Translation: Plain Language Blockchain
Ethena (ENA), as a rising star in the decentralized finance (DeFi) space, leverages blockchain technology to provide innovative financial solutions. The platform aims to enhance the functionality and scalability of financial transactions without relying on traditional banking systems. One of Ethena's core products is USDe, a synthetic dollar that provides stability to the digital financial ecosystem and facilitates integration.
1) Features of USDe
USDe is pegged 1:1 to the US dollar, aiming to maintain value stability in the volatile crypto market. This pegging mechanism is particularly important for users who need a reliable medium of exchange or stable value storage, effectively hedging against common price volatility risks in the cryptocurrency market.
1) What is Ethena?
Ethena is a DeFi protocol developed on the Ethereum blockchain, focused on creating a synthetic dollar called USDe. The platform aims to provide a stable, scalable, and censorship-resistant digital currency that does not rely on traditional banking infrastructure. By employing a Delta hedging strategy based on Ethereum collateral, Ethena ensures the stability and security of USDe, making it an ideal choice for global transactions and savings.
2) Financial Support
Ethena has received strong support from several well-known individuals and institutions in the cryptocurrency and finance sectors. The startup raised $6 million in a seed round led by the well-known venture capital firm Dragonfly, which focuses on the crypto space. Additionally, BitMEX founder Arthur Hayes and his family office Maelstrom also participated in the investment. Other major supporters include well-known crypto derivatives exchanges like Deribit, Bybit, OKX, Gemini, and Huobi.
3) ENA - Ethena's Native Token
ENA is the native utility token of the Ethena protocol and plays a crucial role in the Ethena ecosystem. Users holding ENA can participate in protocol governance, voting on key decisions regarding risk management frameworks, the composition of assets supporting USDe, and potential partners or integration schemes. Moreover, ENA helps maintain the stability and functionality of USDe through various incentive mechanisms within the platform, forming a key link in the operation of the entire ecosystem.
4) What is Ethena's Synthetic Dollar USDe?
USDe is a synthetic dollar issued by Ethena, designed to provide a stable and scalable digital currency pegged to the value of the US dollar. The design goal of USDe is to become a decentralized, crypto-native dollar that does not rely on traditional financial infrastructure. Its stability is achieved through a combination of Delta hedging and a mint-redeem arbitrage mechanism. These features ensure that USDe can serve as a reliable medium of exchange and store of value in the crypto market, supporting seamless and efficient transactions in the DeFi space.
2) How Does the Ethena Protocol Work?
How Ethena's Internet Bond Works | Source: Ethena Labs' Gitbook
1) Core Philosophy of Ethena
Ethena utilizes the Ethereum blockchain framework to create a stable, scalable, and censorship-resistant digital currency known as the 'Internet Bond.' The platform maintains currency stability while providing yield opportunities through an innovative Delta hedging strategy.
2) Minting USDe
On the Ethena platform, users can use Ethereum or its staked derivatives as collateral to mint USDe. The system automatically establishes a Delta neutral position to stabilize the value of USDe against fluctuations in the collateral asset. This process involves opening a short position in the derivatives market equivalent to the value of the collateralized Ethereum, ensuring that the price fluctuations of the underlying asset are offset by the gains or losses of the derivatives position.
3) Stability of the Delta Neutral Mechanism
The core stability mechanism of USDe is the Delta hedging strategy. This strategy builds hedge positions equivalent to the Ethereum collateral in the derivatives market to guard against price fluctuations in the crypto market. This design aims to maintain the stable peg of the synthetic dollar USDe to the US dollar. The adjustment of hedge positions is fully automated and can respond to market changes in real time, ensuring stability.
4) Revenue Generation
USDe is not only a stable currency but also offers yield opportunities for holders. The sources of returns mainly include:
Staking rewards generated from Ethereum used as collateral;
Funding rates and basis returns in Delta hedging activities.
This dual yield model makes USDe similar to traditional bonds, becoming an investment that can accumulate value over time, referred to as the 'Internet Bond.'
5) Risk Mitigation
Although Ethena is committed to building a stable and secure platform, it also recognizes the inherent risks in DeFi protocols, including smart contract risks, liquidity risks, and risks associated with external platforms. To mitigate these risks, Ethena employs diversified hedging strategies, uses multiple custodial solutions, and ensures the transparency and verifiability of all transactions and positions through blockchain technology.
3) Operational Mechanism of Ethena
The following is a specific example illustrating the process of obtaining USDe (synthetic dollar) through staking Ethereum (stETH):
1) User Operations
Depositing stETH: Users deposit stETH worth $100 into the Ethena system (representing Ethereum that has been staked and can earn staking rewards).
Receiving USDe: In return, users receive an equivalent amount of USDe, approximately 100 USDe (minus any applicable transaction fees). This is based on a 1:1 US dollar pegged exchange rate.
2) Operations of Ethena Labs
Opening Short Positions: After users deposit stETH, Ethena Labs opens a short perpetual contract position at a derivatives exchange equivalent to the value of the stETH. This is part of Ethena's Delta hedging strategy to stabilize the value of USDe.
OTC Settlement: The stETH deposited by users is managed through an 'OTC settlement' system. This mechanism ensures that users' stETH is securely stored outside the exchange, reducing counterparty risk from exchange hacks or bankruptcies.
4) Revenue Distribution
The staking rewards generated from users' stETH are collected by Ethena, and the platform converts these earnings into more USDe and returns them to users. This revenue distribution model provides users with stable returns, enhancing the appeal of USDe as a yield investment tool.
5) Key Points Summary
Stability: Through Delta hedging strategies (balancing positions of stETH collateral in the derivatives market), Ethena effectively reduces the volatility risks of collateral assets, ensuring the stability of USDe's peg to the US dollar.
Security and Risk Management: By managing assets through an OTC settlement mechanism, external threats to user deposits are reduced, providing a safer environment for investors.
Revenue Generation: Converting staking rewards into USDe provides users with predictable and stable returns, making USDe an ideal passive income tool.
4. Use Cases of USDe
USDe is mainly used for trade, remittances, and as a stable medium of exchange, simplifying and securing cross-border transactions without the need for traditional financial intermediaries. This makes it an ideal choice for businesses and individuals looking for efficient, low-cost solutions in international trade.
1) USDe as a Medium of Exchange
Ethena's USDe is a stable medium of exchange that can be used for various financial transactions and avoids the volatility typically associated with other cryptocurrencies. This stability makes USDe particularly suitable for daily transactions, trading activities, and cross-border payments, especially in scenarios where exchange rate stability is crucial.
2) Savings and Investment Tool
Known as the 'Internet Bond,' USDe is not only a medium of exchange but also a savings tool. By generating returns through staking and hedging operations, USDe offers users investment opportunities similar to traditional bonds, but operates within the DeFi market. This feature attracts investors looking to earn passive income while maintaining stable asset liquidity.
3) DeFi Use Cases
USDe is crucial in DeFi applications including lending, borrowing, and yield farming. Its stability and deep integration with the Ethereum blockchain make it usable as collateral for loans or as a liquidity asset in decentralized exchanges (DEXs). This versatility broadens its applications in the DeFi ecosystem, promoting safer and more efficient financial services.
4) Hedging and Risk Management
USDe can also be used as a hedging tool against cryptocurrency market volatility. In uncertain or adverse market conditions, traders and investors can convert volatile assets into USDe, protecting their investments from significant fluctuations, reducing potential losses while retaining the opportunity to quickly enter the market and prepare for future investments.
5) Promoting Cryptocurrency Adoption
By providing a stable, scalable, and censorship-resistant form of currency, USDe supports broader cryptocurrency adoption. It addresses common barriers to cryptocurrency use, such as volatility and complexity, enabling new users to enter the crypto market more confidently. The stability of USDe ensures that users can seamlessly transition to a crypto-based financial system without worrying about the direct risks posed by other more volatile cryptocurrencies.
6) Future Outlook
The potential applications of USDe are vast. As the DeFi space continues to evolve, USDe is expected to play a significant role in decentralized lending, yield farming, and more complex financial tools. This could have a profound impact on the entire cryptocurrency market, driving broader adoption of crypto-based financial solutions by providing more stability and reliability.
7) Integration into Major DeFi Protocols
Ethena's USDe has been integrated into major DeFi protocols such as MakerDAO, Frax, Curve Finance, and Aave, highlighting its growing significance and the potential to reshape financial interactions globally.
5) Comparison of USDe with Other Stablecoins
Exploring the comparison between other stablecoins and USDe | Source: Ethena Labs' Gitbook
USDe is one of hundreds of stablecoins in the crypto market, pegged to real-world assets (in this case, the US dollar). As a crypto-based synthetic dollar protocol, USDe differs from other stablecoins on the market in the following ways:
1) Stability Mechanism
USDe: Maintains its peg to the US dollar by utilizing a delta hedging mechanism with Ethereum derivatives to offset the volatility of its collateral. This approach ensures the stability of USDe even during significant market fluctuations.
Traditional stablecoins (such as USDT, USDC): They typically rely on fiat reserves to maintain their peg, meaning their stability depends on the sufficiency of reserves and the financial health of the reserve custodian.
2) Decentralization
USDe: Operates on a decentralized platform, with no single entity controlling its issuance or redemption processes, which helps to enhance security and reduce the likelihood of censorship or intervention.
Other DeFi stablecoins (such as DAI): DAI also operates on a decentralized framework but uses an over-collateralization mechanism involving a combination of other cryptocurrencies, which may introduce different risks and dependencies.
3) Revenue Generation
USDe: Provides intrinsic returns through its 'Internet Bond,' with earnings sourced from Ethereum staking and derivatives market spreads. This unique feature allows users holding USDe to directly earn returns.
Other Stablecoins: Most traditional stablecoins do not directly provide returns; users need to obtain returns through external means, such as lending platforms or DeFi yield farms.
4) Scalability and Efficiency
USDe: Leveraging the Ethereum network, it utilizes existing DeFi protocols and infrastructure to achieve high scalability and efficiency, facilitating broader adoption and multi-platform integration.
Other Stablecoins: Although traditional stablecoins also possess certain scalability, they are typically constrained by the reserve management of traditional banking systems, making them slower to adapt to new blockchain technologies.
5) Risks and Transparency
USDe: Provides highly transparent on-chain transaction and position records. However, the complexity of its delta hedging strategy and potential risks arising from derivatives market fluctuations require attention.
Other Stablecoins: Traditional stablecoins typically face risks such as counterparty risk, reserve audit transparency issues, and potential regulatory challenges. However, their operational mechanisms are relatively simple, which may lead some users to perceive lower risks.
6) Potential Risks and Challenges of Ethena and USDe
Before participating in the Ethena ecosystem, it is important to understand the potential risks and challenges involved:
1) Regulatory Challenges
Ethena faces regulatory scrutiny similar to many DeFi projects, particularly regarding the issuance of synthetic stablecoins like USDe, which may vary due to differing regulatory frameworks across jurisdictions. The current regulatory environment is evolving, and new rules may impact stablecoins and their operations. Mitigation measures: Ethena actively communicates with regulatory bodies and seeks legal compliance in all operational regions, including strict KYC and AML reviews for users, especially those minting and redeeming USDe.
2) Market Acceptance
The popularity of USDe depends on user acceptance and its integration into mainstream DeFi platforms. Market acceptance may be slow, particularly when users are cautious about new technologies or face competition from established stablecoins. Mitigation measures: Ethena promotes the adoption of USDe by establishing strategic partnerships with key DeFi protocols in the crypto ecosystem and offering incentives to early adopters. Additionally, by providing educational outreach and transparent operational communication, user confidence in the advantages and operational mechanisms of USDe can be enhanced.
3) Technical Challenges
Ethena's core technology (especially the delta hedging mechanism used to stabilize USDe) is complex and may present technical issues or vulnerabilities. The implementation of such complex mechanisms carries inherent risks, including smart contract vulnerabilities. Mitigation measures: Ethena reduces risks by conducting extensive testing and commissioning well-known third-party security firms to audit its smart contracts, while continuously monitoring and updating its protocol infrastructure to ensure its technical safeguards against potential vulnerabilities.
4) Liquidity and Volatility Risks
Like any financial instrument, the risk of liquidity constraints, especially during market pressures or rapid shifts in investor sentiment, must be considered. Additionally, while USDe aims to maintain stability, its underlying collateral (ETH and its derivatives) has high volatility. Mitigation measures: Ethena addresses liquidity issues by maintaining reserve funds and establishing deep liquidity pools across multiple exchanges. For volatility, the protocol strictly implements neutral hedging strategies to ensure the synthetic dollar remains pegged despite fluctuations in the underlying assets.
5) Dependence on Ethereum
As a protocol built on the Ethereum blockchain, Ethena's operation is influenced by Ethereum's scalability and gas fees, which may affect transaction costs and speed. Mitigation measures: Ethena plans to utilize Ethereum's Layer 2 solutions and may consider cross-chain integration to reduce high transaction fees and improve scalability. This not only improves efficiency but also broadens the protocol's accessibility and user base.
6) Counterparty Risks
Maintaining the stability of USDe through derivatives and other financial instruments means the protocol is exposed to counterparty risks, especially in decentralized environments where counterparties may not be entirely reliable or transparent. Mitigation measures: Ethena chooses reputable and reliable trading platforms and derivatives partners, ensuring that all positions are over-collateralized while maintaining transparency in hedging activities.
7) Conclusion
Ethena and its USDe stablecoin demonstrate a significant innovation in the decentralized finance space. By utilizing Ethereum's robust and secure infrastructure, Ethena offers a crypto-native, stable, and scalable digital dollar that not only frees itself from reliance on traditional banking systems but also introduces a yield-generating asset in the form of an 'Internet Bond.'
USDe employs advanced Delta hedging strategies to maintain its stability, distinguishing it from traditional stablecoins and providing users with a reliable store of value while actively generating returns. This innovative approach addresses the volatility issues typically associated with cryptocurrencies, making USDe a viable solution for everyday transactions, savings, and financial planning in decentralized environments.
With the continued evolution of the DeFi space, Ethena's commitment to transparency, security, and user-centered innovation may play a crucial role in shaping its trajectory. While its ability to secure a place in the fast-growing digital finance sector remains to be seen, its potential to redefine the views and applications of stablecoins and synthetic assets within the DeFi ecosystem is indisputable. The ongoing development, adoption, and integration of Ethena and USDe may bring a new standard of stability and functionality to the cryptocurrency market.
