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Breaking News: LINK Price Climbs Following Chainlink's Deal With US Commerce Department, Eyes $30

Ethereum: Is Lido (LDO) Doomed To Repeat Three Arrows Capital’s Fate?

Jake Simmons
Jake Simmons
2 years ago
3 mins read
Ethereum LDO systemic risk

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Market research firm Kaiko has published a study on the flagship protocol of Ethereum, Lido Finance (LDO). The study is a must-read for every ETH and LDO investor!

Cautionary tales serve as a valuable reminder of the risks and pitfalls that can await even the most promising projects. Remarkably, Lido Finance has embarked on a massive growth trajectory in recent months, reminiscent of former crypto industry poster child Three Arrows Capital (3AC). Riyad Carey, analyst at Kaiko, writes:

Essentially, 3AC made a bet that GBTC – a fundamentally different asset than BTC, with significant frictions in entrance and exit – would closely track BTC’s price. This saga has been front of mind as I’ve observed stETH (and other liquid staking derivatives) begin to displace ETH in DeFi protocols.

Research Findings By Kaiko

The in-depth research conducted by Kaiko offers critical insights into Lido’s operations and the potential risks it faces. According to Kaiko’s analysis, “Lido’s success story raises concerns about potential vulnerabilities and risks lurking beneath the surface.” By examining a wealth of data, Kaiko sheds light on liquidity challenges, leverage risks, and the potential for a large liquidation event.

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Lido Finance is a platform that allows users to stake Ethereum and receive stETH tokens, which represent the value of the initial deposit and staking rewards. Kaiko’s research reveals the impressive growth of stETH tokens over the past year and a half, with the supply increasing fivefold from 1.5 million to 7.5 million, and the number of holders rising from 40,000 to nearly 220,000.

stETH supply and holders
stETH supply and holders | Source: Kaiko

The analysis conducted by Kaiko also highlights the importance of liquidity in the context of staking derivatives like stETH. One crucial aspect emphasized by the research is Lido DAO’s reliance on Curve’s stETH-ETH pool for liquidity provision.

Kaiko’s data shows that since June 2023, liquidity incentives for this pool have been fading. As a result, liquidity has contracted, and a downward trend is evident. This change in incentives raises concerns about the stability of the stETH-ETH pool during periods of stress or market events, potentially triggering a liquidity crisis.

stETH curve pool
stETH curve pool | Source: Kaiko

Another critical aspect explored by Kaiko’s research is the increasing leverage associated with stETH usage. The analysis points out that lending and borrowing protocols have become hubs for leverage, with stETH gaining popularity as an asset for leveraging strategies.

However, the research highlights the fundamental differences between stETH and ETH, coupled with deteriorating on-chain liquidity raises concerns about the risks associated with these leveraged positions.

Related Reading

Ethereum Whale

Ethereum Whale Transfers Over 25,000 ETH To Exchange: Massive Dip On The Horizon?

2 years ago

Kaiko found that about one month after stETH was added to Aave V2 it became the most deposited asset, while ETH borrows skyrocketed from under $200mn to $1.6bn in just two months. The reason is alarming, according to the research firm:

This is in large part due to the popularity of manually leveraging stETH: depositing stETH into Aave, borrowing ETH, swapping or staking it for stETH, and repeating as many times as one is comfortable with. This is the process that starts to sound concerningly similar to 3AC’s GBTC trade, where the founders assumed that GBTC would trade closely with BTC.

Implications For The Future Of Ethereum And Lido

Based on the research, the combination of deteriorating liquidity and increasing leverage presents a precarious situation where a large liquidation event becomes more likely. Kaiko states:

Again, this is not a flaw in stETH but rather in how it is being used. In fact, any significant liquidation event that increases the stETH discount could present an incredible opportunity for anyone brave enough to catch the dip.

The data from Kaiko’s analysis reveals the withdrawal of liquidity from the stETH-ETH pool and emphasizes the potential risks arising from insufficient on- and off-chain liquidity.

This liquidity shortage could hinder the liquidation of substantial stETH positions, potentially burdening lending and borrowing protocols with significant bad debt.

Kaiko’s findings underscore the importance of caution, risk management, and proactive measures to address liquidity concerns in order to safeguard Lido’s future stability. In conclusion, the company has an advice for the Lido DAO:

The DAO understandably grew tired of providing such large incentives in the Curve pool, but with those incentives eliminated (for now) the DAO should seriously consider paying a market maker to provide liquidity on a variety of centralized and decentralized exchanges.

At press time, the LDO price plunged by 10% in the last 24 hours, trading at $1.90. The outlook for LDO currently looks extremely bearish as long as the price continues to move in the downtrend channel established in early March.

Ethereum LDO price
LDO price in downtrend, 1-day chart | Source: LDOUSD on TradingView.com
Featured image from iStock, chart from TradingView.com
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Jake Simmons
Jake Simmons

Jake Simmons

Jake Simmons, a dedicated crypto journalist, has been passionate about Bitcoin since 2016 when he first learned about it. Through his extensive work with NewsBTC.com and Bitcoinist.com, Jake has become a trusted voice in the crypto community, guiding newcomers and seasoned enthusiasts alike towards a deeper understanding of this dynamic field.

Read more

His mission is simple yet profound: to demystify Bitcoin and cryptocurrencies and make them accessible to everyone.
With a professional career in the Bitcoin and crypto scene that began right after graduating with a degree in Information Systems in 2017, Jake has immersed himself in the industry. Jake joined the NewsBTC Group in late 2022. His educational background provides him with the technical prowess and analytical skills necessary to dissect complex topics and present them in an understandable format. Whether you are a casual reader curious about Bitcoin or an investor seeking to navigate the latest market trends, Jake’s insights offer valuable perspectives that bridge the gap between complex technology and everyday usage.

Jake is not just a reporter on technological trends; he is a firm believer in the transformative potential of Bitcoin over traditional fiat currencies. To him, the current financial system is on the brink of chaos, propelled by unchecked government actions and flawed Keynesian economic policies. Drawing from the principles of the Austrian school of economics, Jake views Bitcoin not merely as a digital asset but as a crucial step towards rectifying a failing monetary system. His libertarian views reinforce his stance that just as the church was separated from the state, so too should money be freed from governmental control.

For Jake, Bitcoin represents more than just an investment; it's a peaceful revolution. He envisions a future where Bitcoin fosters a sustainable and responsible financial framework for generations to come. His advocacy is not about opposition but about evolution, about laying the groundwork for a system that prioritizes transparency and equity over secrecy and inequality.

As a journalist, Jake’s articles are crafted with the precision of a scholar and the passion of a true believer. He provides not only news but also thoughtful analysis that connects the dots between daily developments and larger economic theories. His work is a beacon for those lost in the technical jargon often associated with crypto discussions, illuminating the practical implications and benefits of these technologies.

In summary, Jake Simmons is not just reporting on a revolution; he wants to be part of it, fully committed to enhancing public understanding and adoption of Bitcoin and cryptocurrencies. His work is more than just a collection of articles; it’s a resource, a guide, and a companion for anyone ready to explore the potential of this digital frontier. Whether you are taking your first steps into crypto or are a veteran looking to stay on top of the latest trends, Jake’s insights provide clarity and foresight in an often unpredictable industry. Join him on this journey to reshape the world of finance, one post at a time.

You can engage with his latest takes on Twitter: @realJakeSimmons.

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Disclaimer: The information found on NewsBTC is for educational purposes only. It does not represent the opinions of NewsBTC on whether to buy, sell or hold any investments and naturally investing carries risks. You are advised to conduct your own research before making any investment decisions. Use information provided on this website entirely at your own risk.

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Reason to trust

Strict editorial policy that focuses on accuracy, relevance, and impartiality
Created by industry experts and meticulously reviewed
The highest standards in reporting and publishing
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