Aave has launched a Lido Staked Ethereum, or stETH, earn strategy through Oasis.app, the frontend for borrowing DAI, MakerDAO’s stablecoin.
The new strategy will allow users to borrow Ethereum, or ETH, against their stETH. It’s always been possible to do that by first depositing ETH and borrowing stETH from the Lido protocol, then going to another platform, like Aave, to loan stETH in exchange for ETH again. But Oasis will allow users with ETH to enter into the recursive strategy in a single transaction by using the Aave protocol, according to a release.
Aave is the fourth largest decentralized finance (DeFi) platform, accounting for $5 billion worth of total value locked across several lending protocols on Monday, according to DeFi Llama. Of that, $3.6 billion worth of the assets on the Aave platform are in Ethereum.
The recursive stETH/ETH trading strategy introduces more risk than just staking or lending alone.
In May, when markets took a big swing on the news that the Terra network had been halted twice following its algorithmic stablecoin going to zero, Lido warned traders that they were at an increased risk of having their collateral liquidated.
But Aave says that the risk of that happening has been reduced after the merge, which switched the Ethereum network from proof of work to proof of stake on September 14.
Aave founder and CEO Stani Kulechov told Decrypt during a recent podcast interview that the risks will drop even more after the Ethereum core developers implement the Shanghai upgrade, which will make it so that staked ETH can be unstaked. Right now, staked ETH can’t be withdrawn.
“But at the same time, when you are composing things, you’re always adding risk. So that’s something that needs to be acknowledged,” Kulechov said. “And I think that’s something that is missing at the moment is how do you distinguish and how do you understand the compounding risks involved.”
The Aave community was closely watching its ETH liquidity ahead of the merge. On September 2, a proposal passed to pause ETH borrowing to guard against “high utilization” of the platform’s lending pool, which could have caused rates to spike.
If interest rates had spiked, that could have caused another liquidity crunch like the one in May.
“High utilization interferes with liquidation transactions, thus increasing the chances of insolvency for the protocol,” the proposal said. “In addition, a high ETH borrow rate can make stETH/ETH recursive positions unprofitable, increasing the chances that users unwind their positions and drive the stETH/ETH price deviation further, causing additional liquidations and insolvency.”