What is Rebalancing?
Rebalancing is the act of adjusting a given portfolio’s distribution of underlying assets. This is a common and important risk mitigation strategy in portfolio management; one especially important to indices with set asset weightings.
While many other protocols tout the ability of a portfolio to be actively rebalanced, the approach used typically involves allowing active and unconstrained swaps against the portfolio as a liquidity pool. The unspoken issue here, however, is that rebalancing may end up being detrimental to a portfolio as it will introduce impermanent loss. Funds should be treated as such, not as an AMM given the inherent risks should the underlying assets not be perfectly correlated.
Instead of always allowing unconstrained swaps, we’re introducing a new approach that enables continuous rebalancing while constraining earnings of arbitrageurs.
All swaps will be constrained behind a “Rebalancer” contract, which controls who can rebalance, and routes all swaps through the pool. This architectural choice grants us the capacity to improve upon rebalancing procedures, and even introduce entirely new swap functionality!
The essence of our solution, however, is as follows:
- The rebalancer must have a set “peg” token, to which we want to measure the portfolio value. This will typically be a secure stablecoin such as BUSD.
- If a given portfolio is open for rebalancing (may be continuous or configurable via internal functionality to constrain swaps), an individual may call the Rebalancer contract to swap BUSD for a desired token on an external DEX, the contract will swap for the target token in the pool, and the output will once again be converted to BUSD through an external DEX.
- If the output BUSD is less than the input, the contract will revert. If the operation was profitable, the contract will keep a fixed percentage of the profits for the pool, effectively constraining arbitrage profits on rebalancing.
This procedure introduces incredible flexibility into how portfolios are rebalanced. This, for instance, allows us to introduce the inverse operation allowing us to arbitrage external exchanges and pocket profits from the trade, effectively allowing external actors to use pool liquidity for no-risk arbitrage trades!
Additionally, this allows us to directly introduce the concept of BDL as an insurance token, where a single-sided BDL pool can be provided to grant a small profit to rebalancers for their effort in supporting the protocol, while keeping all arbitrage profits in the pool.
In summary, this approach tightly constrains the concept of impermanent loss during rebalancing, while introducing powerful new earning opportunities for the pool and individual users.