BAKUP: Automated, Flexible, and Capital-Efficient Insurance Protocol for Decentralized Finance

TL;DR

BAKUP is a modular, automated insurance protocol for DeFi that enhances risk mitigation, policy flexibility, and capital efficiency through innovative smart contract design and tradable conditional tokens.

Contribution

The paper presents a novel, modular insurance protocol with an immutable core, customizable oracle, and yield modules, improving resilience, flexibility, and capital efficiency in DeFi insurance.

Findings

Binary conditional tokens are tradable on AMM exchanges.

Conservative liquidity strategies reduce divergence loss by over 47%.

The protocol effectively automates claim payouts and policy management.

Abstract

This paper introduces BAKUP, a smart contract insurance design for decentralized finance users to mitigate risks arising from platform vulnerabilities. While providing automated claim payout, BAKUP utilizes a modular structure to harmonize three key features: the platform's resilience against vulnerabilities, the flexibility of underwritten policies, and capital efficiency. An immutable core module performs capital accounting while ensuring robustness against external vulnerabilities, a customizable oracle module enables the underwriting of novel policies, and an optional and peripheral yield module allows users to independently manage additional yield. The implementation incorporates binary conditional tokens that are tradable on automated market maker (AMM)-based exchanges. Finally, the paper examines specific liquidity provision strategies for the conditional tokens, demonstrating that a conservative strategy and parameterization can effectively reduce the divergence loss of liquidity providers by more than 47 % compared to a naive strategy in the worst-case scenario.