Know & go
An inside look – not the Oracle of Omaha: Compound Finance’s new Open Oracle System is one of the latest efforts aiming to optimize sourcing off-chain price data for on-chain use cases. In our recap, we breakdown the Open Oracle System and highlight how oracles help make smart contracts more seamless, efficient, and reliable.
Three things to know: (1) Bakkt received CFTC and NYDFS clearance to launch its physically-delivered bitcoin futures contracts (2) INX Limited plans to raise $129.5 million through an initial public offering that is registered with the SEC (3) Casa launches Node Heartbeats that will reward users in small amounts of bitcoin for running a full node on a consistent basis.
Market snapshot: Total crypto market capitalization is around $258.5 billion (-0.7% w/w) at press time. BTC is trading at $10,397 (+1.9% w/w), ETH is at $195 (+5.6% w/w). BVOL (the rolling 30-day annualized Bitcoin volatility as calculated by BitMEX) is 62.0%, down from 66.8% last week. (8/23 1:05PM ET)
An inside look: not the Oracle of Omaha
This week we want to highlight Compound Finance’s new standard for sourcing off-chain price data because it should help make smart contracts more seamless, efficient, and trustless, in addition to helping prevent customers from experiencing economic consequences. Compound Finance is a non-custodial cryptocurrency lending platform built on Ethereum, and its new standard for sourcing off-chain price data uses oracles. The initiative, dubbed the Open Oracle System, intends to provide reliable price feeds for any Ethereum-based financial application without having to depend on a single source for verification. Most decentralized finance (DeFi) projects manage a price feed internally, according to Compound Finance, which presents a single point of failure and risks inbound data integrity with potential economic consequences for users. As we’ll detail below, unreliable pricing data can harm investors and fuel doubts about crypto.
Compound therefore open sourced its efforts to upgrade its own oracle system and help improve access to better and more consistent price data across Ethereum. Robert Leshner, founder of Compound, believes this effort will accelerate activity and innovation in decentralized finance while proving to be equally beneficial for the Compound protocol.
What is an oracle?
At a high level, smart contracts are composed of code that defines what it can do (function) and what information will be updated (state). Both the contact and resulting data are transparently stored on a blockchain, and contract code can be executed without the need for any intermediaries. Smart contracts that exist on platforms like Ethereum will only execute (carry out its function) once certain predefined conditions are met. But these parameters may originate from sources outside of the blockchain network, such as weather updates, sports scores or price data. Ethereum smart contracts can only access on-chain data, thus they cannot pull information directly from off-chain sources, limiting the potential upside of smart contract use in end-user applications.
Oracles propose a solution to the inherent limitations of smart contracts and posting external data on-chain. These systems act as a bridge between off-chain data sources and blockchain networks by retrieving outside information and distilling it into a blockchain compatible format. By leveraging an oracle, project developers can query particular data provided by external sources and power their smart contracts based on the information transmitted via a data feed. Most Ethereum-based financial services rely on specific oracles (price feed oracles) to supply their applications with accurate and updated price information from crypto exchanges, among other reliable sources. MakerDAO, for instance, collates price information from multiple price feeds on a periodic basis to ensure all DAI loans are sufficiently collateralized. Similarly, Compound uses an internal price feed “to determine each user’s borrowing capacity and to measure liquidation thresholds.” Per its FAQ, Compound sources the price of DAI from MakerDAO’s ETH/USD price feed and uses the median prices from Bittrex, Poloniex, and Binance for most of the remaining assets it supports.
The oracle problem
Despite the solution an oracle can provide, there is still a problem in linking digital assets and actions to physical counterparts and external information. The process of authenticating and verifying data as it passes through an oracle feed is often accomplished by a single entity (Compound) or group of entities (MarkerDAO). This continued reliance on trusted intermediaries is at odds with the “trustless execution” proposed by smart contracts and reintroduces a single point of failure, which lowers the barriers of attack and heightens the impact of inaccurate data inputs. Simply put, oracles control smart contract inputs, thus their responses. Therefore, “if the oracle is compromised, so is the entire contract.” Further, an unreliable oracle system will likely diminish the integrity of datasets and applications associated with it and curb user interest in these smart contract powered financial services.
This concern was brought to light a few months ago when Synthetix, an Ethereum-based synthetic asset issuance and trading platform, discovered one of its price feeds reported a price 1000x higher than the rate for Korean Won at the time. According to a company statement, most of the other supported prices feeds were down and the anomaly went undetected. A single trading bot proceeded to exploit the price error, netting its owner 37 million synthetic ether or sETH — worth over $1 billion at the time, though the true value is tough to determine given the “relative illiquidity of sETH on secondary markets.” Synthetix responded by halting withdrawals and trading to prevent further damage. The Synthetix team was also able to contact the trading bot owner and convince them to return their sETH profits in exchange for a bug bounty (possibly due to the inability to realize any gains in an illiquid sETH market). While Synthetix was fortunate to resolve the issue prior to any catastrophic user losses, this event exemplifies the need for a more robust price feed system to ensure reliable input data.
Compound’s new solution
Similar to Synthetix (pre-incident), Compound’s original price feeds are still selected and managed by the core team. But its new Open Oracle System takes a different, more inclusive approach by allowing any network participant to provide price data and post these datasets to Ethereum. The initiative aims to improve oracle resiliency by increasing the volume of available data sources as well as the number of entities validating incoming information. This distributes the trust associated with the price feed selection and verification process beyond its existing model as well as systems currently employed by most DeFi projects.
The Open Oracle System itself operates by dividing trust for maintaining a price feed between four different components: Reporters, Posters, a Data Contract and a View Contract. Reporters represent data providers, such as exchanges, DeFi projects, applications and OTC trading desks. These parties encrypt (via a private key signature) and timestamp updated price information and publicly publish it to the Open Oracle System. Posters, anyone with an internet connection and enough ether to pay transaction fees, can then share signed data on-chain, where it is decoded and stored under the Reporter’s public key in the Data Contract. Finally, DeFi teams or users in search of price feeds may select a source or subset of possible sources based on Reporter reliability via the View Contract, which parses and aggregates the latest information held in the Data Contract.
The system provides a new Ethereum-wide standard for reliable price data reporting based on a transparent process. According to Leshner, this approach makes it clear “who is attesting to a fact” since data is stored under the Report’s public key. This gives every participant the opportunity to weigh-in on the integrity and accuracy of each data provider and, in the long term, direct Ethereum-based financial services towards the more reliable sources. It should also hold exchanges and other public facing data providers accountable, as any Poster or data seeker can cross-reference a company’s on-chain price feed with its website. Another key feature of the Open Oracle System is that it does not require Reporters to post their price data on-chain. The technical skills and capital needed to send information to the Data Contract would likely hinder data provider contributions. By giving this responsibility to Posters, more data providers may be willing to share their price information.
Open Oracle System challenges
In its current design, the Open Oracle System does not ensure data inputs will be entirely accurate. The system simply aggregates price information based on what the Ethereum community selects to share on-chain. It is up to the project or user looking to access subsets of data to determine whether the information provided is reliable and to remove faulty datasets from their feed. This may become less problematic over time if community members create rankings or reputation systems for Reporters that make recognizing inferior data sources a less manual endeavor. But in the interim, flawed reporting may impede initial growth and community enthusiasm for the project.
Some other oracle projects have adopted economic incentive models to protect data seekers from unreliable or misleading data. For instance, Chainlink is building a middleware solution to the oracle problem, and it manages data providers (in this case, participants who operate and Chainlink node and sell their data via an API) through a reputation system. These providers are also compensated for supplying accurate information with LINK — Chainlink’s native token. Therefore, the threat of lost income and a damaged reputation encourages node operators to supply valid data feeds. Similarly, UMA launched an oracle system to power its synthetic assets issuance and trading platform that also discourages corruption via economic guarantees.
It remains to be seen if Compound will pursue a similar mechanism with its new project — though Leshner did note in the Compound Discord channel that components from other solutions, such as a Chainlink node, could operate within the Open Oracle System.
The Open Oracle System is still in its early stages. A prototype of the project is running on the Rinkeby testnet (one of the Ethereum test networks) that enlists just three Reporters (crypto exchanges Coinbase, Kraken, and Binance) and a single Poster controlled by the Compound team. But the long-term vision is for the system to become a “common good for the Ethereum ecosystem,” with Compound being only one contributor (and benefactor) of the network.Data integrity remains a concern for many potential users, as certain datasets are susceptible to intentional or unintentional manipulation or inconsistencies. Various oracle projects (like the Open Oracle System, UMA’s Data Verification Mechanism, Chainlink, DIRT protocol’s new oracle feed, etc.) are aiming to alleviate these concerns by ensuring more reliable off-chain data feeds that are protected from a single point of failure. If successful, these efforts could prove to make smart contracts more useful beyond financial applications.
Weekly market snapshot
In other news
Bakkt announced it received clearance from the CFTC and NYDFS to launch its physically-delivered daily and monthly bitcoin futures contracts and custody services. With regulatory approval in hand, the firm intends to start offering its products to customers September 23. Source. For a more in-depth look at Bakkt’s offerings and the benefits of physically-settled bitcoin contracts, check out our piece covering recent developments in bitcoin futures and derivatives.
E-commerce giant Rakuten launched its Rakuten Wallet product that features spot trading for Bitcoin, Ether, and Bitcoin Cash. Customers can trade and deposit funds without paying fees and will only be charged when requesting either fiat or crypto withdrawals. Rakuten Wallet is only available on Android at the moment, though an iOS version is intended to be released down the line. Source.
Fidelity reported its charity arm, Fidelity Charitable, received over $106 million in cryptocurrency donations since 2015. About $69 million of this total was granted in 2017 alone. The pace of crypto donations slowed in 2018, as the market downturn discouraged people from offloading their investments as charitable assets. But the option may remain intriguing for crypto investors since donations are not subject to capital gains tax and can be written off against their income tax. Source.
Binance announced plans to create a cryptocurrency project similar to Facebook’s Libra. The project, dubbed Venus, is intended to be an open blockchain network that supports the development of regional stablecoins pegged to fiat currencies. Related reports hinted Binance could target countries where Libra won’t launch, such as China or India, due to local restrictions. Source.
Casa introduced a new feature called Node Heartbeats. With Node Heartbeats, Casa can privately check (over the Tor Network) if a user’s Casa node is online. The privacy-focused startup also integrated this service into its SatsBack bitcoin rewards program. Now, Casa users that keep their nodes online will be periodically rewarded in satoshis. Source.
Cere Network secured a $3.5 million seed round backed by Binance Labs, Neo Global Capital, and Arrington XRP Capital, among other investors. The startup provides a blockchain-based customer relations manager (CRM) as a privacy-focused alternative to Salesforce and other mainstream CRM solutions. Cere intends to integrate its system into Binance Chain in the near future. Source.
Gibraltar-based crypto exchange INX Limited plans to raise $129.5 million through an initial public offering. Shares will be represented and sold as ERC-20 tokens on Ethereum. The security token sale will be the first IPO of its kind that is registered with the SEC. Source.
Global regulatory roundup
Security token issuance startup Securitize is now registered as a transfer agent with the SEC. The registration enables Securitize to “act as the official keeper of records“ with regard to changes of ownership in securities, such as stock transfers. The startup believes this approval can help increase the issuance of security tokens through its services. As of now, the company has 43 customers, 11 of which have issued tokens on Ethereum by way of the Securitize platform. Source.
What we’re reading
- Bitcoin vs. Gold: Is Bitcoin Really A New ‘Safe Haven’ Asset? By Matt Hougan (Bitwise)
- How Blockchain Networks Will Disrupt the Businesses of Today, and Signal the End of M & A by Nicolae Rusan
- Meta-Work by Jill Carlson
- Facebook’s Libra Bets It Can Bank the Unbanked by Paul Vigna (WSJ)
- The Rise of the Sovereign Individual by Gigi
- The Arca Research Framework by Katie Talati
What we’re listening to
- Global Coin Research: Circle CEO Says China Far Ahead in Global Cryptocurrency Wars
- Chain Reaction: Three Arrows Capital’s Kyle Davies: A Multi-Strategy Fund Seeking Alpha and The LEO Bull Case
- Into the Ether: Fluidity: Bringing Real World Assets to Ethereum
- What Bitcoin Did: Raoul Pal on Bitcoin as a Global Recession Hedge
- Unchained: Sandra Ro: Why Crypto-Friendly Laws Are Coming in the US
- Unconfirmed: Electric Capital on the Coins Punching Below Their Weight
- Tales from the Crypt: Bryan Bishop & Joseph Jackson
- Base Layer: Dean Tribble (Agoric)
- Blockchain Insider: Crypto doesn’t sit still
Circle in the news
- Circle CEO Jeremy Allaire joined CNBC’s Squawk Box to talk about the recent volatility of bitcoin and why it’s still attractive as a safe haven asset.
Where we’ll be in August
- DAXPO Busan 2019, Korea, 9/3
- Invest: Asia, Singapore, 9/11-12
- Trading Show New York, 9/25
- Korea Blockchain Week – D.FINE, Seoul, 9/30 – 10/1