the frxGov module, eliminating multi-signature trust assumptions.

Frax Finance has developed subprotocols for trading, stablecoin swapping, and cross-chain transfers. Recently, it launched Fraxtal, an Ethereum Layer 2 blockchain with a blockspace rewards program to support its expansion strategy.

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How Does Frax Finance Work?

Frax Finance operates by issuing and managing decentralized stablecoins through algorithmic mechanisms. To ensure liquidity, lending, and cross-chain compatibility, Frax Finance uses protocols with specific functions:

• Fraxswap: A time-weighted average automated market maker (TWAMM) designed to manage collateral rebalancing, stablecoin supply adjustments, and onchain liquidity.
• Fraxlend: A lending platform that offers isolated markets between two ERC-20 assets allowing anyone to lend and borrow.
• Fraxferry: The cross-chain transfer protocol that facilitates the movement of Frax-based tokens across different blockchains, enhancing interoperability.

Additionally, Frax Share (FXS) serves as the governance token of the Frax ecosystem, which accrues fees, revenue, and excess collateral value, allowing holders to participate in the protocol's decision-making processes.

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What is FRAX?

FRAX is a dollar-pegged stablecoin that maintains a 1:1 ratio through AMOs and DeFi protocols, such as Fraxlend and Fraxswap. There is a minimum of 100% collateralization using both on-chain and real-world assets. That ensures that 1 FRAX is always equal to 1 US Dollar.

Additionally, FRAX operates via the frxGov module without multi-signature trust assumptions; using oracles to maintain its USD peg, and cannot be redeemed for specific assets, similar to fiat currencies. Overall, FRAX is a safe stablecoin compared to other algorithmic choices.

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What are frxETH and sfrxETH?

Frax Ether (frxETH) is an Ethereum liquid staking derivative, and stablecoin pegged within 1% of the exchange rate of ETH. Similar to other LSDs, it mirrors almost perfectly the value of ether, while also giving the user more flexibility in what he can do with his assets.

On the other hand, Staked Frax (sfrxETH) earns staking yield from Frax Ethereum validators, while the Frax ETH Minter allows users to exchange ETH for frxETH. Stakers can earn interest on any amount of ether without the need for running validator nodes (32 ETH required) and they can withdraw at any time.

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What can I do with frxETH and FRAX?

Both frxETH and FRAX are liquid assets, meaning that their owner can do whatever he wants with them within their supported blockchain networks. This opens the door for tons of interesting DeFi activities such as lending and liquidity providing (LP).

As an example, an investor can go on Convex Finance or Curve Finance and deposit either of these tokens as collateral in return for daily interest. Similarly, he can become an LP in a liquidity pool and earn an annual percentage yield (APY) from transaction fees. Currently, FRAX is available on 39 pools that provide an average APY of 3.19%, according to data from DefiLlama.

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What is Frax Share (FXS)?

Frax Share (FXS) is the governance token of the Frax ecosystem, designed to be volatile and capture the system's utility while helping maintain the stability of FRAX. FXS holders can participate in governance by voting on parameters such as collateral pools, fees, and collateral ratios, with the token's supply being largely deflationary as demand for FRAX grows.

Holders can earn additional rewards (APY is claimable on Fraxtal now), governance rights, and profits when they lock FXS to generate veFXS. The current market capitalization of FXS is $150 million, placing it just in the middle of micro-cap coins and also indicating a significant drop from $750 million in February 2024 and the peak of $2 billion in 2022.

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Frax Share (FXS) Tokenomics

FXS has a straightforward tokenomics model designed to ensure fair distribution:

• Total Supply: 100,000,000 FXS.
• Community Allocation (65%): With 60% for yield farming and liquidity programs (halving every December 20th). 5% for treasury, grants, partnerships, and bug bounties.
• Team and Investors: 35%, distributed to the team, founders, and early members at 20% (12-month vesting, 6-month cliff), while strategic advisors and outside early contributors get 3% (at 36-month vesting), and accredited private investors receive 12% (varied vesting conditions).

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Who Founded Frax Finance?

Frax Finance was founded in mid-2019 by Sam Kazemian and his colleagues, who used the crypto bear market to develop the protocol's theory, code, and design without raising investment.

Despite the crypto community's skepticism following the 2018 ICO bubble, they circulated the first Frax whitepaper in late 2019, launching Frax v1 on December 20th, 2020, which quickly gained over $300 million in total value locked. At the time it included two tokens, FRAX and Frax Share Token (FXS), offering a decentralized, stable alternative to Bitcoin for those who believed in its investment potential but not its currency utility.

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Bottom Line

Frax Finance is still a reliable algorithmic stablecoin system in 2024, maintaining stability and security through its collateralization and governance strategies. Frax is still among the best players in its field, unlike many other algo stablecoins, such as TerraUSD, which failed due to flawed designs.

By achieving a 100% collateralization ratio and launching innovations like the modular L2 rollup Fraxtal, Frax Finance focuses on long-term growth and adaptability in the DeFi sector. As crypto keeps changing further, the project will keep updating its tools.