"There's the Opportunity to Make Really Complex Financial Instruments More Accessible”: Opyn's Alexis Gauba

Hello Defiers, happy Friday! In this week’s interview I talk with Alexis Gauba, the cofounder of Opyn. Alexis and her team built the first decentralized options market, on Ethereum. These instruments give investors a tool to protect against market volatility and Black Swan events, like hacks, bank runs, and big price crashes. In DeFi the risk is especially high, which explains why Opyn has taken off since its February launch.

Options are a key piece in traditional finance and make up the most liquid market in the world, with contracts representing trillions of dollars in value. Opyn contracts are not quite yet, and even if notional volume grew five times in the past month, it’s still under $40 million. But if DeFi ends up overtaking centralized finance, we could be witnessing the rebirth of this monster-sized market. The difference is that this time, everyone can access it, and anyone can build their own financial instruments on open sourced protocols.

Alexis shares more about how Opyn was born, the project’s traction, the next markets the team plans to add and what innovative projects devs are building on top of the protocol. She also gives a peak at what Opyn V2 might look like.

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Alexis Gauba: My background and how I got interested in crypto almost interweaves together. I heard about Bitcoin towards the end of 2016. I was taking a public policy class and was writing a paper and came across a Bitcoin and thought this seems kind of interesting. So I started reading more about it, then started reading more about Ethereum and it's cliche, but fell down the rabbit hole from there and ended up going to school at Cal, joined blockchain at Berkeley, which is this incredible organization of individuals who are all super passionate about this space. And there was really where I was able to get a ton of crypto education, build my first applications on Ethereum, that's where I met my cofounders Zubin and Aparna for Opyn and also where I met an amazing group of women and we were able to found She 256, which is a 503(c)(3) nonprofit focused on diversity and inclusion in crypto.

That Fall I was doing proof-of-stake research and then also working on She 256. From there it was just kind of incredible to be involved in the crypto space and I knew at that point, there wasn't really anything else I wanted to do with my time. So we were continuing to do research and then at some point Aparna, my co founder, got the Thiel Fellowship and Zubin my other co-founder graduated. And we were like, okay, wow, this is an incredible opportunity for us to just drop everything and focus on what we're really passionate about.

And so it was kind of from there where we all left school, we did a study on crypto in emerging markets with MakerDAO. Zubin and Aparna were on the ground in India talking to lots of users, we started building different applications in DeFi, kind of for fun. And as we talked to more and more users, we realized that while everyone was super excited about DeFi and the potential here, people were scared of the risks, both the technical risks, like smart contract tech, but also the financial risks. And so we realized that was an area that we really wanted to focus on. And that's when we started thinking about solutions and that's where Opyn as we know it today came from.

Camila Russo: So interesting. But first a few things about your background. Are you originally from California?

AG: Yeah. I was born and raised in the Bay Area. I'm still here, so I've been in the same 50 mile radius my whole life, but at some point I'd love to explore more, but not the most timely right now.

CR: It's a good place to be a tech founder.

AG: Absolutely. I've learned so much just being here. It's crazy.

CR: And so what were you studying at Berkeley?

AG: I was studying electrical engineering and computer science.

CR: Oh, got it. So that's how you were able to start tinkering right away.

AG: Yeah. I think I built my first dapp at Cal Hacks. I think Gnosis was a sponsor that year.

CR: Very cool. And, so when a Aparna got the Thiel Fellowship, what was it for?

AG: It was for Mechanism Labs. So this was when we were doing research on proof of stake and distributed consensus. And so it was pretty much just supported by grants and we were putting out lots of research and lots of content in that space. And so at that point, we still weren't thinking about products yet, but more about research.

CR: Okay. And then did you drop out or did you wait to graduate?

AG: I did drop out. I did three semesters of Cal.

CR: So we have a classical tech founder here.

AG: It's funny, when I joined blockchain at Berkeley, I was like, there are almost more dropouts here than students.

Image source: Blockchain at Berkeley

CR: Yeah. Computer science drop out. I think it's becoming a good credential to have. It's interesting that, with you coming from a more kind of scientific background than financial you were interested in and drawn to this very kind of technically, financial side of blockchain with options and futures contracts and that sort of thing. Why do you think that's where you decided to focus on?

AG: When we were doing research, we were focused a lot on proof of stake economics and incentives design, and I found all that stuff super fascinating. We were following Maker and Dai and we thought it was super cool and super interesting. And we thought that DeFi applications are almost like applied economic incentive design.

DeFi Native Kids

Personally I hadn't touched Coinbase Pro until I started building in DeFi because I was intimidated by the interface. I kind of saw this as a really unique opportunity to make these traditionally really complex financial instruments, more accessible to people. And that's something that's really important to me. Additionally, my cofounder Zubin has been obsessed with finance since he was in the sixth grade. This is his life's blood and he loves it. And so when, I met him, I saw how passionate he was about it and he helped me learn a lot about it too. And so this is something that's really exciting to all of us in different ways.

“I hadn't touched Coinbase Pro until I started building in DeFi because I was intimidated by the interface. I kind of saw this as a really unique opportunity to make these traditionally really complex financial instruments, more accessible to people.”

CR: What you mentioned about kind of you getting into finance through DeFi for the first time, I think it's really interesting and it's something that I've heard a lot in this space, this younger generation who is very much digital-first and who grew up having internet and mobile phones and it just feels more natural and an easier way to start dealing with money than traditional finance, which is something that I don't think many people would expect. I think there's this perception that dapps on Ethereum and blockchain are super hard and not user friendly, but it's interesting to see this new wave of users who get into finance through DeFi, even though it's a really small group. Do you see that the potential for that growing and how was that experience for you?

AG: Absolutely. So I think maybe last year I sent my 10 year old sister some ETH. I was like, do you want some free money? And she was like, okay. So I sent her some ETH and she downloaded a MetaMask. She didn't even ask me questions about it. She traded some ETH for Dai on Uniswap, like I sent her all these links and stuff, but at 10 years old, it was crazy. To her it seems obvious that money should be on the internet. It's like, I text my friends on the internet, I play games on the internet, money on the internet just makes sense.

And then at She 256, we held a Designathon, which was kind of this design hackathon. And we were, again talking to students, middle school to high school aged, and we gave them a prompt to design a cryptocurrency wallet. We were like, in the future, students won't receive their first credit card, they'll receive their first crypto wallet. And this was the first time they'd heard of crypto. At the end of the day they were presenting solutions like, okay, I'll have a multisig, so that my parents can approve and I can approve. And I was like, these kids get it, internet money makes sense.

Tokenized Insurance

CR: Wow. That's amazing. I always assumed that it would be easier for the younger generation, but I never would have thought that a 10 year old would easily download MetaMask.

Okay, so you saw this need for a safer way to experience this new internet money. Tell me about the very initial idea behind Opyn and how you got started.

AG: We realized that this was a problem that we needed to bring technical and financial safety to DeFi. And so we started thinking about different ways to do that. And we realized that in traditional finance people often use options for risk management and hedging and insurance. So this was something that Zubin had a lot of familiarity with. And so we realized that what was really unique in DeFi is that because you have these tokenized pools of collateral with things like Compound, you can actually use these protective put options for this insurance use case. So if you create a put option on cDAI or cUSDC, then in the case that there's either some sort of smart contract hack or a financial risk, like a bank run, you can be protected.

We built the Convexity protocol, which is this generalizable options platform, not just to build an options platform, but because we saw that there was a need for risk management and hedging, and we saw this as a good solution.

“We built the Convexity protocol, which is this generalizable options platform (…) because we saw that there was a need for risk management and hedging.”

CR: Taking it a step back, can you explain what options are and how they help.

AG: Yeah, absolutely. So let's, let's just start by kind of explaining what an option is. So an option is a financial instrument, which gives you the right to buy or sell an asset at a specific price at a given time. And so there's a put option, which gives you the right to sell an asset at a specific price. And then there's a call option, which gives you the right to buy an asset at a specific price. What we offer right now is put options.

And I know that was kind of a lot of words and it may have been a little confusing. So it might be helpful to just go through an example. So let's go back to black Thursday. So that's, you know, that's a day that a lot of us in the community remember ETH was around $200. So say that we purchased a put option with a strike price of $150. What that allows us to do is if ether drops below $150, we can still sell ETH for $150. So now if ether price falls down to say a hundred dollars, we can exercise or use our option to still sell ETH for $150 though its market price is a hundred dollars. And so that's how an option works and how it lets us mitigate our downside in a lot of these situations.

CR: So that's obviously super important, especially in crypto where prices are so volatile. And I think an interesting aspect in crypto, that's different from traditional finance, in traditional finance demand from these contracts comes from the commodity markets where people who are dealing with actual commodities and crops, they have like a large inventory to sell. They need to protect the price of their product in the longterm. So that's where most of the demanded traditional markets come come from. And then obviously there's just speculators to trade these contracts, but why it's actually useful it's because it protects a really key aspect in the economy.

And I think in crypto, you get sort of a similar thing with miners. These are kind of the commodity producers in this economy, and they need to protect themselves from fluctuations in price.

ETH Crash Protection

From what you've seen in DeFi is the options market developed enough to have that, that sort of use case for miners? Or is it more likely speculators using these contracts?

AG: Right now what we're seeing is a lot of people who are buying these contracts are either DeFi enthusiasts who hold ETH and want to protect their downside or people who are maybe newer, who are kind of buying ETH for the first time and also want to be able to have that downside protection. So a lot more kind of retail users.

There's definitely interest from larger players like miners, but I think these markets do need to grow to become more liquid before that can be really viable for kind of larger players. And then of course there are speculators as well just like with any derivatives market. But it's been really interesting to see people who haven't necessarily looked into these instruments before, now starting to understand them. And these are complex instruments. And I do think you need to have an understanding before you use them, but people are starting to learn and starting to use these things to actually protect themselves against that downside.

“There's definitely interest from larger players like miners, but I think these markets do need to grow to become more liquid before that can be really viable for kind of larger players.”

CR: So exactly in what parts of DeFi do you help protects against?

AG: Right now there are two types of protection available. One is protecting stablecoins on Compound, so you can protect your Dai deposits on Compound or your USDC deposits on Compound, and then you can also hedge your ETH risk with ETH put options. And so those are kind of the two protection products that we have available right now.

Image source: https://opyn.co

CR: So for ETH we went over the mechanics of this. For Compound's case, can you go over that? Would the protection be against like a Black Swan events or are there other cases where even like small variations of a stablecoin price would trigger a contract?

Compound Deposits Hedge

AG: Yeah. So it's primarily Compound deposit protection, so it's less that small variations in the stablecoin will trigger it, but more if something happens to Compound, whether it's a hack or some sort of liquidity crisis, then you can make a quote unquote claim by exercising your options contract.

CR: So how would that work? Because, say I deposit 100 Dai in Compound, I get cDai, and so would the options contract be there to protect the 100 Dai in Compound?

AG: So you deposited some Dai in Compound, then you get that cDai, that cDai is basically your receipt. So you can take that cDai, go back to Compound and get Dai for that cDai at anytime.

But now if you want to protect yourself against some kind of adverse event on Compound, whether it's a technical risk or a financial risk, then what you can do is come to Opyn and pay a premium to purchase some oTokens as protection. And so what these tokens are, they’re options contracts, where cDai is the underlying asset. So now, as the buyer, you hold both cTokens and you hold oTokens. Now say that there's some sort of adverse event that has affected Compound and for some reason you can no longer take your cTokens to Compound and get out Dai in return.However, because you bought protection, what you can do is take your cTokens and oTokens and send them to Opyn and then redeem your Compound deposit in full or in the amount that you bought protection for from Opyn.

“If you want to protect yourself against some kind of adverse event on Compound, whether it's a technical risk or a financial risk, then what you can do is come to Opyn and pay a premium to purchase some oTokens as protection.”

CR: Okay. That makes sense. So it's basically insurance against something happening to your Compound deposits, you still get your Dai back. And so who is on the other side? Who's putting up all the Dai in Opyn?

AG: So what you, so what you actually do is when you as a buyer, when you deposit your oTokens and your cTokens you actually get ETH in return instead of Dai. And then it's the same amount as the Dai in Compound, but it's in ETH because these are ETH collateralized.

On the other side you have people who are putting down ETH in order to mint and sell these oTokens. So they are basically comfortable taking the risk that something could happen to Compound. They're earning a premium for that risk that they're taking on. And then in the case of some sort of adverse event, then they pay out the people that bought insurance with that ETH collateral. And so they're overcollateralized there.

CR: Okay. So on the other side are people who are putting up ETH to mint oTokens and then selling those tokens at a premium for in this case, whoever took out cDai from Compound and wants to protect their Compound deposits. So yeah, they're taking on the Compound risk in exchange for that premium and if anything happens, then they'll have to give up their ETH collateral. But if not they take the fee that the cDai owner pay.

So is this peer-to-peer or does it work with a liquidity pool, like Uniswap?

AG: So it's peer to contract, it's not peer to peer. All of these tokens are completely fungible, so you can trade any oToken that protects Dai for any other oToken that protects Dai if they're of the same series. Right now, these oTokens actually trade on Uniswap. So when you sell, you're selling to this Uniswap pool and when you buy you're buying from this Unsiwap pool.

ETH Call Options Next

CR: And how have you seen this market develop? Are people trading these tokens or just buying them for the protection?

AG: We've definitely seen people buying and selling oTokens more so for the ETH oTokens than the Compound ones. And if you buy put options, selling them early is a pretty common strategy. People who have sold the oETH sometimes we'll buy back oTokens to close out their positions ahead of time. So we definitely see a lot of people buying and selling oETH, on the Compound side a little bit less. But people are also just holding it from the insurance and protection perspective.

CR: Going forward, what other markets do you think will most likely be added to Opyn? Where are you seeing most demand?

AG: We're seeing a lot of demand for ETH call options. People seem to be really excited about that. So that's something that we're thinking about. We're also seeing a lot of demand for puts and calls on any of the Bitcoin bridges. So WBTC. Those are some of the bigger areas that we're seeing right now. There's also different protocols in DeFi that we're also excited about doing more of the insurance style options for their protocols, so that's where we're seeing a lot of demand right now.

[ … ]

Paid subscribers have access to the full transcript, including sections on:

• Opyn’s growth so far“Opyn 5x-ed total notional volume in the past month $36 million (…) [and unique Ethereum addresses doubled over the past month]”
• Building on the open source protocol“With Opyn, a big thing is building the generalizable options protocol, and then encouraging lots of people to build on top. (…) You can create almost any financial payoff in existence just using options, which is crazy.”
• Why decentralized options“Options in DeFi can be native to DeFi (…) There are these unique ways that these systems can interact on chain in a way that they can't necessarily off chain.”
• Opyn V2““We're thinking about alternative exchange venues. As we've talked about before Uniswap is tricky for options because you end up with a hundred percent in impermanent loss.”
• Diversity in crypto“I think one of the coolest things about this space is it's only like 10 years old, really, which means that no one's an expert. (…) And people are still innovating, are still pushing boundaries. And so it's an incredible time to set a precedent early on that this space is one that prioritizes diversity and inclusion.”
• The longterm vision“That people can feel really comfortable and in control. Taking control of their personal finances and feel empowered to do so. I think that's something that's really important, regardless of what blockchain we're trading on.”

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About the founder: I’m Camila Russo, a financial journalist writing a book on Ethereum with Harper Collins. (Pre-order The Infinite Machine here). I was previously at Bloomberg News in New York, Madrid and Buenos Aires covering markets. I’ve extensively covered crypto and finance, and now I’m diving into DeFi, the intersection of the two.