Crazy 6.18 Ethereum starts "discount" mode

No one expected that during the 6.18 period, Crypto's second-in-command also started the "discount" mode.

On June 8, according to Curve Whale Watching, a whale address exchanged 18,398 stETH for 17,924 ETH (worth US$42.7 million). Later, it was revealed that Alamedal, one of the seven major institutional holders of stETH, sold nearly 50,000 stETH. Subsequently, the ETH/stETH liquidity pool on Curve continued to tilt. By June 10, the proportion of stETH reached a historical record of 80%, which seriously affected the exchange ratio of stETH to ETH. The value of stETH, which was originally 1:1 with ETH, was decoupled from ETH to a minimum of 0.92ETH.

In other words, you can now buy an ETH certificate of deposit at a 10% discount.

It seems profitable, but no one is paying for it. This price decoupling reminds people of Luna a month ago. Are people worried that stETH will trigger another Luna-style tragedy? And what is the relationship between Celsius, Lido, and stEth? What is the logic behind stEth's collapse of ETH?

Lido and stETH

Lido is a node staking service provider. The largest part of its business is the node staking service on the Ethereum beacon chain. Currently, the amount of Ethereum staked through Lido is 4.22 million, accounting for 32.8% of the ETH on the entire beacon chain. It is the absolute leader among the current staking service providers.

According to Lido's staking rules, users can stake any amount of ETH, and will receive 1:1 stETH after staking. They will also receive a staking reward 24 hours after the deposit, which is also issued in the form of stETH.

Through staking service providers such as Lido, not only can the liquidity of the staked ETH be released, but the income can also be directly discounted. This is why, although the Ethereum Foundation has a staking income of 4.3%, users tend to choose Lido, which only has a 4% income, for staking, because the opportunity cost of their funds is reduced to almost 0. In any financial industry, funds are always looking for the highest liquidity.

The current amount of staked ETH on Lido and the market value of stETH

stETH decoupling and the logic behind ETH’s decline

We can simply understand why the price of stETH is decoupled from ETH and how stETH drives the price of ETH down in the following way:

For example, we can regard stETH as a certificate of deposit with a face value of 1ETH and a period of 6 months, which can be exchanged for ETH at a 1:1 ratio after 6 months. But now, with the bear market environment and the shortage of institutional and personal liquidity, everyone wants to sell stETH certificates of deposit in advance in exchange for more liquid checks - ETH. Especially when institutional certificate holders withdraw, such as Celsius, there will be a huge selling pressure on stETH certificates of deposit. The imbalance between supply and demand causes the price of stETH to deviate. Previously, one certificate of deposit could be exchanged for a check of equal value, but now the check is 9.2% off.

Furthermore, when everyone feels that the check is not very reliable and will depreciate in the future, they will exchange the check for cash. Under the heavy pressure, the amount of cash that can be exchanged for the check will also decrease, which will further aggravate the fear of stETH holders and trigger a new round of selling, forming a death spiral similar to Luna.

However, stETH is fundamentally different from Luna. Luna's death spiral stems from the double superposition of arbitrage loopholes and emotional panic, while the decline of stETH is mainly due to the lack of liquidity in the short-term market. The difference is that the collateral behind stETH is safe. After the Ethereum merger is completed and the transfer is enabled, stETH can still be exchanged with ETH at equal value.

“The stETH:ETH exchange rate does not reflect the underlying backing of your staked ETH, but rather reflects fluctuations in secondary market prices,” Lido said on Twitter. “The market will naturally find a fair price for stETH as some participants need to find liquidity.”

Therefore, it is difficult for stETH to trigger a free fall like Luna, but before the repayment crisis of Celsius is completely resolved, it is not easy for stETH to return to its anchor value. If we want to describe the stETH incident in one sentence, it is: this is a risk-averse behavior caused by a liquidity crisis under market pessimism.

At this time, some hunters with a keen sense of smell may ask such a question: Will there be room for Luna-style arbitrage in the stETH incident? If you adhere to the currency-based thinking, the stETH depegging event may not be all bad, but there is no arbitrage condition in the Luna crisis.

If we look at the entire exchange rate relationship of stETH:ETH, we will find that most of them are below 1. This is because the so-called arbitrage space will only appear when the price is higher than 1:1. For example, if stETH can be traded at a price of 1.1 ETH, then the trader will use 1 ETH to mint 1 stETH, and then sell 1 stETH at a price of 1.1ETH. In this way, the trader can make repeated profits, and the price will eventually return to normal.

stETH: ETH volatility table Data source: coingecko

But when stETH is lower than 1ETH, it is completely different. According to the previous logic, if the current value of 1stETH is 0.95ETH, then users can use 0.95ETH to purchase 1stETH in the market, and then redeem 1stETH for 1ETH, making a profit and eventually eliminating the price difference, but the key lies in the word redemption. Because the Ethereum merger has not yet been launched, stETH cannot be redeemed and can only be traded in the secondary market. Only after the merger and the transfer on ETH2 are enabled can any ETH liquid pledged assets be redeemed. Therefore, even if stETH cannot return to its normal value now, the price difference will be eliminated by arbitrageurs after the merger occurs.

A large part of the panic over stETH comes from Celsius, a lending platform that holds 400,000 stETH.

Another protagonist Celsius

It is one of Lido's main customers and one of the largest stETH holders. In October 2021, Celsius raised $400 million at a valuation of $3 billion. The lead investor was CDPQ, Canada's second largest pension fund with 1.7 million users. Even with such a highlight moment, Celsius is now being condemned by everyone.

As a CeFi platform, Celsius’s investments are mostly undisclosed. Celsius first promised a very high interest rate through lending the protocol, and then gathered a large amount of on-chain assets. In order to pay the high interest, Celsius will further invest user assets, such as investing in AAVE, compound, Lido and other platforms, and it was even revealed that it was engaged in revolving loan operations. Celsius’ largest asset is ETH, most of which is pledged on Lido in exchange for a large amount of stETH.

According to an analysis of the Celsius wallet by Larry Cermak, vice president of research at The Block, the Celsius wallet holds at least 409,000 stETH, accounting for nearly 10% of the total stETH. Former Messari analyst Riley also said before that "Celsius is the largest holder of stETH (stETH on Aave)".

According to Celsius wallet data, stETH accounts for nearly 30% of its total assets, and most of the assets are distributed on the two lending platforms AAVE and Compound, and Celsius looks more like a middleman. In addition, according to @SmallCapScience data, Celsius holds nearly $1.5 billion in stETH, but owes about $1.2 billion to its customers. If stETH continues to fall, Celsius will not be able to honor customer redemptions.

On June 12, Celsius urgently announced to "suspend all withdrawals from its lending platform" due to "extreme market conditions and the need to stabilize liquidity." The Celsius liquidity crisis has already erupted. Within a few hours of the announcement, Celsius' native Token CEL plummeted by nearly 70% in an hour. Many users also left messages under the announcement, saying that this was a fraud, and some even joked, "Not your keys, not your crypto."

As of June 17, Celsius’ withdrawal ban has not been lifted, and the crisis of stETH still exists. What’s more interesting is that some users have revealed that there are many unfair terms in its user agreement, such as: the assets on the platform are owned, held and/or controlled by Celsius. Such terms may not attract much attention in a bull market, but in such a crisis, every detail may become the last straw that breaks the camel’s back.

Today, the platform, which has only 1 billion US dollars in assets left, has come to a dilemma. One option is to choose to sell stETH at a discount in exchange for ETH for users to withdraw, but the current liquidity on DEX is obviously not enough for Celsius's size; or to pledge assets for lending, but in a bear market, liquidation will happen at any time, and Celsius has few assets left to use.

On June 15, Celsius hired restructuring lawyers from the law firm Akin Gump Strauss Hauer & Feld LLP to seek help for its current financial problems. To make matters worse, according to Reuters, officials from five states in the United States, including Texas and Washington, have listed the Celsius incident as a "priority investigation item." Celsius is on the verge of death.

Looking at the entire Crypto industry, liquidity often determines the life and death of a project. After the liquidity of a financial asset is infinitely released, its risk will also be infinitely magnified. This was the case with Luna and stETH.

When everyone is enjoying the high returns brought by high liquidity, they also need to be prepared to face high risks. The extreme release of this liquidity is like a piece of steel wire that is constantly being pulled up. Before it breaks, it can extend to many fields, connect many scenarios, and bring unprecedented prosperity. But once it breaks, it will trigger a collective liquidity shortage and chain crisis. In the rapid development of DeFi in the past two years, the risks brought by this invisible leverage have been ignored by everyone.

Perhaps Crypto is revolutionizing many financial scenarios, but the relationship between return and risk will not change because of technology and model, whether it is web2 or web3, whether it is evolving from CeFi to DeFi, whether it is traditional finance or the digital age.

After Celsius, the three arrows are now in an unprecedented liquidity crisis, and Crypto is entering a cold winter...