Executive Summary
- The synthetic dollar protocol Ethena aims to provide high real yields on dollar-denominated assets
- Ethena uses a delta-neutral strategy to maintain the stability of its synthetic stablecoin USDe
- During its short existence, Ethena has faced controversy, including the recent tokenomics modification
- Despite its challenges, Ethena's USDe and ENA are compelling investments
- ENA's unlocks are scheduled to start in early April 2025, creating a 9-month window of opportunity
Following its 20.5 million US dollar funding rounds, Ethena has been receiving a lot of attention in 2024, and many consider it to be one of the significant launches this year.
Ethena's history dates back to 23rd June of 2015, when Arthur Hayes, the co-founder of BitMEX, published his synthetic dollar concept. In the proposal, Hayes described a synthetic USD that uses bitcoin and BitMEX futures contracts.
The said approach allows users to create a synthetic USD that is independent of traditional financial infrastructure and government control, by leveraging cryptocurrency derivatives. The Ethena protocol has later implemented this concept, however the protocol uses ether instead of proposed bitcoin as the underlying asset.
Synthetic Dollar USDe
Ethena's synthetic dollar USDe is designed to be a decentralized, crypto-native digital currency that mirrors the value of the US dollar. However, it is not backed by real-world dollars, but rather by ethereum-based collateral.
USDe is collateralized by a basket of crypto assets including ETH, stETH, BTC, and USDT. It uses delta-hedging mechanisms to manage the risk associated with the fluctuating value of the backing assets. This involves taking short positions in the collateral assets on derivatives exchanges to maintain USDe's peg to the dollar.
Source: Ethena Labs
The supply of USDe has grown rapidly, reaching over $3.6 billion by early July. USDe can be used like any other cryptocurrency: it can be traded, used to obtain loans, or integrated into other DeFi protocols. By staking USDe with Ethena, users can earn protocol yield.
Delta-Hedging Mechanism
The Ethena protocol uses a delta-hedging mechanism to ensure USDe's stability. When users deposit ethereum (ETH) or staked ETH (stETH) as collateral to mint USDe, Ethena automatically establishes offsetting short positions in ethereum derivatives equal to the value of the deposited ETH. This delta neutral setup aims to shield USDe from ETH price volatility and maintain its peg to the US dollar.
The delta refers to the sensitivity of the derivatives contract to changes in the underlying ETH price. By going short an amount of ETH derivatives equal to the collateral, Ethena creates a portfolio with a delta of 0, meaning the USD value remains constant regardless of ETH price movements.
For example, if a user deposits 1 ETH worth $1,000, Ethena will short 1 ETH worth of perpetual futures contracts. If ETH later drops to $500, the 1 ETH collateral is now worth $500, but the short futures position has gained $500, keeping the total USD value at $1,000. This delta neutral hedging is designed to stabilize USDe.
Ethena adjusts these hedging positions in real-time to react to changing market conditions and maintain the delta-neutral profile. The delta-hedging strategy, along with staking rewards from the collateral, are the primary sources of yield for USDe holders.
ENA Token
The ENA token is the governance token for the Ethena protocol. ENA mainly serves two main functions: governance and utility. ENA holders can participate in the decentralized governance of the Ethena protocol by voting on proposals. ENA also acts as a utility token within the Ethena ecosystem, used to pay for services and facilitate transactions. Users can stake USDe to earn rewards.
The total supply of ENA is 15 billion tokens, with the current supply in circulation reaching 1.6 billion units. The token distribution aims to support long-term development, with 30 percent allocated to core contributors, 25% to investors, 15% to the Ethena Foundation, and 30% reserved for further ecosystem development.
As of early July 2024, ENA has a market cap of around $830 million and a price of $0.51 per token. The token is listed on major exchanges like Kraken and Binance.
Additionally, ENA facilitates various operations and transactions within the Ethena ecosystem. The tokenomics and distribution of ENA are designed to incentivize long-term engagement and participation in the Ethena protocol as it aims to grow its synthetic dollar USDe and DeFi offerings.
Controversies
The Press Release
During its short history, Ethena Labs has faced a series of controversies. Amid its funding round in February, a press release falsely stated that Ethena raised 14 million US dollars from Dragonfly, Brevan Howard Digital, Avon Ventures (an affiliate of Fidelity Investment's parent company), Franklin Templeton, PayPal Ventures, Maelstrom (the family office BitMex founder Arthur Hayes) and some major derivative exchange including Binance, Bybit, OKX, Deribit, Gemini and Kraken.
Later the press release was modified, including only DragonFly, Bybit, OKX, Deribit and Gemini. Ethena's co-founder Guy Young called the press release "an honest mistake."
Tokenomics
To the surprise of Ethena investors, Ethena Labs announced a late June overhaul to its tokenomics, which now requires airdrop recipients to lock up at least half of their ENA tokens. This unexpected move caught many investors off-guard and caused an uproar.
Under the new rules, ENA airdrop recipients will have to lock up 50% or more of their airdropped tokens or risk losing their unvested ENA tokens. The rule went into effect on June 17th, several months after the April ENA airdrop.
The team said that by enforcing this rule, they want to encourage long-term holders instead of attracting speculative “mercenary capital funds" used by investors or traders to make a quick profit at the expense of the long-term stability of the protocol.
Investment Thesis
Supply: $15B
Supply in Circulation: $1.4B
Next Unlock Date: 2.4.2025 00:00
Supply Unlock: $937.5M
Lead Investor: Dragonfly
Vesting Type: 1 Year Cliff / Linear 36 Months
Investor Supply% in Cap Table: 25%
Raised Amount: $20.5M
Average Investor Round FVD: $82M
Market Capitalization: $826.2M
Current Market FDV: $7.9B
Float: 10.5%
Unrealized Profit: 95.91
USDe
From an investing perspective, Ethena offers multiple opportunities. The most obvious approach is to stake the USDe, and receive a competitive APY. To stake USDe, users can deposit their USDe tokens to obtain sUSDe, which provides access to the protocol's generated yield.
Ethena Labs estimates its immediate addressable market to be approximately 5 billion US dollars, when embedding USDe into exchanges and capturing market share within DeFi as a reserve asset. Ethena sees the current $120B stablecoin market to reach $1 trillion in the upcoming cycle.
Source: Ethena Labs
Accordin to Ethena Labs, the protocol is agnostic to all forms of liquid staking providers (to the extent such assets are utilized as backing), off-exchange settlement providers, and sources of liquidity. The protocol is not sensitive to the competitive dynamics between providers and will benefit from the growth and innovation of the total liquid staking and derivatives ecosystems.
Overall, the USDe's investment case centers around the USDe token's ability to generate high yields through a hedge fund-like trading strategy, though relevant concerns exist about the project's long-term viability.
ENA
The governance token ENA was created to support the Ethena protocol operations. Like USDe, it (too) can be staked. Since its launch in April, ENA has seen significant volatility, rising past 1,4 USD, and consequently dropping below $0.5 in late June.
Ethena has a rather complex unlock schedule, with the first major unlock happening in April 2025, when 2.06 billion ENA tokens (13.8% of total supply) will be unlocked. The Core Contributors and Investors allocations have a 36-month linear vesting schedule after an initial cliff period, meaning their tokens will be gradually unlocked over 3 years.
Source: CryptoRank
Source: CryptoRank
From investment perspective, the 9-month timeline to first unlocks creates a window of opportunity. Many analyst expect Fed to lower its interest rate in September, potentially fueling high beta assets like ENA. In a favorable market environment, we could see ENA rising parabolically in Q4 2024 - Q1 2025.
Disclosure: The writer holds a sizable amount of ENA tokens.