From GLOBAL COIN RESEARCH TEAM

Introduction

M^0 is a protocol serving as a decentralized intermediary for creating stablecoins within the crypto ecosystem. It offers infrastructure enabling permissioned actors to mint the M token against eligible collateral approved by the protocol. With M^0, users can earn yield on their held collateral while using crypto dollars, which they can later utilize in other decentralized products. Initially launched on Ethereum, the stablecoin will also be accessible on other L1 and L2 networks. Team members originate from entities such as MakerDAO and Circle.

M^0 mission

The stablecoin sector is currently dominated by two main fiat-backed stablecoins, USDT and USDC. Hoewever, the inability to verify the collateral directly on the blockchain creates a lack of transparency, while the deposits being stored in the banking system are exposed to contagion risk in case of problems with any of the banks involved. Meanwhile, algorithmic stablecoins have not gained significant traction due to past depeg events caused by flawed mechanisms. In comparison, crypto-backed stablecoins have been operating successfully for some time but are still characterized by greater price volatility in their collateral. 

In response to these issues, the creators of M^0 aim to provide infrastructure for issuing a self-custodial digitized means of exchange based on blockchain technology. The protocol’s construction ensures fungibility of each minted M stablecoin, with entities responsible for collateral custody operating independently from each other to avoid contagion risk. In order to ensure trust and transparency in the protocol, regular on-chain verification of the reserves backing the supply of M will be conducted. Cash equivalent assets serve as the underlying collateral to ensure the M token has a stable value.

Ecosystem participants

In the M^0 protocol, three main actors play different roles but interact closely with each other. The roles include:

Minters – Participants with the ability to mint M tokens. They are expected to function like financial service providers, such as issuers of stablecoins. Minters should bring independent collateral storage and deliver proof of reserves. Additionally, they are required to update the on-chain collateral value to ensure sufficient security of their balances and to ultimately repay their liabilities. Their balances are subject to fees charged by the protocol. To incentivize minters to participate in the M protocol ecosystem, the minter rate must be lower than the yield earned on collateral (however, net income is also affected by the mint to collateral ratio parameter, as fees are charged based on the minted M balance rather than the deposited collateral value).

Validators – Responsible for confirming the validity of minters’ collateral by providing signatures and performing on-chain attestations of proof of reserves. Informally, validators hold a supervisory role over minters, capable of taking actions to restrict minters’ activities in case of systemic threats. The M^0 protocol does not provide incentives for validators in exchange for their work, so it is expected they will enter binding agreements with minters off-chain, specifying terms and compensation. Validators’ role is similar to auditors in traditional finance and business contexts.

Earners – Entities approved by governance and beneficiaries of the earn mechanism. Their earnings depend on the governance-set earner rate, adjusted additionally by the utilization rate (the ratio of circulating M to M in the earning mechanism), resulting in a final rate that is the lower of these two. This mechanism ensures earnings are proportionate to the fees paid by minters, thereby ensuring system stability. Earners generate demand for M tokens, increasing the likelihood of effective M generation. Earners in the M^0 protocol will include institutional holders and distributors of M tokens who maintain token reserves.

Additionally, Eligible Custody Solution Operators play a crucial role, despite having less interaction with the protocol. They are professional agents responsible for trustee operations and custodying the collateral backing M tokens, approved by the protocol’s governance body. They must be technically and operationally equipped and hold appropriate licenses for their operations. All collateral storage venues must operate independently from minters and operate truthfully.

All eligible actors can be removed from the system through a governance-voted proposal.After removal, they can no longer engage in protocol activities except for repaying their liabilities.

M as an asset and its features

M is an ERC20 token that is permissionless, allowing anyone to access it through the secondary market. However, its creation, maintenance, and burning are managed by minters and validators approved by governance. While it is backed by certain assets, it does not serve as a tokenized version of those assets; rather, these assets underpin its value and trustworthiness. This makes M as safe as the collateral backing it, though involvement in DeFi protocols introduces additional risks.

The circulating value of M must not exceed the collateral held by custodians, as this could lead to value depreciation of M and destabilize the protocol. M’s peg to $1 is maintained through  arbitrage. If M trades above $1 on secondary markets, minters will likely deposit collateral to mint more M. Conversely, if M trades below $1, minters will likely buy back M to reclaim their collateral. For a minter to mint M tokens, they must possess sufficient off-chain collateral approved by the protocol, with its value being verified and updated. Minters transmit collateral value information along with validators’ signatures attesting to its correctness, ensuring protocol security and integrity. Based on this, minters determine the amount of M tokens they wish to mint, with the system verifying if the collateral value multiplied by the mint ratio (the ratio of collateral to tokens) is greater than the total value of M tokens to be minted. Additionally, the introduced mint delay by M^0 gives validators time to potentially block transactions in case of any irregularities. If no intervention is necessary, minters can complete the token generation process, sending tokens to their designated address. Minters can burn owned M tokens at any time to eliminate their liability in the system and retrieve collateral.

Is M just another stablecoin?

In many respects, M resembles other stablecoins that are currently widely used. Like other fiat-backed stablecoins, M is backed by cash equivalents such as T-bills. However, the key difference is that, at this point, these are the only assets eligible to be used as collateral. Unlike its competitors, M will enable on-chain verification of collateral, ensuring greater transparency, and the storage of deposits by independent entities should minimize contagion risk. Another important difference relates to the process of minting new tokens. Stablecoins like USDT or USDC typically have a single entity coordinating the creation of new tokens, making the issuer more centralized. In contrast, the M^0 protocol allows an unlimited number of minters to participate, subject to approval by governance. 

Source: Author’s own work

The M^0 protocol does not include a blacklisting function, which would prevent the freezing of someone’s tokens. This contrasts with other stablecoins, where such actions have been taken with good intentions in response to fund thefts. Delegating decision-making authority over key issues in the M^0 protocol to the governance body reflects a more flexible approach to management and project development. Considering similar stablecoins in the crypto market, there are also yield-bearing stablecoins that allow users to automatically earn interest simply by holding the token. M itself does not offer this capability, but the underlying collateral generates passive income. Unfortunately, the solutions used in yield-bearing stablecoins entail regulatory restrictions, as they are considered securities and are not permitted in some major markets, such as the US. With its design, it is likely that M^0 will not face such restrictions. M is more similar to crypto-backed stablecoins in the context of overcollateralization, however, its type of collateral is much more price-stable, reducing the risk of depegging while simultaneously simplifying the mechanism for stabilizing the stablecoin’s value. 

In summary, the M^0 protocol is designed to offer a fully-owned, secure, and transparent stablecoin that allows minters to earn yield on their collateral. The involvement of M^0 ecosystem participants in governance gives the project a more decentralized character.

Governance

M^0 protocol utilizes a governance mechanism called Two Token Governor (TTG). The goal of TTG is to ensure neutrality in protocol management, prevent fraud and control by malicious actors, but also to decide on key protocol parameters related to interest rates and the list of approved actors. The TTG mechanism in the M^0 protocol operates in 30-day cycles known as epochs, which are divided into two 15-day periods: Transfer Epoch and Voting Epoch. The Transfer Epoch allows for proposal collection and delegation of voting power to other addresses, while the Voting Epoch focuses on voting on proposals. This system aims to ensure regularity, accurate settlements, and efficient protocol management. TTG consists of two types of tokens responsible for fundamental decisions in the protocol: POWER and ZERO. The POWER token is used for voting on active proposals and enables holders to directly manage the protocol. In return for participating in voting, token holders receive ZERO tokens, which are much more passive in terms of voting as they are used only for the most significant changes. Both tokens have an inflation mechanism that increases the supply of POWER tokens by 10% in each epoch, while the supply of ZERO tokens increases by up to 5,000,000 tokens and is claimed pro rata. Any unredeemed POWER tokens are auctioned off via a Dutch auction, while ZERO tokens are not minted.

Within TTG, three types of proposals are distinguished. The most common are Standard Proposals requiring a simple majority. Participation in voting is mandatory, otherwise resulting in reduced voting power and loss of ZERO rewards. Another type is POWER Threshold Proposals, which require reaching a specified POWER threshold and are used in urgent situations, executed immediately. The last type is ZERO Threshold Proposals for ZERO token holders, used for the reset function and critical changes in the protocol.

Fees

Fees are the primary source of revenue for participants involved in the protocol and fulfill a regulatory function. M^0 applies two main types of fees: the minter rate and the penalty rate.

Minter Rate – Revenue collected from minter rate fees goes to the earn mechanism and is partially redistributed to ZERO token holders. This encourages entities, such as CEXs, to hold M tokens and earn the earner rate. However, to benefit from this system, an entity must be whitelisted and approved by governance. The minter rate should be lower than the yield earned by minters to incentivize them to generate tokens. Therefore, it is anticipated that the minter rate will need to remain lower than the US Federal Funds Rate.

Penalty Rate – This is a penalty imposed on minters for failing to maintain the proper collateral-to-M balance ratio or for not updating their balance within a specified time. Unlike the minter rate, the penalty rate is a one-time charge at the collateral check, calculated as a percentage of the excess amount.

The M^0 protocol’s fees incentivize ecosystem participants, but it should be noted that validators are not included because the protocol does not coordinate this aspect and expects their work to be compensated based on off-chain agreements with minters. For governance proposal fees, users can choose between the M and WETH token, which serve as the protocol’s internal currency and are also used for POWER token auctions.

Protocol risks and mitigation strategies

M^0 is exposed to risks commonly found in other blockchain protocols, including risks related to smart contract bugs, hacker attacks and infrastructure issues. Due to its function, the protocol also faces financial risks stemming from market factors. M^0 is sensitive to changes in interest rates, particularly the rates on US T-bills. Monetary policy changes can impact the profitability and attractiveness of the protocol for minters and earners. Another risk is the fluctuation in collateral values though the choice to use US T-bills limits this risk. Moreover, unexpected shifts in supply and demand for M tokens could result in liquidity challenges and temporary price instability until arbitrageurs act to bring M’s value back to peg.

The project is also exposed to risks directly associated with ecosystem participants. The reliability and credibility of partners, such as custody solution operators, are crucial for collateral security. While M itself is self-custodial, its collateral is not, meaning custody operators introduce some level of risk. Therefore, they should be reputable and regulated entities operating within the bounds of the law.

M^0 implements solutions aimed at preventing improper minter activity. In addition to the penalty rate, the protocol has other measures to address minter behavior that could threaten stable system operations. In such cases, validators can intervene to cancel a proposal to generate M tokens before its completion and freeze the ability of a specific minter to generate M tokens for a specified period, with the option to renew the freeze. If a minter’s actions are particularly severe or repeated, further steps can be taken, including removing the minter from the system through a proposal in the TTG. A significant element of risk mitigation is the reset function, which ZERO token holders can execute to completely reset governance of the system and redistribute POWER tokens proportionally to ZERO balances. After a reset, all active and pending proposals are canceled. This ensures that proposals potentially introducing malicious actors into the system are immediately invalidated. The reset function enables swift response to threats and serves as a protective mechanism during critical situations.

Source: M^0 documentation

Fundraising

M^0 successfully raised $35 million in a Series A funding round led by Bain Capital Crypto in June 2024. Other notable investors in this round included Galaxy Ventures, Wintermute Ventures, GSR, Caladan, and SCB 10X. The round included both equity and tokens, with M^0 providing investors with its two governance tokens, POWER and ZERO, which are subject to a lock-in period. The recent funding round follows a $22.5 million seed round led by Pantera Capital in April 2023. With the completion of the Series A round, M^0’s total funding now amounts to $57.5 million. The project valuation has not been disclosed at this point.

Final words

M^0 proposes a new solution in the stablecoin sector that is inherently more flexible and less centralized, offering greater decision-making autonomy to governance members. Key protocol parameters and involved actors are determined by other participants in the ecosystem, opening new possibilities for project development and integration with existing products. Due to its significant similarity to widely used fiat-backed stablecoins, perhaps the most crucial factor that could determine the success of M^0 is the ability to verify the collateral backing the M supply on-chain, which increases trust in the protocol. However, this system is considerably more complex than that of the most popular stablecoins, which in turn makes protocol management more intricate and introduces higher levels of risk. For the protocol to sustain over time due to its decentralized nature, it must be able to incentivize ecosystem participants to act. A major challenge is also balancing the incentives for voters with ensuring that governance tokens do not become excessively inflationary. Another issue is appropriately motivating validators, as the protocol does not directly coordinate this aspect. Despite its importance within the ecosystem, the earner rate should not be the primary determinant of success, especially considering that successful stablecoin projects have not used a similar mechanism. The M^0 protocol has the potential to make a significant impact on the stablecoin sector by offering a more transparent and decentralized product that uses collateral at least as secure as that of the most popular stablecoins. The potential success of M^0 will be influenced by the decisions of the governance body, which, on the other hand, provides the opportunity for rapid adjustments of the protocol’s parameters to market needs.