A very brief introduction to synthetic assets
Synthetic assets are like derivatives represented on blockchain. Derivative contracts track the price of an underlying asset. Therefore, they allow users to get exposure to an asset without owning that asset. A synthetic asset is a tokenized derivative. Let’s say, you believe that Microsoft will perform well; that’s why you want to buy MSFT shares. But for some reason you don’t or cannot buy it through an ordinary brokerage account. What you can do is to purchase a token representing MSFT share on a synthetic asset platform.
Parcl
Parcl is a unique protocol which differs from most synthetic asset protocols in that it creates synthetic assets of the different asset class. Most synthetic asset protocols design products tracking the value pattern of fiat currencies, cryptocurrencies, stocks, or commodities. For Parcl the underlying asset is real estate. Built on Solana, Parcl allows you to trade price movements in real estate. The good thing is that you can not only go long (i.e., buy) but also short a particular market on Parcl. Prior to Parcl it was hard, if not impossible, to express a bearish view on the real estate in a particular region through financial markets.
Through Parcl Labs, a Big Data and AI/ML company, the protocol brings property prices on-chain. The protocol gives users exposure to real estate in US cities such as Austin, New York City and Los Angeles. In the near future the protocol will enable real estate trading in several non-US cities, such as Jakarta and London.
Trading strategies
In this article I will write about trading strategies which Parcl enables. First, I’ll describe trading strategies I and, as far as I know, other users do. Then, I’ll talk about strategies which though I myself am not doing at the moment, but
Providing liquidity
The easiest way to earn money on Parcl is providing liquidity. If you have USDC sitting idle in your wallet, consider employing it depositing it on the Parcl platform. You’ll earn a share of trading fees. At the time of writing, 80% of trading fees generated by the platform are distributed to liquidity providers. You will also get positioned in the protocol’s not very distant airdrop. But with the airdrop promise I feel I have to add a disclaimer — I’m not saying that you’ll surely receive an airdrop but at least you may have a chance.
Funding rates trading
Another idea is farming funding rates by opening a position in the receiving side of funding rate for a given market. Funding rate is a mechanism designed to balance perpetuals markets. If the skew is short, i.e., more amount is bet on the short side than on the long side of the market, funding rate will be positive. This will incentivize traders to go long that market which will ‘neutralize’ the skew. Conversely, if the skew is long, i.e., more amount is bet on the long side than on the short side of the market, funding rate will be negative. This will incentivize traders to go short that market which gradually will balance the market. By taking the opposite side of the majority position you’ll collect funding rate. You can think of this as being rewarded for bearing the risk of taking a contrarian position in the skewed market.
This is the strategy I myself employ on Parcl. This is the state of the market at the time of writing, February 9, 2024.
I have six open positions with 5 being short and 1 long. I shorted Miami Beach, Brooklyn, New York, San Francisco, and Los Angeles. The only long trade in my portfolio is Austin daily funding rate of which is about negative 14%.
However, this strategy may not be for everyone since it requires to monitor funding rates at least once every few days. The sentiment of the market can change which will be reflected in funding rates. Therefore, it’s possible that a position paying you can reverse, and you’ll be on the paying not on the receiving side of the trade. There is market risk as well, i.e., you may experience financial loss when the market goes in the opposite direction to your trade.
The good thing is that real estate market has relatively low volatility. In the long term it can display major swings, but it is mostly stable within shorter time frames. This allows us to apply leverage and amplify our return in funding rate trading.
What you can do on Parcl?
Possible trading strategies
Providing liquidity and trading funding rates are what I do on the platform. However, Parcl enables various trading strategies which otherwise wouldn’t be possible in the property markets. Below are some strategies that is and/or will be possible to execute on Parcl especially as the protocol gradually opens new markets.
Hedging
Hedging is a position typically taken to offset losses in the original investment. If you have bought a commodity, say, oil, your risk is the drop in oil prices because in that case you will get fewer dollars for your product. So, you probably will want to hedge your investment by taking an opposite direction and short selling oil futures. If oil price falls, you’ll make money in your oil futures short position.
How can this be related to Parcl? Let’s say you want to buy a property in NYC over a 3-month period. Of course, as a buyer you want low(er) housing prices, and an increase in NYC real estate prices will hurt you. So, you go to Parcl, and open a long NYC position to hedge your future investment. Even if the price of your house rises within that period, your long trade will offset at least part of your losses. That’s because your long position will appreciate in value if property prices in NYC go up.
Pairs trading
To be honest, I have never seen pairs trading done in real estate markets. But the fact that Parcl makes it possible excites me. Pairs trading is to go long in one asset and simultaneously short sell another one. Let’s go back in time 8 years ago. We’re in the first half of 2016. We know that there’ll be a Brexit referendum on 23 June 2016 where the electorate will decide whether the UK should remain a member of, or leave, the European Union. You believe that if Brexit happens, i.e., if the country (UK) withdraws from the EU, property prices in the UK, and particularly in London will drop significantly. There are many reasons why you think this will prove to be true — companies can leave the country which will depress the prices of commercial real estate, residents may migrate to the EU following the Brexit etc.
So, you decide to short London real estate market. (Actually, I don’t think it was technically possible to do it in 2016 because Parcl didn’t exist then! But let’s assume that it was.) But a naked short is risky because London property prices may soar resulting in financial loss for you. You decide to go long the real estate market in an EU city, e.g., Paris. You bet on that if prices decrease, London will exhibit a steeper fall than Paris; conversely, if they rise, Paris will appreciate more than London. In this way you capped your risk by adding a short position to your initial investment and turning it into pairs trading. Of course, it may be the case property prices in London and Paris will rise and drop respectively. This unlikely scenario is the worst one for you. But there’s also a non-zero chance that you will make profit from both legs of the trade. That is, housing prices in Paris will increase and in London they will fall simultaneously.
Now if you think “meh, it is history, we’re in 2024. How can I do it now, in 2024?” In fact, there are many ways to execute pairs trading in real estate. For example, you can compare East Coast v West Coast in the US, and buy the undervalued and sell the overvalued one at the same time. If you believe that Asia will outperform Europe, you can go long, say, Hong Kong, and short London, when Parcl makes these markets available. Imagination is the only limit when it comes to (pairs) trading.
Statistical arbitrage
Statistical arbitrage refers to a class of trading strategies based on the idea of mean reversion. If two securities are highly correlated and one of them, we expect their price movements to follow the similar pattern. But at times one of these correlated assets deviates which creates an opportunity to be exploited.
Let’s say, historical real estate prices data suggests that on average properties in NYC rise 1%, houses in Brooklyn tend to increase 2% in value. You, a thoughtful and attentive Parcl user you are, observe that NYC prices did rise 1% over a year. Now you look at real estate prices in Brooklyn of which prices didn’t move much, only 0.5% up. What this means is that Brooklyn real estate market should rise, at least based on historical data. So, you want to go long Brookly on Parcl. But (yes, there is always but!) there is a non-negligible market risk. What if the market falls? Therefore, you go long Brooklyn and simultaneously short NYC on Parcl.
Conclusion
Parcl is a unique protocol enabling real estate synthetics market. You can bet on increase or decrease in property prices in various cities, such as Los Angeles and Las Vegas. Many more cities in different parts of the world will be open to trading which will create opportunities for those interested in real estate investing and trading. Trading strategies mentioned in this article are only the tip of the iceberg. I call everyone to at least once try this wonderful protocol.