Crypto companies continue showing us the many different dangers the CeFi and DeFi protocols can hide, and this week’s most remarkable demonstration is courtesy of Celsius, American crypto lending firm that halted all clients’ withdrawals and transfers yesterday 💣
Celsuis is (was?) offering 5 –18% APY (annual percentage yield) on deposited crypto and allowing users get a crypto-backed loan at 0.1-1.95% interest rate. With such difference it is clear that the majority of its profits came from operations on the crypto market, making Celsius more like an asset manager than a bank.
💰 The operations that Celsuis undertook included using the Lido DeFi protocol to stake over two-thirds of its 1 million ETH holdings at ETH2.0, a Proof-of-Stake chain that is set to merge with Ethereum mainnet this year. Staking crypto on PoS blockchains secures their functioning and is rewarded with coin issuance and transaction fees; in case of ETH2.0, its maximum APR is of 5%.
🔒 Ethereum staking, however, locks the coins for a long period of time, which naturally creates liquidity problems both for Celsuis and its clients. To ward off this problem Lido is offering a liquid staking service: for every staked ETH it gives an stETH, which acts like an IOU and allows its holders trade (and otherwise use) their staked ethers without actually removing them from ETH2.0.
1 stETH should normally be worth 1 ETH at all times… except if there were an imbalance on the market, e.g. due to a massive sell-out of stETH.
💸 These past few weeks Celsius saw an increase in ETH withdrawals, which forced it to sell more and more stETH, which ended up losing its parity with ETH and dropping to 0.94ETH. Here another danger may appear, as Celsius is known to have taken a stablecoin loans at DeFi lenders Aave and Compound Labs, locking its stETH as a collateral. If stETH price keeps dropping, this collateral is at risk of being partially (or totally) sold out, making the situation even worse. So, at that point Celsius decided to halt all withdrawals.
Celsius is used by 1.7 million people all over the world, and these people are not happy 🤐
However, Celsius is a CeFi and not DeFi, meaning it is the company that has the last word on over $11 billion of people’s assets, and we’ll soon see if the measures they take (like sending millions in crypto to exchanges to save their open positions from liquidation) are successful.
Finance is a domain where people like to play stacking bricks: you take an asset and build a derivative on it, and then another derivative on the top of the previous one, and then you take a loan using the last derivative as a collateral… and so on, and so forth. Crypto being an asset like any other, all sorts of financial constructions emerge, further facilitated by the open nature of the blockchain.
Hard times like now show which constructions had a cracked foundation.