[ARC] Add wstETH to Aave v3 on Optimism

Proposal: Add support for wstETH on Optimism Aave V3

References:

Project: https://lido.fi/
Whitepaper: lido-dao/README.md at master · lidofinance/lido-dao · GitHub
Github: lido-l2/contracts/optimism at main · lidofinance/lido-l2 · GitHub
Documentation: https://docs.lido.fi/
Audit: audits/Oxorio Lido L2 Smart Contracts Security Audit Report 07-2022.pdf at main · lidofinance/audits · GitHub
Dune: ​​Dune
wstETH: Lido: Optimism Governance Bridge Executor | Address 0xefa0db536d2c8089685630fafe88cf7805966fc3 | Optimism
Chainlink: Contract Address 0xe59EBa0D492cA53C6f46015EEa00517F2707dc77 | Optimism
Governance: https://research.lido.fi/
Twitter: https://twitter.com/LidoFinance
Discord: Lido
Lenster: Lenster

Summary:

This ARC presents the community with the opportunity to add wstETH to the Optimism V3 Liquidity Pool.

Motivation

The stETH Reserve on Aave V2 is the largest Reserve across all Aave deployments with $1.09B in deposits, exceeding USDC ($1.08B) and ETH ($1.03B). This is partially due to several communities having built products that deposit stETH and borrow ETH as part of a rewards-maximising strategyThe demand for stETH has increased as a result of listing stETH on Aave V2, which has increased the Lido DAO takes a small percentage of rewards received by staking ETH as revenue. Listing of stETH by Aave has enabled Aave to offer the best return on ETH, in ETH terms, across major lending markets, continually outperforming Compound. By listing wstETH on Optimism, the Aave community is helping create an environment capable of replicating the success of the Ethereum Mainnet Aave V2 Liquidity Pool.

Specification

1. What is the link between the author of the AIP and the Asset?

Jacob is a full time contributor to the Lido DAO

2. Provide a brief high-level overview of the project and the token?

​​Lido protocols enhance the security of the network by enabling more users to stake ETH. When they stake ETH through the Lido Protocol software they receive stETH. stETH tokens are fungible and liquid. The total balance of stETH in existence is based on the total amount of ETH staked via the Lido protocols plus total staking rewards minus any slashing applied on validators. stETH rebases daily.

Due to the rebasing nature of stETH, a user’s stETH balance changes daily as staking rewards are received. As some DeFi protocols require a constant balance mechanism for tokens, Lido protocols offer wstETH, which is a wrapped version of stETH. wstETH keeps a user’s token balance fixed and uses an underlying share system to reflect users’ receivedstaking rewards.

Example:

  • Wrap 100 stETH to 99.87 wsETH
  • Continue to receive rewards on your wstETH
  • Unwrap wstETH, receive 101 stETH

When redemptions are available, wstETH can be redeemed for unstaked ETH and accumulated rewards.

wstETH on Optimism: 0xefa0db536d2c8089685630fafe88cf7805966fc3

3. Explain positioning of the token in the AAVE ecosystem. Why would it be a good borrow or collateral asset?

The below shows the effect that listing of stETH has had on the Aave v2 Ethereum Mainnet deployment. stETH drives most of the ETH borrowing demand and the resulting fee-revenue. The ETH reserve generated approximately $120k in revenue during October and has already generated $124k by late November.

4. Provide a brief history of the project and the different components: DAO (is it live?), products (are they live?). How did it overcome some of the challenges it faced?

The below provides a brief overview and some key dates of interest providing insight into the history to stETH and wstETH:

  • stETH deployed on 17th December 2020
  • stETH listed on Aave V2 on the 27th February 2022
  • wstETH deployed 5th August 2022
  • wstETH to be listed on Ethereum V3 deployment discussion 11th October 2022

The Lido protocols account for up 30.3% of the staked ETH deposits. This is the most frequently used protocol to stake ETH.

5. How is the stETH token currently used?

Aave V2 on Ethereum is the largest holder of stETH.

Deploying wstETH on Optimism, along with on other networks like Arbitrum, will make the token available to Aave users on Layer 2 networks in the same way stETH is available on Ethereum Mainnet. It will also enable DeFi protocols and products on Optimism to build interesting and exciting new use cases by utilizing integration with Aave to access the wstETH market.

InstaDapp, Index Coop, Galleon DAO, and others have all built products on top of Aave utilizing the recursive stETH/ETH strategy. By adding wstETH to the Optimism Liquidity Pool, Aave moves closer towards enabling developers to deploy similar products on Optimism.

On Optimism, wsETH is mostly used for providing liquidity on various incentivised decentralized exchanges.

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6. Emission schedule

There is no emission schedule.

7. Token (& Protocol) permissions (minting) and upgradability. Is there a multisig? What can it do? Who are the signers?

For details on stETH, which is already listed on Aave V2 Ethereum, please refer to the forum post shown below:

The custom bridging contracts for the Optimism native bridge have been developed by the Lido dev workstream. The code was submitted for audit and the audit report can be found below:

The Optimism bridge is owned by Lido DAO on L1. This means, no actions can be performed on bridges without explicit Lido DAO approval (beside pausing the bridges). Just like the L1 part of the setup, the L2 one is also designed to be upgradeable. The L2 upgrades are implemented via governance approval on Ethereum and leverages the Aave Governance Cross-Chain bridges contracts.

For security, Emergency Brakes multi-sigs have been set up on Optimism. The multi-sig can pause deposits/withdrawals. However, only the Aragon Agent is capable of resuming bridge operations. The Optimism multi-sig address is shown below:

The multi-sig composition is 3 from 5 of the following signers:

  • @psirex with address 0x2a61d3ba5030Ef471C74f612962c7367ECa3a62d
  • @vsh with address 0x2a96805188e583dd760785A0dE93128504DDd5c7
  • @kadmil with address 0x6f5c9B92DC47C89155930E708fBc305b55A5519A
  • @ujenjt with address 0xdd19274b614b5ecAcf493Bc43C380ef6B8dfB56c
  • @folkyatina with address 0xCFfE0F3B089e46D8212408Ba061c425776E64322

8. Market data (Market Cap, 24h Volume, Volatility, Exchanges, Maturity)

  • Market capitalisation: $5,651,971,852
  • 24H Volume ~$50M (stETH + wstETH)

Decentralized exchange liquidity pools

Beethoven

Kyber Network

9. Social channels data (Size of communities, activity on Github)

  • Discord: 43,708 members
  • Twitter: 113k followers
  • Github: 153 followers

10. Contracts date of deployments, number of transactions, number of holders for tokens

The below applies to just wstETH on Optimism:

  • Date of Deployment: August, 05 2022
  • Number of Transactions: 106,563
  • Number of holders for token: 907 (liquidity pools are recorded as 1 address)
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Gauntlet Parameter Recommendations:

Isolation Mode: No
Borrowable: Yes
Collateral Enabled: Yes
Supply Cap (in tokens): 6000
Borrow Cap (in tokens): 940
Debt Ceiling: 0
LTV: 70.0%
LT: 79.0%
Liquidation Bonus: 7.2%
Reserve Factor: 10%
Liquidation Protocol Fee: 10%

One challenge of parameterizing markets with no usage (new markets) is the lack of user data to train simulation models. At a high level, our research has shown that simulations using mock data are inaccurate (due to priors on the mocks not being representative of real-world usage in the protocol). That said, Gauntlet has previously provided wstETH param recommendations for Aave v3 Ethereum, which will serve as the foundation for wstETH initial recommendations on Aave v3 Optimism. We made adjustments to the LTV, LT, Supply Cap, and Borrow Cap from our v3 Ethereum recommendations that we put in place here. Below we detail our rationale and methodology behind each parameter. As a reminder, these recommendations are from a market risk (not smart contract risk) perspective.

Supply Cap / Borrow Cap

Gauntlet recommends reducing the Supply Caps and Borrow Caps by 99% from our v3 Ethereum recommendations to 6000 and 940, respectively. For an initial conservative listing approach, Supply Caps and Borrow Caps are initialized with the liquidity on that chain. wstETH is considerably less liquid on Optimism as compared to Mainnet Ethereum - a sell of 150000 wstETH to WETH on Ethereum yields a 1.5% slippage, compared to 1900 wstETH to WETH on Optimism, a difference of roughly ~99%. These diluted caps help mitigate tail risks while giving the market ample time to naturally evolve and grow. If the wstETH market grows quickly due to its greater use cases compared to stETH, the community can revisit the market’s parameterization accordingly.

Liquidation Threshold / Loan-to-Value

For LTV and LT, we recommend dividing the LTV and LT of our wstETH v3 Ethereum recommendation by v2 WETH LTV (LT) / v3 Optimism WETH LTV (LT). The v3 Optimism WETH LT is 82.5%, compared to 86% on v2. Since the wstETH v3 Ethereum LT and LTV recommendations are derived from v2 Ethereum, this would allow us to initialize Optimism wstETH with the same relative risk profile for stETH on v2 (as compared to WETH). This results in an LT of 79% and LTV of 70% for wstETH on v3 Optimism.

Reserve Factor

Gauntlet recommends wstETH reserve factor be that of the reserve factor on v2 for stETH, which is 10%.

Liquidation Bonus (”LB”)

Gauntlet has recommended LB params for wstETH on v3 Ethereum. For v3 Optimism, we recommend initializing with the same LB for wstETH on v3 Ethereum, adjusted by the ratio between WETH v2 LB and WETH v3 Optimism LB to account for implicit behavioral differences between liquidations on Optimism vs. Ethereum. This results in 7.2%.

Liquidation Protocol Fee (”LPF”)

Gauntlet has recommended a 10% LPF for the LPF of wstETH on v3 Ethereum. For v3 Optimism, we recommend the same. This will allow for protocol revenue from LPF while minimizing effects on liquidator behavior and user experience. The LPF is a percentage of the LB that ultimately contributes to Aave reserves. Ultimately, more data is needed to conduct analysis on what optimal LPFs should be. LPFs, like LBs, are intimately linked to liquidation behavior, as they serve as the primary incentive for liquidators. If LPF is too high (and unadjusted LB), liquidators may be deterred from conducting liquidations due to fears of unprofitability. Likewise, a higher LPF, with an upwards adjusted LB to ensure liquidators have the same bonus as in v2, may cause too much of the collateral to be eaten up by liquidations, which also impacts liquidator behavior.

By approving this proposal, you agree that any services provided by Gauntlet shall be governed by the terms of service available at gauntlet.network/tos.

From the technical side, we want to point out that for the pricing of wstETH we think an approach like the one on the upcoming Aave v3 Ethereum is the right option: a smart contract adapter based on ETH/USD → stETH/ETH → stETH/wstETH. This way, there will be no possible async price-update problems with the ETH asset, especially important if the community plans to enable an eMode for ETH-correlated assets.

Currently there is no stETH/ETH Chainlink feed available, so we will sync with the Chainlink team to study the possibility of having one on Optimism.

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wstETH - Aave Risk Assessment

General

Lido allows users to earn staking rewards on the Ethereum without locking ETH or maintaining staking infrastructure. This is achieved through the stETH token which represents a tokenized staking deposit.

As stETH is a rebasing token, it creates challenges as not all DeFi integrations support rebasing tokens. To overcome these challenges, wstETH was developed. wstETH utilises a constant balance mechanism that uses an underlying share system to reflect the earned staking rewards. As with Aave v3 on Ethereum, Aave v3 on Optimism is to use wstETH.

At the time of writing, there are 933,821.62 units of wstETH in circulating supply on mainnet, worth about $1,553,384,266 on the 14th Jan 2023. wstETH on Optimism represents a claim on the wstETH on mainnet, where the asset is held within the bridge contract. After 162 days of trading (launch date 5th August 2022), there are 14,703.80 units of tokens in circulating supply and 301,566 transfers have taken place on the Optimism network.

General Information
Genesis Date 05/08/2022
Ticker wstETH Price 1,673.57
Circulating Supply (Optimism) 14,704.35 Number of Holders (Optimism) 2,401
Circulating Supply (Ethereum) $1.55B Number of Holders (Ethereum) 933,821.62
Market Cap (Optimism) $24.6M Number of Transfer (Optimism) 301,566

Note: The number of holders metric above is skewed as it only reflects those that hold wstETH and counts all deposits into a single contract as one holder. To fully grasp the wstETH distribution, the distribution of liquidity provider receipt tokens deposited into various smart contracts such as gauges needs to be assessed. This will lead to significant increase in the number of holders of wstETH on Optimism.

There are several wstETH liquidity pools on Optimism, Velodrom $14.8M, Beethoven $6.09M, Curve $10.5M and Kyber Swap $3.3M as of the 14th Jan 2022 for a total of $34.8M in TVL across the liquidity pools.

Data Source.

The below summaries relevant addresses specific to liquidity, bridges and tokens:

wstETH Ethereum Contract Address: 0x7f39C581F595B53c5cb19bD0b3f8dA6c935E2Ca0
Ethereum Bridge Address: 0x76943C0D61395d8F2edF9060e1533529cAe05dE6
wstETH Optimism Address: 0x1F32b1c2345538c0c6f582fCB022739c4A194Ebb
wstETH Optimism Bridge Governance Executor Address: 0xefa0db536d2c8089685630fafe88cf7805966fc3
Velodrom Liquidity: 0xbf205335de602ac38244f112d712ab04cb59a498
Beethoven Liquidity: 0xba12222222228d8ba445958a75a0704d566bf2c8
Curve Liquidity: 0xb90b9b1f91a01ea22a182cd84c1e22222e39b415
Kyber Swap Liquidity: 0xda74DB17023750D02b83BE2559a4EaA013B65C54

wstETH Smart Contract Risk:

stETH had been audited several times, with audits from Sigma Prime, Quantstamp and MixBytes. Lido also has an active Immunefi bug bounty program as well. Lido wrote its own bridging contract for the Optimism native bridge, which was audited by Oxorio in July 2022. The conclusion section from Oxorio’s report indicates all findings were addressed or are considered not an issue.

wstETH Counterparty Risk:

With stETH already listed on Aave v2 and wstETH to be listed on Aave v3 on Ethereum at launch, here we will focus on the Counterparty Risk specific to Optimism.

As the Optimism bridge is owned by Lido DAO on Ethereum, no action can be taken on the bridge without explicit Lido DAO approval with exception to pausing the bridge. L1 and L2 upgrades are implemented via governance approval on Ethereum and utilise the Aave Governance Cross-Chain bridges contracts.

There is a 3 of 5 multisig on Optimism that performs the Emergency Brake role, which can pause deposits and withdrawals in the bridge contract. Do note resuming operations can only be performed by the Aragon Agent. Details about the signers on the multisig are mentioned in the original proposal.

With Chainlink set to monetise their oracle feeds, by onboarding wstETH, Aave will likely incur a fee for using two oracles. As Aave utilises a token/USD oracle feed, for wstETH, the oracle will need to calculate wstETH to stETH to USD in order to generate a wstETH/USD oracle feed for use on Optimism. This means Aave will utilise two Chainlink feeds in supporting the wstETH asset listing.

wstETH/stETH: 0xe59EBa0D492cA53C6f46015EEa00517F2707dc77
stETH/USD: 0x41878779a388585509657CE5Fb95a80050502186

Data source can be found here.

As a result, Llama believes the community should opt for a Reserver Factor of 15%, similar to the ETH Reserve on v2 and the pending v3 deployment. This will improve the overall economics of listing wstETH on v3.

Risk Parameters

Provided above by Gauntlet, with exception to a revised BorrowCap and Reserve Factor.

In addition, Llama would like to suggest the creation of an eMode Category for ETH correlated assets on Optimism. This will enable users to recursively deposit wstETH and borrow ETH to generate yield on ETH and other chosen types of collateral. Details relating to eMode can be found here.

ETH eMode Category:

Category Assets Included Loan to Value Liquidation Threshold Liquidation Bonus
Ethereum Correlated wstETH wETH 93% 90% 1%

The above reflects the same parameters suggested for the Ethereum v3 deployment and is expected to attract users to the v3 deployment. Given the BorrowCap suggested by Gauntlet is very limited (940 wstETH units) the risk proposed by the introduction of the eMode is minimal.

It is likely that Aave will experience demand for wstETH borrowing as users seek to compound their rewards by depositing into the various liquidity pools to earn additional yield. Ie: Deposit collateral, borrow wETH + wstETH and deposit into a liquidity pool to earn yield. Borrowing both wETH and wstETH enables users to avoid any loss of yield from the price impact by converting one asset to another prior to depositing into any liquidity pool.

wstETH Market Risk:

With Shanghai approaching, expected late Q1 2023, it is possible to see volatility in spot pricing between the LSD as each provider enables withdrawals from their respective staked ETH products. This is being discussed on a separate Governance Forum Thread.

Interest Rate Curve

The following Interest Rate Curve is proposed for wstETH on Optimism. This is the same Interest Rate Curve as wstETH being proposed for wstETH on v3 Ethereum.

Category Value
Base 0.25%
Slope1 4.50%
Slope2 80.00%
Uoptimal 45.00
Reserve Factor 15.00

BorrowCap based upon Gauntlet’s SupplyCap, utilising Chaos Lab’s public BorrowCap methodology:

Borrow Cap = Supply Cap * (Uoptimal + 0.1)

New proposed BorrowCap = 6,000 * (0.45+0.1) = 3,300

The figure below shows daily trading volume, 3,675.27 units of wstETH for the later half of January 2023, exceeding the borrow cap of 3,300 units. The chart below also shows the trading volume to be distributed across several decentralised exchange liquidity pools. There are 9,031 wstETH spread across the main liquidity pools, see chart below, which exceeds the BorrowCap by about 50%.

Date Source

Date Source

The main wstETH liquidity pools are incentivized by a range of token emissions:


Data Source

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Gauntlet Recommendations

eMode Category: In eMode, we recommend a higher liquidation bonus of 2%. Compare the slippage in swapping wstETH for WETH on Optimism:

image

to the slippage on ETH mainnet:

image

This suggests that wstETH on Optimism is a lower-quality collateral compared to wstETH on Ethereum. Even after we adjust for the lower supply cap (6000), the slippage incurred from swapping wstETH for WETH on Optimism is 3x compared to that incurred on ETH mainnet. If a whale deposits an amount of wstETH near its supply cap to borrow ETH, and then the whale becomes liquidatable, a liquidation bonus of 1% would not be enough to incentivize liquidators to act (on this size) since it would cost them more to swap for wstETH than they would make on the liquidation bonus. This introduces insolvency risk for the protocol.

IR curve: While it is difficult to formulate Interest Rate curves for new assets, given the conservatism in Llamaxyz’s assumptions, we have no recommendations to change Llama’s suggested curve at this time.

Borrow cap: Given the borrow cap recommended by Chaos for wstETH on v3 ETH is 3000 and the liquidity for wstETH on Optimism is much lower than on ETH (as we mentioned in our previous response), we recommend a borrow cap significantly lower than 3000. As such, we maintain our recommended borrow cap of 940. We can always consider increasing the cap as the market for wstETH on Optimism evolves.

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Hi @Pauljlei,

Thank you for Gauntlets feedback.

Next step, Llama will create a Snapshot that incorporates the combined Gauntlet and Llama recommendations. The Snapshot vote will start on Monday 30th January. A summary of all the listing parameters are shown below, with specific values highlighted in bold for easy reference.

Risk Parameters

Parameter Value
Isolation Mode No
Borrowable Yes
Collateral Enabled Yes
Supply Cap (in tokens) 6000
Borrow Cap (in tokens) 940
Debt Ceiling 0
LTV 70.0%
LT 79.0%
Liquidation Bonus 7.2%
Liquidation Protocol Fee 10%

ETH eMode Category

Category Assets Included Loan to Value Liquidation Threshold Liquidation Bonus
Ethereum Correlated wstETH wETH 90% 93% 2%

Borrow Rates

Category Value
Base 0.25%
Slope1 4.50%
Slope2 80.00%
Uoptimal 45.00
Reserve Factor 15.00
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Hi Everyone :wave:

The Snapshot has been created and voting will commence on the 30th January.

https://snapshot.org/#/aave.eth/proposal/0x987478096685c26ed1f7d5709ba038b8387d694b7873cb157d15c388b28944a0

Thank you to everyone in advance who participates in the vote.

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When suggesting this eMode, did you guys consider the nature of the optimism price sources?

On the ethereum pool the price oracles are composed as:

and

So the price (de)sync between the two is purely based on price deviation of stETH / ETH | Chainlink (2%deviation)


In the case of Optimism though the price for eth is based on:

The price for wstETH, currently cannot be composed in a similar fashion to the ethereum pool as there is no stETH/ETH price feed. So at the current point it would probably be sth like:

Was this resulting deviation somehow quantified as error and taken into consideration for the eMode?
Also i think there’s an error in your eMode chart, as ltv > lt which should never be the case i guess.

For the snapshot i would request to add a “no eMode” option, as long as there is not stETH/ETH feed on optimism.

Following on the points of @sakulstra, generally from the technical side, we will recommend from now on to try to use the price sync adapter approach on all price-correlated assets. The rationale is not that alternatives will not work, but more for consistency and avoiding unexpected effects.

In this particular case, if we analyze the price relation between stETH/wstETH and ETH, together with the main use case of the pair (wstETH collateral and ETH borrowings), it is clear that the “growing” dynamics of stETH against ETH should not create a problem liquidation wise in the average case. But if we add the interest rate at certain levels of utilisation (ETH), and the historic moments of price deviation between ETH and stETH, the analysis becomes slightly more complex (not as simple as stating "the wstETH collateral position will always grow against WETH).
And so, the removal of any price async update variable simplifies the aforementioned analysis, as it becomes a matter of understanding how the stETH/ETH (and/or the wstETH/stETH exchange rate) updates and behaves.

Regarding the specific parameters recommended (90% LTV and 93% Liquidation threshold if corrected), technically they are correct, so it is more a matter of risk, in which we are not involved.

As a conclusion, we think it is possible to proceed even if the price sync adapter components are not the best, but we will work to get the most optimal ones in the close future (non-blocker)

Hi @sakulstra,

Thank you for pointing out the LTV and LT typo. This has now been corrected on the comment above. Good pick up.

We believe @bgdlabs will be creating the oracle for this listing and we are happy for the team to choose the best solution for listing the wstETH asset. Do note, our analysis was highlighting the availability of oracles from Chainlink, not how the price feed was to be constructed.

Regarding the eMode, can modify the Snapshot to include this option. The four options become:

YAE (with eMode)
YAE (without eMode)
NAE
ABSTAIN

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