On LOTUS and Forks

LOTUS was the first to pioneer utilizing liquidity book strategies for provisioning protocol owned liquidity in an autonomous token economy, and was a major source of inspiration for the protocol. However, LOTUS has a few flaws in it's mechanism that prevent it from achieving long term success.

Liquidity Gaps and Capital Inefficiency

The biggest issue with LOTUS and many of its forks is the lack of rebalancing LOTUS liquidity when the price drops. Because LOTUS is pre-deployed into set bins, when the price drops, a large gap in liquidity is created between the floor bin and the most recently traded LOTUS bin.

LOTUS/ETH liquidity distribution

This creates a major issue where there is extremely thin intermediate liquidity between buying LOTUS from the last bin (expensive) and selling LOTUS to the floor bin (cheap). This drives the trading activity away from the primary pool where the token is taxed and protocol fees are accrued, leaking value to third party liquidity providers in outside pools and circumventing rewards to loyal LOTUS holders.

LOTUS/ETH Pool (Protocol Owned, Taxed)

LOTUS/USDC Pool (Third Party Owned, Not Taxed)

As a result, most of LOTUS trading is done away from the protocol's hard earned liquidity, making the ETH acquired by the protocol ineffective and underutilized. This significantly impedes LOTUS's price discovery and ultimately hinders the ability for the protocol to realize it's full potential. Additionally, since LOTUS doesn't check sells into other TraderJoe pools for tax, most of the trading voume in the LOTUS/USDC pool is not directly benefiting the protocol or it's participants.

The Negative Flywheel Effect

The gap in liquidity also represents another problem: without rebalancing the LOTUS sold in the liquidity pool, prices get "stuck" in bins where LOTUS is dumped. This specifically occurs in two bins: in last traded LOTUS bin and in the floor bin. This creates massive price inertia around the two most psychologically important prices of the market: the lowest possible price, and the highest historical price. When the protocol inevitably loses momentum, the price will tend to get "stuck" at these two prices and require significant buying pressure to overcome both these points.

In order for price to move beyond the floor, all the LOTUS dumped at the floor bin must be repurchased to create any upward price trend again. And if the price gets moving again, all the LOTUS in the upper bin must be repurchased at the significantly inflated price to overcome the previous all-time high. Factor in the trading taxes, and each subsequent attempt becomes incrementally more capital intensive, making the probability of future attempts at making new highs increasingly lower.

In other words: price is likely to stay at floor, and if it happens to picks up, the protocol will likely make lower highs until it dies. The protocol has a negative flywheel effect that keeps price where it is once the momentum is lost.

The Lost LOTUS

For LOTUS specifically, these problems are further exacerbated by the fact that LOTUS had an issue with it's original staking contract, rendering all deposited LOTUS effectively burned:

In all fairness, this contract was never publically announced nor endorsed—it was found by eager LOTUS participants who prematurely used the contract before it was tested. However, due to the reckless actions of these users, almost 2.3M LOTUS tokens (and growing) are locked in the contract forever, rendering them essentially useless.

This would be bullish under normal circumstances, but in the case of LOTUS, these tokens are still counted as circulating supply by the protocol. As a result, they are factored into the floor price calculation, slowing value accrual to LOTUS users in perpetuity. Essentially, the $LOTUS locked in this contract are absorbing some of the ETH accumulation to the token value, reducing the appreciation in floor price of the protocol to present and future participants. This further hinders the ability for the protocol to grow and does nothing but wastes valuable liquidity that will never be returned to LOTUS holders.

Read on in the Mechanisms section to learn how I address these issues in the protocol.