Research Commentary - Celsius freezes all withdrawals
What is happening?
- This week, Celsius Network announced that it was pausing all withdrawals, swaps, and transfers between accounts in their platform due to extreme market conditions. It did not provide a timeline for resuming withdrawals. This move has raised concerns about Celsius’ solvency, which brings back old discussions regarding the risks of Celsius’ business model and external counterparty risks.
- Celsius is a centralized finance (CeFi) and permissioned lending and borrowing platform, founded in 2017 by Alex Mashinsky and headquartered in London. It offers customers up to 18% annual returns on deposits of several cryptocurrencies and stablecoins.
- Celsius raised $750 million in a Series B round last November, when it was valued at $3.25 billion (post-money). At the time of the capital raise, it said total assets on its platform were $25 billion (up from $10 billion in March 2021) with more than one million registered users.
- We believe that Celsius is currently undergoing an asset and liability mismanagement issue due to concentrated positions on less liquid assets such as stETH (staked Ether).
- Celsius is suffering several withdrawals and apparently it does not have enough liquid assets in its balance sheet to honor them.
- Since Celsius is a CeFi company, there is no clear picture of their financial position or treasury management strategy, so some of the views expressed might not be 100% precise due to lack of full data transparency.
- This incident comes at a delicate moment after several negative events hit the crypto markets in 2022, including a couple of massive hacks, the Terra / LUNA stablecoin meltdown, and a highly uncertain macro environment with inflation hitting 40-year high levels and with the Fed-driven successive increases in interest rates.
What does Celsius do?
- Celsius (1) DeFi protocols to generate yields from customers' deposits, (2) lends on an overcollateralized manner cryptocurrencies to centralized exchanges, and (3) stakes crypto assets when such a functionality is available.
- In particular, a lot of the ETH it holds on behalf of clients is staked using (i) Lido (a “liquid staking” platform), and also (ii) directly into the Ethereum 2.0 staking contract. This strategy concentrates a relevant portion of its deposited ETH into less-liquid assets (in the case of Lido staking), and into completely illiquid assets (as of now) when staking is done directly.
- Lido is a liquid staking service that allows any ETH holder to deposit their holdings and participate in staking for Ethereum in the Beacon Chain, while the Ethereum network prepares for its upgrade from Proof-of-Work to Proof-of-Stake (for more details on that migration, refer to our recently published article on “The Merge”). In exchange, depositors receive a synthetic token called stETH, representing a redeem certificate for ETH at a later moment after Ethereum’s migration, which currently generates approximately annual returns of 4%.
Celsius has become one of the main players exposed to stETH, with a balance (as of June 13, 2022) of around 410k stETH (~11% of the total supply of 3.5M stETH), which is used as collateral in major DeFi protocols like AAVE to generate additional yield.
- Since, as of now, stETH cannot be redeemed for ETH on Lido, stETH holders have to rely on secondary markets like Curve—a decentralized exchange that has the largest liquidity pool for the stETH:ETH pair—for liquidity.
- This pool has become very imbalanced since last week, with around 81% of the tokens deposited coming from stETH (~500k stETH) and 19% from ETH (~118k ETH) (originally this pool was stabilized at around 50/50 ratio).
- The pool imbalance made stETH trade at a discount of around 6% (as of June 13, 2022) due to its illiquidity aspect.
- Any price movement affecting ETH negatively might worsen the situation for the stETH used as collateral, given that the amount of stETH necessary to clear Celsius’ debt with Aave will have to be bigger.
Community members have been assessing Celsius’ (i) incapacity to convert stETH back to ETH and/or (ii) the likelihood of stETH used as collateral in DeFi protocols to be liquidated on-chain. These two events could impair Celsius’ ability to pay ETH withdrawal requests on its platform. This could also lead Celsius to liquidate other crypto assets that it holds on its balance sheet at any price.
What’s happening now?
- This morning (June 14, 2022), Celsius’ competitor Nexo expressed interest in buying certain assets from Celsius (no price was mentioned), including collateralized loan receivables secured by corresponding collateral assets, brand assets, and its customer database. This could bring some momentary relief if completed quickly.
- At this moment, it is still unclear how this issue will completely unfold. Celsius is a large holder of ETH and BTC. We also don’t know the pace of users’ withdrawals. However, Celsius' $750 million Series-B capital raise in November 2021 might give it some breathing room.
- stETH has value (assuming that The Merge will occur and no smart contract issues regarding Lido surfaces); however, there might not be enough liquidity to account for Celsius immediate needs.
- Celsius, in theory, could unload all of its stETH position in a private over the counter transaction (possibly at a large discount) and it could buy itself some time. However, if such a transaction were not to occur, Celsius depositors would probably suffer considerably as they would only have access to their deposited ETH funds when unstaking becomes available after The Merge. This may also pose cascading effects impacting the price of other digital assets Celsius holds on behalf of customers, since the platform might need to liquidate other token holdings at any market price to be able to honor clients’ positions in stablecoins and other crypto assets.
Unfortunately, this event brings more uncertainty to an already fragile crypto market. It can have secondary consequences to overall total value locked (TVL) in DeFi, which can potentially mean less activity on the protocols and further drawdowns for the tokens associated with them.
The crypto markets will remain susceptible to idiosyncratic factors like the Celsius situation, in addition to broader macroeconomic factors such as the inflation and recession concerns unfolding right now. However, we continue to believe that the crypto ecosystem remains strong, and the long-term outlook for this emerging asset class is as promising as it has ever been.
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