Chaos Labs supports the proposal made by @eboado and @llama, to disable borrowing of volatile assets on v2, reflected in the table above.
Given the current market conditions and the current level of risk parameters, this is a risk-off and prudent approach. However, this is a temporary mitigation and not a long-term solution.
It would be our preference not to completely prevent users from borrowing these assets, but unfortunately, major changes in LTV & LT would be necessary for adequate risk protection. For example, reducing USDC/DAI liquidation thresholds will trigger liquidations of currently healthy positions and cause unnecessary harm to users that do not pose a risk to the protocol
Reducing Liquidation Thresholds
The proposal to reduce liquidation thresholds for USDC and DAI effectively mitigates the risk of high liquidation thresholds. However, this is a significant change and we wanted to present data to quantify and visualize the effect of such reductions on protocol users. Specifically, we want to surface data around the liquidations this would trigger as some are sizable and warrant a discussion of how these should be handled. We’re focusing on 3 LT levels:
- Decrease LT by 3% → as voted upon as the Rate of Change Consensus.
- Chaos identified LT → This is a reduction in LT that aims to find a balance between minimizing fund loss while still reducing LT in a significant manner.
- LT = 80% → This significantly reduces protocol risk but incurs liquidations and user fund loss.
Main Insight
While a liquidation threshold of 80% is the most effective in de-risking the protocol it incurs large liquidations across USDC and DAI. Updating the USDC LT to 84% and DAI to 83% respectively, present a significant LT reduction while minimizing user losses (if the DAO is willing to consider this as an option) and give users the ability to incrementally top up or wind-down positions as we aim to move LTs to 80% ultimately.
USDC Effects of Reducing Liquidation Thresholds
| $USDC | LT = 86% | LT = 84% | LT = 80% |
|---|---|---|---|
| Accounts Liquidated | 168 | 174 | 331 |
| Liquidation Value | ~1.15M USDC | ~2.2M USDC | ~18.3M USDC |
| User loss (penalty) | ~50K USDC | ~100K USDC | ~790K USDC |
DAI Effects of Reducing Liquidation Thresholds
| $DAI | LT = 87% | LT = 82% | LT = 80% |
|---|---|---|---|
| Accounts Liquidated | 11 | 18 | 34 |
| Liquidation Value | ~$1.3K DAI | ~$20K DAI | ~$890K DAI |
| User loss (penalty) | ~50 DAI | ~800 DAI | ~$35K DAI |
Note → We’ve queried this data from the officially maintained Aave v2 subgraph. There are several known discrepancies with data returned from v2, similar to issues we’ve discovered and fixed for v3. If the community agrees with this as a next step, we can validate all the data via an on-chain simulation and follow up with a targeted governance proposal. An incremental reduction can give users the opportunity to top up or unwind positions.
Looking Forward
We are eager to reactivate these markets with sensible supply and borrow caps on V3 (like the supply caps proposed yesterday) to be accessible to users while maintaining a high-security threshold against potential exploits. However, since the current priority is finding a sustainable solution for these assets on V2 we believe that after disabling borrowing of risky assets, the DAO should address incrementally decreasing risk parameters until they reach acceptable levels. The goal for new parameters for these more volatile assets would be to reactivate them for borrowing more aligned with prevailing market conditions and liquidity.
We are concurrently reviewing all v2 markets to confirm whether or not we view any other assets at risk or if there are opportunities to simply reduce liquidation thresholds and associated parameters instead of disabling borrowing, but may prefer that to be a second-stage decision when reactivating markets as to not impede the near term protection of the protocol via more conservative measures.
TL;DR -
- Chaos Labs supports disabling borrows, as suggested by eboado in the above table.
- Follow up with community investigation into how to:
- incrementally decrease risk parameters to enable borrowing without triggering liquidations of currently healthy positions
- utilize parameter changes (and potentially treasury incentives) to sunset v2 markets and move positions to v3 in short order