Ethena, a stablecoin with a market cap of over $2.3 billion, emerged in late February and quickly gained popularity as the fastest-growing stablecoin in history. One of its key selling points is its ability to generate yield for holders, unlike other stablecoins where profits are kept by issuers. However, this unique feature also introduces a level of risk to the protocol.
The Risk Factor
According to a report by CryptoQuant, Ethena’s method of paying holders with returns can be a double-edged sword, especially during sharp price corrections in the cryptocurrency market. When funding rates become negative and traders start liquidating their long positions while others open short positions, Ethena could face risks.
Stress Testing
CryptoQuant conducted a stress test on Ethena’s reserve fund and found that it can handle prolonged negative funding rates as long as the market cap remains below $3 billion. Currently, the market cap stands at $2.4 billion, indicating that the protocol is robust enough if the reserve funds are sufficient relative to the market cap.
Ethena maintains its peg to the dollar by utilizing a delta-hedging strategy. Unlike traditional stablecoin issuers that back their tokens with cash and U.S. treasuries, Ethena uses Bitcoin and Ethereum to back USDe. The protocol counterbalances fluctuations in value by holding perpetual futures shorting both assets.
The use of Bitcoin and Ethereum to back USDe makes Ethena’s reserves far more censorship-resistant compared to traditional stablecoins. Since the futures markets for Bitcoin and Ethereum have a historical bias towards long positions, shorts receive regular payouts, providing Ethena with intrinsic revenue. However, this revenue can quickly turn into penalties during negative funding rates, which are covered by the reserve fund.
Analysis and Conclusion
According to CryptoQuant’s analysis, Ethena’s current reserve fund of $32.7 million is only sufficient to protect USDe holders if the market cap remains under $4 billion. In scenarios of extremely negative Ethereum funding rates, the reserve fund may not be adequate if the market cap rises significantly. Investors are advised to monitor Ethena’s reserve fund closely to ensure that it can handle periods of large negative funding rates.
While Ethena offers unique features such as generating yield for holders and being censorship-resistant, it also poses risks due to its business model and reliance on the cryptocurrency market’s volatility. Investors should exercise caution and conduct thorough research before holding Ethena for the long term.
