Stroom’s Lightning Network LSDs: A New Model for Frax's frxBTC?

Bitcoin LSD provider Stroom just announced a $3.5m funding round, we dive into their mechanics and see how it melds with Stablecoin Maximalism

Samuel McCulloch
Samuel McCulloch
Aug 31, 2023
Stroom’s Lightning Network LSDs: A New Model for Frax's frxBTC?

Bitcoin has long been criticized as a "non-productive asset," an investment that sits idle without generating yield. Maxi's have long argued for "hodl," which is the time honored process of doing nothing and waiting to get rich.

In contrast, stablecoins like Frax and sfrxETH have rapidly evolved to become yield-generating assets, central to the DeFi ecosystem. They are not just collateral assets, but programmable money with inifinite applications.

Bitcoin as WBTC is a large part of DeFi, don’t get us wrong, but it's TVL has remained flat on Ethereum since Luna went bust. With the rise of LSD's it's somewhat faded into irrelevance as builders would rather launch 100 different LSDfi products where they can earn a portion of that yield.

The dynamics at play here are apart of Stablecoin Maximalism, a fundamental worldview that stablecoins are destined to become the backbone of the crypto economy. A successful stablecoin, as Kazemian puts it, gains a "monetary premium"—it's held not for incentives or yields but for its intrinsic utility. Bitcoin has this, millions of people use it everyday for transferring value globally. But unfortunately, there is no "risk-free yield" and a decentralized "swap facility" for easy redemption.

WBTC by design is not a successful stablecoin, we can do better.

CoinList charges a flat 0.25% trading fee to wrap or unwrap WBTC. So just by minting WBTC for use on Ethereum, your paying negative fees to try and catch yield. And WBTC has a centralized custodian with Bitgo that must be trusted to keep the asset safe.

But what if Bitcoin did provide a yield? Even 2-3% a year? Would that change the dynamics enough to spur greater innnovation and increased monetary premium?

Enter the Lightning Network

The Bitcoin network, known for its robust security and immutability, has long grappled with scalability issues that limit its transaction processing capacity. 10 min 1 confirmation wait times are fine for billion dollar transfers, but they don't work for day to day purchases. This limitation has given rise to various 'layer-2' solutions and also WBTC on Ethereum that help speed up transfers and enable DeFi.

Unlike sidechains, LN operates solely on the native Bitcoin blockchain. It utilizes a network of payment channels—essentially 2-of-2 multisig outputs—settled on the Bitcoin blockchain to facilitate rapid, low-cost transactions. LN is super fast, but the UX has limited its growth for retail. It's primary use case is for exchange to exchange transfers, especially in the wake of Silvergate Bank's demise.

LN operates as a network of nodes connected by these payment channels, allowing for the efficient routing of payments. Each channel transfer earns a small yield.

Despite its promising expansion—evidenced by over 5,000 BTC deposited across 17,000+ nodes and 80,000 channels—LN's adoption is still in its nascent stages, accounting for less than 0.02% of the circulating BTC supply.

Stroom's Bitcoin LSD

Stroom aims to flip the script by marrying the Lightning Network with Ethereum, injecting Bitcoin with both liquidity and yield through its lnBTC token. Anyone will be able to swap BTC for lnBTC, which will then be used to open new LN channels.

Stroom's architecture comprises three main components: an Ethereum bridge, Stroom-enabled LN nodes, and Stroom validating nodes.

Stroom Bridge

The Stroom bridge facilitates the minting of lnBTC tokens on Ethereum when Bitcoin is deposited into the Stroom treasury.

Stroom-enabled LN nodes operate under the oversight of validating nodes. This process is overseen by a K-of-N multisig federation, which also handles redemptions and LN channel operations. Malicious channels can be shut down immediately by the validating nodes.

The risk-free yield is sourced from the Lightning Network, Bitcoin's most secure and efficient transaction layer. By using Bitcoin to open state channels, the operators will earn yield. Amboss data shows that the annualized yield is approximately 2-3% for robust LN channels.

Meanwhile, the swap facility allows lnBTC to be redeemed one-to-one for Bitcoin, thereby satisfying the Stablecoin Maximalist dual-structure. In doing so, Stroom DAO aims to give Bitcoin what it has long lacked—a yield and a monetary premium.

LN yields from Amboss

It's unclear how much yields would depress if the TVLs shot up significantly. Currently the Lightning Network has 4,600 BTC in open channels. This figure is 50% smaller than the total supply of frxETH, which earns 5% natively. But even so, 2% is better than -.25% fees paid to mint WBTC.

Stroom DAO just announced $3.5 million in seed funding led by Greenfield and other high-profile investors like CoinFund, Maven 11, and Scalar Capital.

FrxBTC: Everything we know so far
A full breakdown of the potential Bitcoin stablecoin…

So, what does this mean for frxBTC? Last year we reported that it was on the team's roadmap. Deep, deep on the roadmap, as BTC pays no yields and it would be unclear how much value add it would bring versus frxETH v2 or Frax v3/FXB. But Stroom's research might be the catalyst that revitalizes the frxBTC idea and allows for adequate revenues.

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