The Pulse: Crypto Risk Review

Welcome to Crypto Risk Review, your concise and clear resource for quickly understanding and navigating crypto and DeFi market risks. Each edition provides a snapshot of critical risk factors and actionable insights derived from Sentora’s DeFi Risk platforms.

This biweekly risk review is part of Sentora Research

TL;DR:

• High risk loans near $9B
• Entire ecosystem’s increasing basis trade exposure
• Feature Strategy: PT Looping
• To watch: High PT leverage with low underlying liquidity

Risk Pulse and Radar Highlights

Volatile Available Liquidity During Pendle Market Maturities

Source: Sentora Aave PulseMarket liquidity can fluctuate dramatically in money markets during maturity periods of Pendle PTs. This can be a double edged sword for users wanting to increase their leverage in the market:

• Increases in available liquidity as users unwind matured PT loop positions can allow for other participants to increase their borrows without pushing the market interest rates higher
• Users that try to take advantage of the liquidity changes with a strategy that has a lower yields than the main PT strategies might find themselves with borrow rates higher than they expected

Sentora Aave Risk RadarAs seen in the chart above, most available liquidity gets borrowed by new PTs as older PTs mature. This creates moments of high liquidity in the market but is quickly snapped up by PT loopers.

Current Event Risks

Growing Basis Trade Exposure

As yields for stablecoin strategies remain relatively low for a bullish market, DeFi users have been seeking leveraged strategies on yield-bearing stables to increase their returns. Most of this has been through Ethena’s USDe and sUSDe, which have the largest supply amongst the high-yielding stablecoins. This leverage is primarily gained through a loop strategy where users supply sUSDe (or Pendle PT derivatives) as collateral, borrow other stables such as USDC or USDT, swap into sUSDe, and repeat.

While many lending protocols have had access to this loop for a while, the introduction of new markets onto Aave v3 has greatly expanded the liquidity available to execute this strategy.

Chaos LabsCurrently, over 50% of the total USDe supply is represented in its various forms as collateral or supply on Aave. This has been primarily driven by new growth in the USDe supply. While this trade can be highly attractive with yields on loops easily able to exceed 50% APY, it is dependent on multiple market conditions that can create environments similar to the recent issues with the leverage (re)staking trade discussed in the last Pulse. This means that market changes can quickly cause this strategy to produce negative yields, creating a deleveraging rush among users.

EthenaWith projected sUSDe yields for the coming week to be significantly lower than the previous month, the above scenario could potentially occur, leaving users seeking a way to deleverage their positions.

Key Risk Points:

Defillama
Defillama* There is roughly $100M USDe and $55M sUSDe that can be swapped for USDT on Ethereum mainnet

• However, the liquidity overlaps between the two assets so the total liquidity is less than combined total
• This liquidity is less than 4% of the main Ethena collaterals on Aave (sUSDe, PT sUSDe, PT USDe, PT eUSDe)
• This means that a 10x leveraged position of ~$15M would exhaust all liquidity in the market

As can be seen, the liquidity to exit quickly into another stablecoin onchain is relatively thin compared to the leverage in the ecosystem. This said, most large institutions executing this trade will have access to direct redemptions of USDe which can alleviate some of the risks. However, if sUSDe rates fall below borrow rates for stables on Aave, the influx of traders looking to exit could cause high slippage scenarios that impact all users exiting. This could leave loopers with the choice of enduring the negative yields on the trade or immediately taking a loss due to slippage.

Feature Strategy: PT Looping

Complementing the section above, the feature for this week’s Pulse will look at PT looping. As one of the largest trades currently in the DeFi ecosystem, the strategy takes advantage of the fixed rate yields of Pendle’s principal tokens (PTs) and adds leverage by borrowing correlated assets from money markets. Here are the steps below for PT looping with Ethena assets:

1. Purchase PTs for underlying asset (USDe, sUSDe)
2. Deposit PTs as collateral in money market
3. Borrow non yield-bearing stablecoins
4. Use borrowed assets to purchase additional PTs
5. Repeat

As stated above this trade can be highly profitable with yields at max leverage regularly ranging between 40–60% APY. However, if borrow rates endure a sustained trend upwards, this trade can quickly flip negative. Additionally, capacity in unwinding this position is often smaller than when leveraging it up. For these reasons it is important to evaluate certain economic risks when looking at executing this trade.

USDe Peg Stability

Sentora Ethena Risk Radar* Underlying asset depegging can affect the price of PTs resulting in potential liquidation scenarios

• Monitoring the historical stability of the asset can help users determine the leverage they want to take to avoid these liquidations
• Many lending markets use a fundamental oracle that reduces the risks of liquidation due to momentary depegs
• It is essential to understand the oracle used in the market where you take your leverage

Market Depth of Underlying Asset

Source: Upcoming Sentora Risk Radar* Traders should evaluate the current market depth of the PT’s underlying asset to understand how easily they can unwind and repay their leverage

• This can help in determining the size of the position you enter with

Borrow Rates

Source: Sentora Euler v2 Risk Radar* Monitoring the borrow rates from the market where you have sourced leverage can help a user identify market shifts that could impact the PT loop strategy

• If borrow rates go above the PTs fixed rate, this will significantly reduce the profitability of the overall strategy
• Choosing the market where you borrow based on historical rate stability could help improve the overall success of the trade

Stay informed, manage risks wisely, and stay liquid.

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Disclaimer: This newsletter is for informational purposes only and should not be considered financial advice.

The Pulse: Crypto Risk Review was originally published in Sentora on Medium, where people are continuing the conversation by highlighting and responding to this story.