Ethena provides an interesting case study to watch, and it may provide insights for Uniswap, Blur, and others on balancing stakeholder incentives when activating fee switching.
Text by Kazu Umemoto, Bankless
Compiled by: Baishui, Golden Finance
Investors hoping that Donald Trump’s return to the White House will bring a clearer legal framework and a friendlier regulatory environment to cryptocurrencies are looking at DeFi tokens like UNI that may soon “flip on” their fee switches, essentially allowing token holders to start accumulating returns simply by holding the tokens.
Perhaps the hottest protocol sparking this interest is Ethena. This occasionally controversial growth monster has been making waves in the stablecoin space, with holders of its ENA token earning significant returns from stablecoin yields.
Let’s take a deeper look at what Ethena is doing and why its community is considering taking this step for ENA.
Ethena’s Opportunity
Ethena is a decentralized stablecoin project that provides synthetic dollars to DeFi and Web3 users.
While Tether and Circle back their centralized stablecoins with cash-equivalent assets like short-term Treasury bills, ensuring that each token is fully collateralized, they retain the yield on those assets, which benefits the issuer rather than the stablecoin holders. This arrangement leaves stablecoin holders with the risk of a depegging event, while the issuer profits from the yield on the underlying asset. However, Ethena is taking a new approach to seize this opportunity.
When a user mints USDe, Ethena creates a Delta neutral position to support it. Ethena does this by establishing a long position, buying tokens such as stETH, ETH, or BTC, and then matching it with a short perpetual position of the same size. This strategy helps ensure that the value of USDe remains stable.
In addition, if the futures price of ETH or BTC is higher than the spot price, Ethena's short position will charge funding fees to traders holding long positions. Although stETH has a modest yield of about 3-4%, the main source of returns is the funds generated by shorting futures.
As the crypto market heats up and bullish sentiment grows, the gap between futures and spot prices widens and funding rates rise. This means that Ethena short positions will be more profitable, which could increase value for ENA holders if the fee switch is activated.
Money Printing Machine
Tether reported a whopping $2.5 billion in net profits in the third quarter, bringing its annual total to $7.7 billion, primarily from holding Treasuries. However, USDT holders are not able to access these profits. In contrast, Ethena's model allows stablecoin holders to benefit from the yield generated, opening up new avenues of profitability for USDe and potentially ENA holders.
Through Ethena's method, they can not only obtain the returns of the pledged assets, but also obtain profits from financing and basis through their Delta hedge derivative positions. In addition, Ethena holds stablecoins such as USDC and USDS, and its USDC earns about 5% annualized returns through Coinbase, while USDS earns about 6% annualized returns through Sky (formerly Maker).
Thanks to this approach, Ethena generates around $250 million per year (based on current figures), 80% of which goes directly to sUSDe holders, who earn a competitive 12% annualized return on their stablecoins, while the remaining 20% goes to support Ethena’s reserve fund.
With sUSDe’s impressive yield, ENA holders are eager to get their hands on it. A recent forum post from the Ethena Foundation sparked a discussion about activating fee switching. The post raises important points, such as clarifying revenue amounts, the impact of fee switching on sUSDe rates, and average protocol revenue.
If ENA holders join the yield sharing, sUSDe holders’ APY may drop slightly, but still have very competitive returns compared to other stablecoins. For example, adjusting the split so that sUSDe holders receive 60% and sENA holders receive 20% would still result in a stable annualized yield of 9% for sUSDe holders, while sENA holders receive approximately 7% annualized yield, which comes from actual yield rather than token issuance.
With Ethena actively pursuing integrations to expand USDe, the growth potential for stablecoins is promising. If the fee switch is activated, sENA holders could see significant returns.
Switching Incentives
If Ethena’s ENA token holders decide to activate the fee switch, sENA holders will be allowed to receive a share of the yield from their USDe positions. ENA holders may then strive for a larger percentage of the yield, thereby reducing the amount allocated to the reserve fund or sUSDe holders.
Ethena may not be able to provide sufficient returns for sUSDe holders. This could change the risk-reward balance, reduce the attractiveness of sUSDe, and potentially drive users to alternative stablecoins.
Additionally, suppose there is a situation where the funding rate is negative, so Ethena must pay funding fees in the futures market. This will force Ethena to draw funds from its reserve fund to fund long position holders.
While the reserve fund is a safeguard and funding rates have historically been positive, the cryptocurrency market is no stranger to downturns. Due to interest rate volatility, it is uncertain how long the reserve fund will be able to sustain these payouts if negative funding rates persist in the future.
DeFi Outlook
Ethena aims to revolutionize a multi-billion dollar industry that has yet to return value to token holders. Potential fee conversions provide ENA holders with a unique opportunity for token appreciation and real income gains.
Ethena provides an interesting case study to watch, as it may provide insights for Uniswap, Blur, and others about balancing stakeholder incentives when activating fee switching. It will also be interesting to see how well the long-term interests of token holders align with Ethena’s goals, and how the Ethena team responds if ENA holders demand excessive returns.
