[Gauntlet] Ethereum v3 USDC - Risk Recommendations (1/31/24)

Proposals
1

Simple Summary

Gauntlet recommends the following risk parameter update for the Ethereum v3 USDC comet:

  • Increase COMP Liquidation Penalty from 12% to 25%

Analysis

Screen Shot 2024-01-25 at 6.22.39 PM
Screen Shot 2024-01-25 at 6.22.39 PM3380×1712 158 KB

As seen in our risk dashboard, the COMP supply cap of 900k (~$48M) has been fully utilized at 100% for the past two months.

Screen Shot 2024-01-25 at 5.18.48 PM (1)
Screen Shot 2024-01-25 at 5.18.48 PM (1)3800×1048 240 KB

The largest COMP supplier in Ethereum v3 USDC supplies $21.3M, borrows $7M USDC, resulting in a borrow usage of 47%. At present, swapping $250k COMP for USDC on DEXs incurs 6% slippage.

We will demonstrate the absorption scenarios of the large COMP supplier, assuming a ~53% COMP price crash to $10M, making this position liquidatable. These scenarios are outlined under both the current COMP Liquidation Penalty of 12% and the proposed increase to 25%:

Outcome Current COMP LP of 12% Recommended COMP LP of 25%
COMP Absorbed by Compound $10M $10M
USDC Owed to Borrower (after liquidation penalty) $10M × (1 - 12%) = $8.8M $10M × (1 - 25%) = $7.5M
USDC Previously Borrowed $7M $7M
Additional USDC Paid by Compound $1.8M $0.5M
Break-even COMP Sale Price for Compound $8.8M $7.5M
Post-absorption COMP Price Drop to cause insolvency 5.17% 11.8%

With the current 12% COMP Liquidation Penalty, liquidators would need to buy the $10M COMP before its price drops by an additional 5.17%, to prevent protocol insolvency. At present, swapping $250k COMP for USDC on DEXs incurs about 6% slippage. While Mainnet facilitates access to CEX liquidity for liquidators, the limited DEX liquidity compared to the supply cap and the size of this large COMP supplier’s position leads us to recommend increasing the COMP Liquidation Penalty to 25%, which would allow for an 11.8% post-absorption drop buffer. This increase aims to mitigate risk in case this position is absorbed. Additionally, a decrease in COMP supply due to this increased penalty would be beneficial given the liquidity risk.

3 Likes
Gauntlet Monthly Updates 2024
2

On-chain proposal has been published and is now live for voting here.

3

It seems to me that penalty of 25% is well beyond reasonable, even while it looks better for protocol. While i do understand the reasoning, but can hardly agree with such solution.

Should we remind that for all the existence of COMP protocol barely lifted a finger to do anything at all to address liquidity of it’s own tokens on dexes. While it is supposedly largest asset protocol owns. But neither any sorrt of liquidity incentivesation program was ever introduced nor protocol-owned liquidity was provided to dexes to ensure longterm value and existence of deep liquidity on-chain. Even sushiswap at some point did more for onchain COMP liquidity then Compound itself.

Should i say that there is no other player, than the issuer of token who is actually responsible for liquidity of such asset be it on chain or off chain? So if the on-chain liquidity of COMP is low there is nobody else other than Compound protocol to be responsible. And since protocol is and always was de-facto controlled by major token holders it’s fair to ask why is it so, that on-chain liquidity of protocol-issued token and pretty much sole treasury holding of protocol so low that just 10M trade produces such an impact on price? And that is when protocol holds about 1.8M of COMP tokens really doing nothing aside of creating a risk to loose substantial treasury value in case of price collapse? And all due to the fact that treasury is doing nothing to either support or provide on-chain liquidity?