Primitive x Sherlock: Oracle-Free Derivatives

4 min readDec 9, 2021

Sherlock is excited to announce its $10M collaboration with Primitive Finance to protect Primitive users from smart contract risk starting on the first day of launch. The Sherlock team has worked shoulder-to-shoulder with the talented devs at Primitive over the last 5 months to get ready for the much anticipated launch.

Primitive is part of the first cohort of protocols during Sherlock’s guarded launch. Each protocol gets access to $10M in smart contract coverage, a security assessment from top auditors, and a $1M ImmuneFi bug bounty provided by Sherlock.

Sherlock is a risk management platform built on Ethereum and designed to keep end users protected by providing affordable and scalable coverage to protocols.

Primitive’s Security Practices

Sherlock’s partnership with Primitive is ideal because Primitive carries all of the attributes that Sherlock looks for when deciding to cover protocols. Primitive prioritizes security and moving deliberately to build a quality product while open sourcing it all along the way. The steps taken to secure Primitive include: bug bounties through Immunefi, audits through ChainSecurity, Dedaub, ABDK, Sherlock, and several other independent security experts, proper test coverage, and even reducing the scope of the mainnet deployment.

Building a new kind of AMM for options is no small feat, and on top of the complex nature of what Primitive is building, they optimized for simplicity for the sake of security. They removed a lot of their code at the point that it was already well tested as they realized it wasn’t needed to prove their model and it added extra security risks.

Now, onto the killer primitive that Primitive is building — a new kind of AMM that approximates a Black Scholes covered call which basically helps to price options automatically. If you like to buy options, this means better pricing and it also means you can create whatever covered call option you want with any token pair.

AMMs as the vehicle for Options Contracts

The classic definition of an option is that this derivative gives one party the right but not the obligation to exchange a specified asset, with the other party, at a specified price at a specified later date. A few ways options in DeFi can be used are to hedge against market volatility (another way to frame it is protection against price movement), to speculate or bet on the market, and lastly, to earn profits as an options seller.

Options are powerful financial tools that are often packaged through a financial contract between two parties, granting them explicit rights to the assets. Primitive replaces this vehicle with an AMM. Attempting to price options with just a formula might work sometimes, but if it is wrong, LPs can get rekt. The AMM aspect can solve for price discovery.

Introducing Primitive Finance — RMM-01

Primitive is working on a new approach to AMMs as replication engines. Primitive is a kind of AMM that allows LPs to choose their payoffs — it replicates a payoff similar to that of a Black–Scholes covered call. Each primitive option is essentially its own AMM pool. This is a new class of AMM that can be used for hedging liquidity positions on other AMMs, like Uniswap, as well as to generate returns from volatility on long-tail assets. They make it so the LP shares of Primitive’s covered call AMM pools that are parameterized replicates the payoff of selling a call with those parameters. Arbitrageurs or the market are the “counterparty” and they are changing the weights of the assets to replicate the payoff of selling a call.

Primitive’s AMM is a derivative of what are commonly known as CFMMs (think of Uniswap V2 or Balancer), although in Primitive’s structure, there exists this transfer function for mapping a payout from another domain onto a CFMM structure, and they call this Replicating Market Marker, or RMM. In “RMM-01” (the first application of the RMM technique) they approximate it to a Black Scholes covered call. In the mathematical sense, Primitive is building an AMM, but it is a new type of AMM called the Replicating Market Maker.

Anyone can use the Primitive smart contracts to supply tokens and receive a position with an option payoff of their choice. Unlike traditional systems, these positions are instantly convertible into the value of these payoffs at all points in time. When the first curve launches it will enable LPs to get covered-call payoffs without the need for a counterparty.

Dive into Primitive Finance:

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SHERLOCK is a risk management platform designed to keep end users protected by providing affordable and scalable coverage to protocols.