GHO, crvUSD... What new-generation stablecoins are worth

If there's one sector that the crisis hasn't stopped, it's stablecoins (read our 2022 benchmark). Despite the sharp fall in the markets and the gloomy economic climate, stablecoins continue to appear on a regular basis. To date, there are nearly 40 of them, with a total capitalisation flirting with the $130 billion mark 💸.

The inflation of this type of product is due in particular to economic issues. "Stablecoins generate a lot of revenue for their issuers. It's clearly one of the fastest-growing and safest crypto products in terms of business," explains Stanislas Barthélémi, crypto expert for consultancy firm KPMG.

There are several types, and the biggest are centralised stablecoins issued by companies (Tether's USDT and Circle's USDC mainly).

Volume of the largest stablecoins on exchange platforms:

But as far as decentralised versions are concerned, i.e. based on a pool of digital assets managed by a decentralised organisation, the page of the UST and the collapse of Terra-Luna seems to have been turned. And the projects are back on track!

"The DeFi players have continued to work and have developed decentralised and automated versions," notes Stanislas Barthélémi. These projects have the advantage of being less dependent on regulators, and also represent an interesting source of revenue in a very complicated market.

To date, the most relevant decentralised experience is that of the DAI (issued since 2017 by the Maker protocol, $4.7 billion in circulation). But this one should soon see the arrival of GHO, attached to the Aave decentralised borrowing protocol ecosystem.

Last month, it was decentralised exchange Curve that launched its own stablecoin, crvUSD, into orbit.

GHO, the stablecoin from Aave giant

On paper, Aave's GHO has everything going for it as it is based on Aave, the benchmark decentralised borrowing protocol ($5 billion in value tied up in June).

In a few days' time - the governance vote is currently taking place - it will be possible to borrow GHO by placing a wide variety of cryptocurrencies as collateral, probably all those available on Aave's markets (ETH, wstETH, USDC, WBTC, etc.). An automatic collateral liquidation mechanism is planned when the value of the collateral falls sharply 📉.

"Aave shines for its speed of execution, despite its decentralisation, so I think GHO could work well - at least initially - and that they will succeed in generating additional revenue and thus improve their overall profitability," believes Paul Frambot, creator of the Morpho protocol, which optimises Aave's costs.

To ensure its attractiveness, Aave has pulled out all the stops: part of the GHO's revenues will be redistributed to holders of the AAVE governance token who store in the protocol's safety mechanism (Safety Module).

"We've reached the point where the protocol's revenues now exceed its expenses. We're going to be able to redistribute value to users," explains Marc Zeller, in charge of AaveChan, a delegation platform within Aave's governance.

Until now, users have only received AAVE tokens from the DAO's reserve (yielding around 6% annually). Soon, they will earn double remuneration, which should make the protocol even more attractive 🤑.

"The launch of the GHO will in particular be a way of reducing the Safety Module's considerable AAVE subsidies," analyses Paul Frambot. According to current projections, there will be no more AAVE tokens to distribute within 18 to 24 months.

While GHO revenues will initially be paid out in the form of (logical) GHO, a proposal is being drawn up for a portion to be converted and sent in ETH. "I hope this will be the case within the next 18 months, that's really the direction we want the mechanism to take," Marc Zeller continues.

The question remains as to whether financial regulators will not perceive this remuneration system as an illegal financial security. "The SEC is bound to be very attentive in the United States," warns Stanislas Barthélémi of KPMG.

crvUSD, Curve's "anti-liquidation" stablecoin

Launched at the beginning of May, the stablecoin of decentralised exchange Curve (itself specialising in the exchange of similar digital assets, such as USDT-USDC or ETH-stETH) is beginning to be deployed, even if its capitalisation is still modest at $42 million.

"We have a lot of ambition with this project, we hope it will become the largest decentralised stablecoin on the market", wants to believe Julien Bouteloup, a member of the Curve team.

The crvUSD works in the same way as most large decentralised stablecoins, i.e. the DAI or the future GHO, with the difference that it introduces a new way of managing insolvent positions. 👀

In this model dubbed "LLAMMA", instead of liquidating a user's collateral all at once, when a certain price is reached, the protocol will gradually convert the collateral as it goes 💡. And if the prices of users' collateral assets start to rise again, which reduces the risk of the protocol losing funds, it will automatically start buying back the collateral it has sold.

This should help reduce losses for users facing liquidations and prevent large volumes of collateral being dumped on the markets simultaneously. Massive liquidations are often responsible for accelerating the fall in crypto prices 😬.

"This soft-liquidation mechanism is interesting, but I'm waiting to see how it will behave in the event of extreme volatility. It's still too early to know whether it will really be effective," temporises Stanislas Barthélémi of KPMG.

Reading between the lines, it is possible to see the launch of this stablecoin as a way of bolstering Curve's core business, in a context where Uniswap is knocking out the competition within decentralised Exchanges (read our Uniswap survey).

DEX market share over the past year:

"The crvUSD's take-off could be hampered by the general trend in Curve, which has been losing ground somewhat in recent months," notes Stanislas Barthélémi.

The crvUSD will also face a scalability challenge, as for the time being only sfrxETH (ether staked on the Frax protocol) and wstETH (ether staked in the Lido protocol and placed in an Ethereum contract) can be used to create stablecoins.

This low diversity can be explained by the very recent nature of this new product, which still raises a few questions. This should evolve.

"The main challenges are to increase liquidity and refine the various asset pools (pure and decentralised USD, volatile assets such as liquid ETH, etc.) in order to guarantee parity and provide the most reliable dollar stablecoin in the DeFi," insists Julien Bouteloup.

A vote is currently underway to pay back part of the revenue generated by stablecoin borrowing to holders of the CRV governance tokens. Although each situation is unique, it is not at all out of the question that this protocol too could attract the attention of regulators, who could, here too, reclassify Curve as a "financial security"...

What are the regulatory risks hanging over these stablecoins?

Despite their decentralised nature (no company is in charge of issuing them), both projects may need licences to operate legally.

"With the European MiCA regulation to be applied within 18 months, there is a strong risk that these stablecoins will be considered e-money tokens insofar as they are denominated in legal tender," fears William O'Rorke, partner at law firm ORWL, which specialises in disruptive technology law. "The issuer would have to obtain e-money status to access the EU market," he notes.

This poses a problem, as the issuers in question are decentralised autonomous organisations (DAOs), and this type of structure does not yet have a clear legal status.

If Aave or Curve decided not to comply, they would have to stop addressing users directly by thus becoming a "real" protocol (no direct access from their site, etc.In addition, GHO and crvUSD may already be considered financial instruments under European law. "Based on the Autorité des marchés financiers' extensive qualification method, as soon as there is a financial flow from the issuer/entity linked to the issuer to the holder of the token, then we can consider that a token can be qualified as a security," says William O'Rorke.

And on the US side, it's not necessarily any simpler. Far from it! "The SEC may have to consider that crvUSD and GHO meet the necessary criteria to qualify as financial securities within the meaning of US federal regulations," points out Morgane Fournel-Reicher, a lawyer for Kramer-Levin specialising in US digital asset law.

The sticking point is mainly the fact that the two stablecoins will redistribute part of their income to the holders of the AAVE and CRV governance tokens. Generally speaking, this type of mechanism almost automatically places crypto projects in the "financial security" box, forcing them to register as such with all the constraints that this entails (cost, centralisation, etc.)

"To achieve this, the US regulator can rely on the Howey Test and determine whether holding the tokens alone allows income or interest to be received," continues Morgane Fournel-Reicher. "But there is also the 1990 Reves vs Ernst & Young case law, particularly with regard to decentralised lending mechanisms", she points out.

"In both hypotheses, the fact that the devices are deployed programmatically and that the services are not rendered by a centralised counterparty will probably not be enough to rule out a regulatory risk", fears the lawyer.

Although nothing is certain, a major regulatory battle awaits both projects.

"Our perception is that staking AAVE in the Safety Module constitutes work, because people are participating in the security of the protocol, it is not a passive return," believes Marc Zeller. "Some people consider this strategy risky, but as we are not Americans we think we can do it," he continues.

"One of our main challenges for crvUSD will be to tackle the FUD propagated by multiple centralised institutions that don't like competition from Europe," warns Julien Bouteloup.

It remains to be seen how all this will be perceived by regulators...

What positioning against DAI?

The near-simultaneous arrival of these two stablecoins coincides with the need to boost the revenues and appeal of DeFi's two star applications. Nevertheless, their success is by no means guaranteed, as this type of project is technically and economically difficult to sustain.

"Developing a stablecoin is very complicated, especially when it's not your only activity. I think you have to be focused on it if you want to do it right," says Morpho's Paul Frambot.

Although the Aave and Curve stablecoins are important in the development of the two protocols, they remain secondary projects.

"I think the best approach is that of Maker, which launched a lending marketplace (Spark, ed.) at the beginning of May and whose main aim is to encourage the adoption of its DAI stablecoin," he continues. "Launching a stablecoin as a side project is a bit like doing things by halves," huffs another sector specialist.

especially as a good decentralised stablecoin finds its value in its resilience...

DAI largely dominates the decentralised stablecoin market :

Aave's GHO will be sensitive to censorship "especially if its collateral consists of centralised assets such as the USDC or, more generally, real-world assets", notes Stanislas Barthélémi. As far as Maker is concerned, the USDC currently accounts for less than 20% of the DAI's collateral.

On crvUSD, "the arbitrage mechanisms that enable crvUSD stability to be maintained - for the GHO I think they are going to launch without a price stability module - cannot withstand mechanisms such as the USDC's depeg autonomously and without any intervention from governance", explains Pablo Veyrat, creator of the Angle protocol, issuer of the decentralised stablecoin agEUR.

Then there remains the question of the revenues generated by GHO and crvUSD borrowing. "Neither will be able to beat the centralised stablecoins on this point," warns Paul Frambot.

The giant Tether has said it has recorded profits of $1.4 billion in the first quarter of 2023 alone thanks to the exploding yield on US Treasuries (around 5% annually).

Decentralised stablecoins suffer from a clear lack of return on tied-up capital. As their reserve has to be over-collateralised due to the volatility of their collateral, part of it cannot be used to provide a return 🙃.

"Trying to do everything at once - global lending and stablecoin - runs the risk of ending up with an average product that will struggle to compete with specialised solutions such as DAI," warns Paul Frambot. Only the competition, and the months ahead, will tell.