What are the additional risks for Ethena Labs in July?

Ethena Labs is still closely watched for potential contagion risks. The bull market is now helping the project, but the effect of USDe may spread to additional protocols.

Ethena Labs is gaining support from the Ethereum (ETH) bull market. However, the project is still a source of risk, tied to the newly issued 3.4B of USDe. The project now faces both external and internal factors that could sway the balance and affect the usage of USDe. 

Over the past weeks, the acceptance of USDe into new protocols was gaining speed. The Pendle ecosystem is now absorbing more USDe, as well as apps like PolynomialFi and KintoXYZ. 

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The USDe stablecoin reached peak supply at 3.6B tokens, and had a slight outflow in July. At the same time, bullish ETH expectations are making the base trade safer for Ethena. 

The risk from Ethena comes from the nearly 1.7B staked USDe, or SUSDe, which shows a slide in available liquidity. So far, SUSDe has not lost its dollar peg, but the ratio between liquidity and staked tokens is near its low point at 0.42%. The available liquidity for SUSDe started falling in May. 

Most SUSDe is still locked with Pendle and Morpho, while exposing even top protocols like DAI. All SUSDe holders are incentivized through the Sats Points system, in exchange for staking stablecoins or ENA. The expectation of the second Ethena airdrop is what holds the SUSDe still staked, with no sign of sliding under $1. SUSDe is even trading at a premium of $1.09.

Ethena shows low insurance fund balance

Ethena Labs claims it has an insurance fund balance to support the price of USDe and SUSDe in case of liquidity problems. The main mechanism to protect the stablecoin is to extend the cooldown period for un-staking. But the insurance fund is also seen as a tool to protect value. 

The fund was valued at 44M at the end of 2023, but the latest on-chain data showed Ethena held 18.4M USDT in its reserve address.

Based on market conditions and the behavior of investors, Ethena’s fund may last between 3 and 90 days. However, the market contagion and panic from de-pegging or other negative scenarios may shorten the predicted period. Analysts have tested the fund’s potential to avoid contagion, and put the desirable reserves at more than $115M for a $3.5B in stablecoins. 

On the positive side, Ethena has added Bitcoin (BTC) as its source of funding fees, to avoid the volatility of the Ethereum (ETH) market. For now, Ethena’s trade and fee production are still benefiting from the bullish ETH trading. The market has not seen significant periods of negative funding, enough to deplete the entire reserve. 

USDe also varies in its available trading pairs. In July, the trading profile for USDe shifted, adding more liquidity from FRAX. Trading is concentrated on Uniswap V3 and Curve Finance, against stablecoins USDT, USDC, DAI, sDAI, mkUSD, FRAX, and crvUSD. Those pairs may be affected by price fluctuations. 

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USDe is now under the $1 peg, trading at $0.93 . This means all SUSDe holders will lose if they try to liquidate their holdings. As for SUSDe, its premium price cannot be realized immediately. Yet having a USDe discount is better for the protocol. At the end of June, Ethena had the reverse situation, with a premium for USDe, prompting holders to arbitrage the difference. Three weeks later, the market has returned and there is no risk of a run from SUSDe into USDe.

The other risk for Ethena is the sliding price of the native ENA token. The asset is now down to $0.46, close to the lower range for the past 12 months. Since Ethena’s liquidity relies on incentives, a low ENA token price may slow down the airdrop mining for the project. ENA still managed to bounce from a recent low of $0.34. 

The biggest attractor for using USDe and SUSDe are the higher yields compared to other protocols. The yields are allowing some DeFi apps and users to get exposed to the risk of Ethena, considering the current market conditions as favorable.

Cryptopolitan reporting by Hristina Vasileva