Arthur Hayes' New Article: The Fed's Triple Kill Situation, the More Powell Struggles, the More Crazy the Crypto Bull Market

Author: Arthur Hayes

Compiled by: Shenchao TechFlow

Senchao Guide: In the evolution of crypto finance, every leap in asset paradigms is accompanied by the birth of new underlying derivative components. In 2016, Arthur Hayes and his BitMEX team invented the Perpetual Swap, reshaping the global crypto derivatives trading landscape; in 2023, he proposed the synthetic dollar concept of hedging reverse contracts with spot long positions in "Dust on Crust," directly giving rise to the current synthetic dollar protocol Ethena (USDe) with a scale exceeding $10 billion. Now, Arthur Hayes returns with his third grand vision, the Flop Network.

Faced with the geometric explosion of computational power demand in the era of artificial intelligence and the fragmentation, black-boxing, and lack of a unified spot benchmark in the traditional cloud computing market, Hayes proposes to anchor the physical level floating-point operations per second (FLOPS) and establish a globally standardized spot exchange rate for computational power through a decentralized reasoning verification network. This will serve as the underlying asset to construct standardized deliverable forward contracts (FCU) and cash-settled differential quantitative futures and perpetual contracts.

This article elaborates on the complete mathematical framework and market-making hedging logic of assetizing and financializing computational power, showcasing the ultimate blueprint for crypto-native finance to reconstruct macro liquidity and computational power pricing rights in the era of AI intelligences.

I want to achieve "Three for Three." I’m not talking about basketball, but my ability to conceive new financial derivatives or application scenarios and witness their evolution into industry standards.

My Historical Achievements:

Perpetual Swap: A Great Success (in a bullish tone)

In May 2016, my team at BitMEX invented the Perpetual Swap (commonly known as "perps"). The Perpetual Swap quickly became the largest financial derivative by trading volume in the history of the crypto industry. Due to its immense liquidity and popularity, platforms like Hyperliquid now operate 24/7 trading of RWA (real-world asset) derivatives driven by this mechanism.

Synthetic Dollar Stablecoin: A Great Success (in a bullish tone)

In March 2023, I wrote an in-depth blog titled "Dust on Crust," systematically explaining how to construct a synthetic dollar through "spot Bitcoin long + short perpetual contracts" basis hedging. This synthetic dollar can be packaged into a stablecoin and widely used for payments and settlements across the crypto capital market. The Ethena team adopted my concept and executed it perfectly. The synthetic dollar USDe launched by Ethena has become the fastest-growing stablecoin in history, skyrocketing from $0 to over $15 billion in circulation in less than 18 months.

Flop Network Spot Computational Power Market: Awaiting Revelation (TBD)

This summer, I publicly unveiled my concept for the Flop Network. $FLOP is the "food" for your AI intelligences. The intelligences will use $FLOP in commercial interactions because $FLOP can be directly exchanged for physical computational power, specifically defined as the number of floating-point operations per second (FLOPS). If Flop becomes the native payment settlement network among AI intelligences, then naturally, the exchange rate between $FLOP and computational power will become the benchmark anchor for global spot computational power prices.

A truly globally liquid spot computational power market will inevitably give rise to a derivatives market based on this spot benchmark. May this article serve as an authoritative blueprint for all ambitious entrepreneurs, guiding them to create a computational power derivatives market that meets the needs of the new AI intelligence era.

Core Pain Points

Currently, there is no unified pricing benchmark for computational power globally. Although various indices attempt to track the sales and rental prices of specific models of CPUs, GPUs, and TPUs, the data samples are severely incomplete. Additionally, many indices attempt to track the calling prices of AI tokens (Tokens) model by model. However, chip prices and model token calling prices are essentially just secondary derivatives of computational power. If I could accurately grasp the benchmark price of computational power (FLOPS), I could derive the intrinsic value of any chip and the reasonable cost of any model token from the top down. We should not waste our energy collecting fragmented and imperfect chip and token price information, but rather focus on establishing a unified price discovery mechanism for the physical underlying computational power.

Solution: Flop Network Computational Power Market

Flop Network produces one block per second. Each block contains verifiable receipt proofs that confirm the miner successfully completed a reasoning task for a certain intelligence. For each reasoning task, we can obtain three core parameters to accurately calculate the exchange rate between $FLOP and physical computational power.

Block Data Objects Include:

• Latency time (in seconds): The actual time taken to complete the reasoning request
• Completed workload: The total number of floating-point operations executed (FLOPS)
• Transaction fee: The amount of $FLOP earned by the miner for executing the task

$FLOP / (Computational Power / Second) = [3] / [2] / [1]

The spot price is only a true and effective market price when everyone can trade freely. On the supply side, as long as you have computational power chips (whether GPU, CPU, or TPU), you can mine $FLOP by completing the reasoning requests of intelligences; on the demand side, as long as your wallet holds $FLOP, you can submit reasoning tasks at any time. Flop Network is an open-source network accessible to all humanity. Therefore, the spot computational power prices formed here will become the globally recognized benchmark anchor for computational power.

Flop Computational Power Unit (FCU)

Before delving into cash-settled financial derivatives, let’s continue to explore the path of the "physical delivery" computational power market. One of the core features of Flop Network is that it allows demand-side parties to reserve computational power for delivery within a maximum of 30 days in advance. To enhance liquidity and tradability, the network standardizes computational power into "Flop Computational Power Units" (FCU).

Imagine you know you have a large computational task to handle in 7 days and want to lock in the computational power cost today. You can place a bid to reserve a specific amount of computational power for delivery in 7 days. After 7 days, the miner has a 24-hour window to deliver the actual computational power. Once the bid is accepted by the miner, the reservation generates a standardized 7-day FCU object, which is essentially equivalent to a deliverable forward contract. If the spot price of computational power rises significantly before delivery, and you no longer need this computational power, you can directly resell this FCU on the Flop Network to other participants in need.

Here are specific business examples of FCUs in actual operation. Please stay tuned for updates to the Flop official documentation, where all technical details will be fully presented.

Specifications of a Single FCU Target Object:

• Latency time: 1 second
• Computational power scale: 1 PetaFLOP (one quadrillion floating-point operations)
• AI model: Specified by the buyer
• Delivery time: 12:00 UTC, 7 days after creation

Please note: FCUs only cover inference scenarios and are not suitable for model training. The overall value of model training computational power clusters is far greater than the simple sum of individual components; inference tasks, on the other hand, naturally possess a high degree of divisibility, which is the fundamental premise for the establishment of a single benchmark unit FCU.

For each AI model, there can be a maximum of 30 trading states of FCU term varieties in the market, corresponding to one expiration date per day. If you need to reserve 1 ExaFLOP (one quintillion floating-point operations) of computational power, you only need to purchase 1000 FCUs. As a buyer, to attract miners to take the order, you need to publish the $FLOP bid you are willing to pay for this FCU, and you must make a full prepayment for the network to verify; as a seller (computational power provider), you publish the $FLOP bid you wish to receive while needing to pledge a $FLOP amount calculated based on equity weighting as a performance guarantee, ensuring that if you default, other miners can take over the delivery at a profitable cost in the spot market. The pledged amount is dynamically determined by the network based on the recent total reasoning processed across the network, including the benchmark $FLOP cost and a penalty multiplier to prevent malicious fraud and delivery defaults. This mechanism creates a fully funded bilateral order book that completely eliminates junk orders: funded buy and sell quotes are finalized on-chain, while high-frequency continuous bilateral order books and matching engines operate off-chain, mirroring the operation mechanism of the spot market.

The forward market naturally carries the risk of failure to deliver. As mentioned earlier, to mitigate this risk, FCU computational power providers must pay a performance guarantee deposit of $FLOP that far exceeds the reasoning fees collected. If a miner fails to deliver the computational power as agreed within 24 hours after the due date, all pledged $FLOP guarantees will be completely forfeited. At this point, backup miners will bid to take over the order, as the fees earned per PetaFLOP for taking the order far exceed the prevailing spot price at that time. If the spot price surges above the guarantee amount and no miners are willing to perform, the system will determine a default has occurred, and the buyer will not only receive a full refund but will also be compensated for all forfeited guarantees.

FRCR Futures Contract

FRCR: Flop Reference Compute Rate

The settlement rate weighted by hourly transaction volume of $FLOP / GigaFLOPS

In the previous sections, I have dissected how real demand parties can procure physical computational power through $FLOP in the spot and forward markets. Now let’s turn to discuss how to construct cash-settled financial derivatives that can be listed on traditional finance (TradFi) and cryptocurrency exchanges. I will outline a complete contract design scheme and detail how market makers can hedge long or short futures exposures.

Contract Specification Details:

Contract Name: FRCR Differential Quantitative (Quanto) Quarterly Futures Contract; Delivery Expiration Time: 12:00 UTC on the last Friday of March, June, September, and December; Underlying Index: FRCR.

Contract Multiplier: $1 per point

Example: Assuming the FRCR index is 100 points

Contract Value: Multiplier × FRCR = $1 × 100 = $100

Collateral Currency: USD (USD)

If you go long 1 contract at an entry price of 100 $FLOP and settle at 200 $FLOP, your profit and loss (PNL) is as follows:

Multiplier × Number of Contracts × (Settlement Price - Entry Price) = $1 × 1 × (200 - 100) = $100

If you go short 1 contract at an entry price of 200 $FLOP and settle at 100 $FLOP, your profit and loss is:

Multiplier × Number of Contracts × (Settlement Price - Entry Price) = $1 × (-1) × (100 - 200) = $100

Quanto derivatives belong to a category of exotic derivatives. The necessity of adopting a Quanto structure arises from the assumption that the vast majority of market traders prefer to deposit USD as collateral and withdraw profits in USD, while the underlying spot market is priced in $FLOP. Therefore, we must utilize the Quanto structure to achieve the desired profit matrix for traders. To price Quanto derivatives accurately, market makers must dynamically adjust risk premiums based on the covariance between the FRCR index and the $FLOP / USD exchange rate.

If the market prefers to retain $FLOP as the collateral currency, the contract design can be simplified to:

Contract Multiplier = 1 GigaFLOP

Contract Value = Multiplier × FRCR = 1 × 100 $FLOP = 100 $FLOP

The success of any financial derivative contract hinges on whether market makers can conveniently replicate long and short futures positions using the underlying assets.

Replicating Long Futures Positions:

To replicate a long exposure, market makers need to acquire $FLOP and buy a series of consecutive term FCUs. Here are the specific steps for market makers to synthesize a 60-day FRCR long future:

Spend $FLOP to buy a 30-day FCU; after 30 days, roll over to another 30-day FCU.

Assuming on November 1, the price of the 30-day FCU is 100 $FLOP; on November 30, you sell the original 30-day FCU for 100 $FLOP and simultaneously purchase a new 30-day FCU expiring on December 30 for 200 $FLOP.

Thus, you have successfully synthesized a 60-day long futures contract, locking in an entry price of 200 $FLOP.

Replicating Short Futures Positions:

To replicate a short exposure, market makers need to acquire $FLOP and provide a series of consecutive term FCU supply contracts. This requires more $FLOP capital since the collateral margin is significantly higher than the power supply fees charged. Market makers do not need to actually purchase chips, as they will roll over their positions before expiration. Here’s the specific process for synthesizing a 60-day FRCR short future:

Spend $FLOP as collateral and place an order to provide a 30-day FCU; before the 30 days expire, roll over that position into another 30-day FCU supply contract.

Assuming on November 1, the price of the 30-day FCU is 100 $FLOP; on November 30, you buy back the original 30-day FCU for 100 $FLOP to close the position and place an order to provide a new 30-day FCU expiring on December 30 for 200 $FLOP. As long as you complete the rollover before the FCU expiration or designate a backup miner to fulfill the contract within the 24-hour delivery window, you will not default, and your collateral will remain intact.

In this way, you perfectly replicate a 60-day short futures contract, locking in an entry price of 200 $FLOP.

FRCR Perpetual Contracts

Once you thoroughly understand the operational logic of futures contracts, extending it to perpetual contracts becomes a natural progression. Remember, perpetual contracts are essentially a chain of continuously rolling futures positions.

Perpetual Contract Specifications:

Contract Name: FRCR Quanto Perpetual Contract; Underlying Premium Index: 8-hour time-weighted average price (TWAP) of [Perpetual Contract Price - FRCR Index].

The perpetual contract price will use the hour-weighted average price to strictly match the calculation method of FRCR; samples will be collected 8 times within an 8-hour period for arithmetic averaging.

Contract Multiplier: $1 per point

Example: Assuming the FRCR index is 100 points

Contract Value: Multiplier × FRCR = $1 × 100 = $100

Collateral Currency: USD (USD)

The funding rate mechanism is entirely consistent with traditional perpetual contracts. If the premium index is positive, the funding rate is positive, and longs pay shorts; if the premium index is negative, the funding rate is negative, and shorts pay longs. Given that this is a Quanto derivative, all funding fees are settled in USD.

To synthesize a long perpetual contract, traders only need to go long on FCU and continuously roll over. For example, if a trader wishes to establish a synthetic long perpetual exposure for 120 days, they only need to purchase a 30-day FCU and roll over 4 times. Conversely, to synthesize a short perpetual contract, traders only need to place an order to provide FCU and continuously roll over. For example, to establish a synthetic short exposure for 120 days, they only need to place an order to provide a 30-day FCU and roll over 4 times.

AI Model Adaptation Choices

A subtle challenge facing the computing power derivatives market is that the benchmark computing power price anchored by financial derivatives is independent of specific AI models (Model-Agnostic); however, in reality, each different AI model corresponds to an independent FCU trading market. Therefore, to accurately synthesize futures and perpetual contracts, traders must buy or supply a basket of FCUs from various independent models according to the weight ratios that can match the FRCR composite index.

When FRCR publishes the composite index, it will simultaneously disclose detailed data on the asset pools of each model, making the weights of the basket of assets completely transparent. The composite index will drift with changes in the model invocation structure, and for hedgers, the core risk to manage shifts from the physical depreciation of underlying hardware to the risk of model iteration retirement.

Zero Friction Trading

To cultivate and grow the derivatives market based on the spot and FCU computing power prices derived from the Flop Network, FCU trading is exempt from any additional platform trading fees; both parties only need to pay the network's basic $FLOP fee to package the transaction. This fee is no different from the ordinary $FLOP transfer fee between wallets.

Core Advantages of Flop Spot and Forward Markets

Anyone can participate in computing power procurement or supply on the Flop Network without barriers.

All settlement transactions are executed in a completely open and transparent market.

All data calls generated by the Flop Network are completely free.

It’s that pure and clear. If you are determined to create any form of computing power derivatives, all explorations must begin with a profound insight into the on-chain activities and price discovery in the Flop Network's spot and forward markets.

Hail to the kings!