RiskON & RiskOFF

Product Description

An investor will deposit [x] units of certain cryptocurrency (“Underlying Collateral” or “Underlying Cryptocurrency”) with The Risk Protocol (“TRP”) platform and in return TRP will issue to investor two new tokens (the “Creation Process”) that are designed to have aggregate value equivalent to value of the Underlying Collateral. The design segregates the risk of owning the Underlying Collateral into a low-risk token named RiskOFF and a high-risk token named RiskON. RiskOFF will generally have less risk in terms of both beta and standard deviation of returns than the Underlying Cryptocurrency, while RiskON will generally have a beta and standard deviation of returns that exceed the same statistics of the Underlying Cryptocurrency (RiskOn shall be a levered version of the underlying beyond the call and put strikes). Neither product will borrow any currency in the pursuit of these objectives.

For each unit of Underlying Cryptocurrency, the investor shall receive 1 unit each of RiskON and RiskOFF. So for instance, if investor deposits 1 BTC with the platform, they shall receive 1 BTC RiskON and 1 BTC RiskOFF token. Tokens are designed such that at any point “value of BTC RiskOn” + “value of BTC RiskOFF” = “Value of BTC” (BTC is just being used as an illustrative example here. In practical terms, the same mechanism could be applied to any other cryptocurrency).

An investment period will run for a term of one calendar quarter (each investment period an “Epoch”). On the last day of each Epoch, each token shall settle into two new tokens issued for the next Epoch. Each token and the settlement and pricing process are described in greater detail below.

RiskOFF Token

The RiskOFF Token consists of [x/2] units of the Underlying Cryptocurrency, one short out of the money European style covered call (on [x/2] units of the Underlying Cryptocurrency) and one out of the money long American style standard down and out barrier put also on [x/2] units of the Underlying Cryptocurrency. This barrier put will employ a collateral rebate that the short position (Risk On) will pay the long position (Risk Off) if the put hits the barrier and knocks out. This rebate is equal to half of the put strike. The strikes for the two options will be selected such that the proceeds from the sale of the short call will exactly offset the cost of buying the down and out barrier put. Together with the underlying cryptocurrency positions these offsetting options positions form an option strategy known as a “costless collar”. Both option positions are risk reducing positions that should, in combination with the underlying crypto position, result in an investment with significantly lower volatility. The prices and Net Token Value (“NTV”) of the RiskOFF token (and the embedded options in each token) will be denominated in USD.

RiskON Token

The RiskON Token consists of [x/2] units of the Underlying Cryptocurrency, one long out of the money European style call (on [x/2] units of the Underlying Cryptocurrency) and one out of the money short American style standard down and out barrier protective put (also on [x/2] units of the Underlying Cryptocurrency). The strikes for the two options will be equivalent to the strikes selected for the call and the put in the RiskOFF token such that the options positions of the RiskOn token exactly offset the options positions of the RiskOFF token. The embedded options in the RiskOn token, in combination with the underlying crypto position, will result in an investment with enhanced or levered market exposure. The prices and NTVs of the token and the embedded options will be priced in USD.

The “Risk-Splitting" Mechanism

As stated earlier, the options in each RiskON/RiskOFF token pair are exactly the opposite of the options positions in the corresponding RiskOFF/RiskON token. The short call in the RiskOFF token has the same specifications as the long call in the RiskON token. The same is true for the put positions in both tokens. By combining the two tokens, the options in each token are extinguished leaving just exposure to the Underlying Cryptocurrency.

When an investor comes to The Risk Protocol platform with one unit of a crypto currency and deposits that with the platform, the investor receives in return one unit of RiskOFF and one Unit of RiskON. Depending on the investors risk tolerance, the investor can then choose to sell either token and/or buy additional tokens on the platform’s secondary marketplace. The investor can, at any time, come back to the platform with one unit of RiskOFF and one unit of RiskON to get back one unit of the Underlying Cryptocurrency (the “Redemption Process”). The Creation and Redemption Process ensure that the aggregate prices of the two tokens are tethered to the price of the Underlying Cryptocurrency and also ensure that TRP platform itself has no delta exposure.

Pricing: Market Prices & NTVs

The Risk Protocol platform will use a sophisticated volatility forecasting model and pricing models to arrive at the initial prices for the costless collars and for the token NTVs (on a tick-by-tick basis) throughout the investment period. RiskOFF NTV will be calculated as [x/2] crypto-coin minus the short call value plus the long put value. The RiskON token NTV will equal [x/2] crypto-coin plus the long call value minus the short put value.

All model parameters such as the input volatility, input risk free rate etc. will be published in real time. Apart from publishing RiskON and RiskOFF NTVs, TRP will also publish the decomposition of the NTVs (i.e. the stand-alone value of each embedded call and put) on a real time basis allowing investors complete transparency on pricing.

The Risk Protocol believes it will be using the best volatility forecasting models and the best pricing models such that prices and values calculated at the offering and throughout the investment are a fair and unbiased estimate of the true worth. However, some market participants may disagree with TRP’s valuations and trade based on that perceived mispricing. Moreover, short-term traders might wish to tactically move between RiskOn and RiskOFF modes within an investment period as market/trader sentiment changes. It is therefore the platform’s intention to allow investors to express their market views through active trading by providing a liquidity venue for the new risk instruments.

The firm shall create a risk marketplace providing an active secondary market for tokens. The market price of each token is expected to fluctuate based upon market forces.

Settlement Process

On settlement date, the NTVs shall reflect intrinsic value of each token in USD. Simultaneous with the end of an epoch, a new epoch will start and new RiskOn/RiskOFF token values will be calculated such that the options again, along with the underlying crypto currency, make a zero cost collar. Each investor’s expiring token USD value will then be used to purchase equal USD amounts of the new RiskOFF and RiskON tokens such that the investors combined USD NTV in the new tokens equals the expiring USD NTVs. Token holders can again sell or buy tokens on the secondary market to arrive at their desired holdings. The settlement of the old tokens and the issuance of the new tokens will happen simultaneously through an atomic swap. TRP will create automated bots that will allow investors to automatically balance into their desired holding upon each settlement.

If the underlying crypto currency declines to the Knock-Out Price Barrier, the executive down and out barrier put will be extinguished and Risk On will pay Risk Off the collateral rebate resulting in RiskON meeting its short put obligation to RiskOFF by transferring its share of the Underlying Cryptocurrency to RiskOFF (basically at Knock-Out Price, the rebate settlement due by RiskON to RiskOFF will exactly equal the value of the Underlying Cryptocurrency held by it). At that point a new rebalance will be initiated as described above and a new investment period will start. This new period will end at the end of the calendar quarter for that period.