Following extensive discussions with @ChaosLabs and our independent review, we support the proposed sUSDe price feed change to use USDT as reference. This recommendation stems from USDe’s strong operational ties to USDT through Ethena’s perpetual positions and redemptions.
Each pricing method presents distinct advantages and tradeoffs, detailed below. The guardian and steward roles retain protective powers to safeguard users when necessary. In our view, this proposal represents the optimal solution currently available for the DAO and its users.
Motivation
Aave sUSDe’s price oracle combines the internal sUSDe/USDe exchange rate, a CAPO adapter, and Chainlink’s USDe/USD secondary market price feed. Therefore, the LTV of sUSDe-backed positions (~1B sUSDe) is mainly exposed to short-term USDe secondary market price fluctuations. We have recently noted that around 1/4 of all sUSDe collateral on Aave would be liquidated if USDe price deviated by 2.5%, presenting an elevated risk of unexpected liquidations to borrowers. In the last two weeks, the situation did not improve, especially since USDe has started to trade slightly (~20 bps) below the peg.
Source: LlamaRisk, January 1st, 2025
This risk of liquidations is substantiated by low secondary market USDe sell-side liquidity, which in times of high USDe redemptions may fail to sustain secondary market sell-offs, causing temporary USDe price discounts until whitelisted minters absorb the overflow and redeem USDe for underlying collateral. Full USDe collateralization (currently at 101.2%) means that these temporary fluctuations are purely due to stablecoin utility changes, not attributed to changes in the risk profile of the stablecoin.
In addition to the risk of unexpected liquidations, low sUSDe liquidity may pose a risk of bad debt. Our research has found that a USDe de-peg could trigger a prolonged sUSDe de-peg in high redemption scenarios. While Ethena’s reserve fund could help restore USDe’s peg, sUSDe’s recovery would be slower due to high stake ratios and cooldown periods. This creates a risk window where sUSDe-backed loans could become liquidatable, but liquidations might be unprofitable if sUSDe’s market discount exceeds the liquidation penalty, potentially resulting in bad debt. This behavior was recently observed when the weekly yield of sUSDe decreased, lowering sUSDe’s utility and triggering sUSDe unstaking and larger USDe redemptions.
Source: Chainlink, 1st of January, 2025
The downturns of USDe were reflected and amplified for sUSDe, where the price discount reached up to 1.5%, compared to a discount of 0.2% for USDe. These larger downturns can also be observed in the volatility of daily returns.
Source: Chainlink, 1st of January, 2025
To offer more flexibility to Aave’s users and safeguard them from unexpected liquidations, we propose an improved pricing mechanism to replace the USDe secondary market price feed with a USDT secondary market price feed. This would result in sUSDe being priced via sUSDe/USDe exchange rate (+CAPO price adapter), fixed 1:1 rate for USDe/USDT, and USDT/USD secondary market price feed provided by Chainlink. Such changes would have implications for both Aave’s DAO and users and, therefore, need to be covered in detail.
Pricing Tradeoffs
Switching from the current USDe/USD secondary market rate to alternative pricing that eliminates exposure to USDe means that borrowers would no longer bear the implications of Ethena’s solvency as this risk would be shifted to Aave’s protocol. This requires an assumption of full USDe collateralization. Nonetheless, fixing the USDe price to a constant 1:1 ratio is undesirable as it neglects broader market systematic risks.
To mitigate this, USDT market price feed could be used. While not evident, USDe has a dependency on this stablecoin via Ethena’s exposure to USDT-denominated linear perpetual. These positions are expected to be the majority of Ethena’s perpetual positions as the Open Interest of inverse perpetuals is smaller. Moreover, part of USDe collateral is held in stablecoins, and USDe redemptions are serviced in USDT. While failures in Ethena’s protocol may arise due to multiple factors, a systematic failure leading to USDT’s depeg would reflect on USDe’s solvency. This leads to USDe being systematically correlated to USDT and allows to relate the pricing of USDe to a 1:1 ratio with USDT.
The risk-related tradeoffs between each pricing mechanism option are summarized in the following table:
| Price Feed | Liquidations Risk | Bad Debt Risk | USDe Solvency Risk |
|---|---|---|---|
| USDe/USD market price (current) | Possible unexpected liquidations due to temporary USDe secondary market price deviations | Bad debt risk if sUSDe’s market discount exceeds the liquidation penalty | Users bear all USDe solvency risks via USDe market rate |
| 1:1 USDe/USD rate | No liquidations due to USDe market price fluctuations | Bad debt if USDe under-collateralization results in an (effective) LTV>1 | USDe solvency risk is fully assumed by Aave’s protocol |
| 1:1 USDe/USDT rate + USDT/USD market price | Independent of USDe but relying on USDT secondary market peg | Bad debt if USDe under-collateralization results in an (effective) LTV>1 but USDT peg is stable | USDe solvency risk is mainly assumed by Aave’s protocol, only partially by the users (with USDe’s implicit dependence on USDT) |
In addition, switching to pricing USDe at 1:1 with USDT would make the USDT borrow positions using sUSDe as collateral even less susceptible to liquidations as the exposure to USDT price deviations would be removed. In that case, the LTV of such borrows would only depend on sUSDe/USDe exchange rate. Currently, 42.8% of all borrows using sUSDe as collateral are made in USDT, and this change is expected to increase this ratio further.
Source: Chaos Labs Risk Dashboard, 1st of January, 2025
Chainlink’s market price feeds indicate that USDe and USDT price movements have been closely related, with the largest negative price spread for USDe reaching up to 20 bps. We can also observe the recent USDe secondary market sell-off triggered by lower sUSDe yields, which led to a sharp increase in redemption volumes (80M USDe redeemed on December 19th, 2024).
Source: Chainlink, 1st of January, 2025
Safety Mechanisms
Notably, Ethena employs safety mechanisms that help to ensure the stability and full solvency of USDe collateral:
- The main safeguard is the protocol’s reserve fund, which comprises highly liquid (yield-bearing) stablecoins and RWA tokens that could be employed to cover unexpected USDe collateral losses. This way, the over-collateralization of USDe is maintained at 101.2%. The capitalization of the reserve fund constantly increases as recommended by a specific reserve fund methodology.
- A stablecoin buffer is kept. It changes according to funding rate fluctuations, safeguarding from negative funding rate yields and enabling the swift service of USDe collateral redemptions. This buffer was as low as $200M during recent high funding rate yield conditions. In the face of high redemption rates and lower funding rates, it is now back to the $600M-$700M level.
Source: LlamaRisk Ethena’s Risk Dashboard, 1st of January, 2025
These mechanisms are continuously monitored for and adjusted according to market fluctuations. Due to that and the exposure to the USDT market price, the risk of bad debt is partially mitigated. A sufficient LT buffer (8%) also means that Aave’s DAO would have time to step in and employ harsher measures (e.g., freezing a market) to protect Aave’s protocol from bad debt. Even with the price feed change, sUSDe’s price would still depend on the sUSDe/USDe exchange rate, which would be updated to reflect the under-collateralization of USDe.
Recommended Parameters
The sUSDe price feed change does not require immediate changes in sUSDe collateral parameters. sUSDe liquidation bonus is bound to increase from 3% to 4% as agreed via a previous proposal. The changes in borrower behavior, as well as sUSDe, USDe, and USDT price movements, will be further monitored.
Disclaimer
This review was independently prepared by LlamaRisk, a community-led non-profit decentralized organization funded in part by the Aave DAO. LlamaRisk serves as a member of Ethena’s risk committee. LlamaRisk did not receive any compensation from the protocol(s) or their affiliated entities for this work.
The information provided should not be construed as legal, financial, tax, or professional advice.