Proposal: Onboard SOL as a USDe Backing Asset

[EthenaLabs_Research]

Summary

This proposal recommends an allocation of USDe’s backing to SOL utilizing substantially the same mechanics as Ethena’s hedging mechanism currently in place with BTC and ETH perpetual futures.

The proposed allocation would be scaled into slowly in consultation with the Risk Committee considering SOL perpetual futures shorter history of trading, less liquidity, and less historical funding rate data. However, SOL’s ~$2bn of open interest across venues where Ethena presently executes hedging transactions, combined with more favorable funding so far in 2024 relative to BTC and ETH, presents an attractive opportunity to further align Ethena and USDe with one of crypto’s largest ecosystems and potentially increase protocol revenue when market conditions improve.

Background

In August, Ethena announced USDe’s launch on Solana using Layerzero’s OFT standard. As part of the launch, SOL’s potential onboarding as a USDe backing asset was announced, subject to Risk Committee approval.

In addition to potentially increasing protocol revenue via SOL funding rates, this will unlock $2-3 billion in additional open interest – allowing Ethena to continue scaling USDe from its current supply of approximately $2.5 billion and keep pace with any potential increase in market demand.

Data (Source: Laevitas)

Funding	BTC	ETH	SOL
2 week	6.4%	7.4%	8.2%
1 month	4.5%	6.1%	6.6%
3 month	4.6%	5.1%	5.9%
Open Interest
October 24	$23.7bn	$8.8bn	$2.2bn

Proposal

• Begin adding SOL as a USDe backing asset in a controlled and methodical fashion in consultation with the Risk Committee, while funding rates and liquidity for SOL contracts are closely monitored.

• Today Ethena represents 3% of BTC open interest and 9% of ETH open interest. SOL represents ~$2bn of open interest of which $100-200mn is a reasonable initial target to scale into. $100-200mn of SOL positions would represent 5-10% of SOL open interest, approximately in line with Ethena’s current BTC and ETH weights in their respective markets.

• BNSOL (Binance Liquid Staked SOL) and bbSOL (Bybit Liquid Staked SOL) to be considered in addition as a backing asset for USDe, in the same proportion to the overall SOL allocation as ETH LSTs represent with respect to the total ETH allocation within the overall backing of USDe. For context, ETH LST’s make up a third of the overall ETH allocation currently, and we propose the aforementioned SOL LST’s do not exceed one third of any proposed SOL allocation.

• As Ethena Labs Research is a non-voting member, this proposal will be subject to Risk Committee approval from other members, who must vote unanimously in order for SOL to be approved as a backing asset.

• The Risk Committee has 7 days after this proposal is published to deliberate and arrive at a decision, each replying in this forum with confirmation of their vote.

[nickolas_tazes]

I have to admit I am skeptical about this. While I understand the temptation to diversify USDe’s reserve pool, I believe SOL would introduce more risk than reward. Of course, what I state in my comment may be entirely off.

Generally:

SOL’s price history:
SOL’s price history is marked by its association with FTX. It’s only been a year since it broke the $20-25 price mark. Can you be confident on SOL while it is arguably unproven in terms of price? USDe reserve should prioritize stability and reliability, which SOL has yet to consistently demonstrate.

KOL "meta”:
The current popularity of SOL on X should not be a deciding factor in such a critical financial decision. It is a trend driven by memecoins and can be attributed to a single app that gained traction with crypto-natives. It should not be confused with long-term ecosystem strength or stability. It is not an indicator of sustainable value or sound economics. The "coolness” factor, funded by KOLs, can fade as quickly as it rises, and Ethena should not make decisions based on ephemeral trends.

Prioritize institutional-grade products:
Ethena should focus more on offering a robust, institutional-grade product, so stability and risk management must be prioritized. This involves maintaining a conservative approach to the reserve assets. Decisions based on short-term crypto trends or paid influencer campaigns will not resonate with large financial institutions.

About the proposal:

Scaling and risk:
The short history of SOL perpetual futures and the lack of historical funding rate data make this move risky, even with a “reasonable initial target” of $100-200 million. While the proposal highlights favorable funding rates for SOL in 2024, it’s essential to consider the longer-term picture.

Revenue Potential:
The potential increase in protocol revenue should be weighed against the increased risk profile. Higher short-term returns often come with higher risks, which may not be appropriate for a stablecoin’s reserve.

[Solarrr]

Having SOL as the backing assets will bring benefits to USDe

[lee]

I agree with Solarrr.

Taking SOL as a collateral will improve the risk resistance ability of the whole Ethena ecosystem.

[star]

Agree with Solarrr.

Increasing diversity would be good for the whole ecosystem

[Four8Sixteen]

Wow! This is a great proposal. Let’s make it happen

[BlockworksAdvisory]

Blockworks Advisory supports this proposal.

Solana is currently the fourth-largest non-stable crypto asset by market cap at $71.9 billion at the time of writing, trailing Bitcoin, Ethereum, and BNB, which, hold market caps of $1.3 trillion, $306.2 billion, and $84.7 billion, respectively. We believe onboarding SOL as a USDe collateral asset is a sensible step, if taken carefully, for several key reasons.

Solana’s ecosystem has matured with deep liquidity in both spot and perpetual markets and growing open interest, making it suitable for Ethena’s delta-neutral strategies involving spot holdings and shorting on perp platforms.Similar to BTC and ETH, a spot and short strategy with SOL can generate yield through positive funding rates in perpetual markets. Solana’s volatility and activity offer strong revenue potential, contingent on favorable market conditions. Additionally, adding SOL diversifies USDe’s backing beyond BTC and ETH, expanding yield opportunities and potentially helping to stabilize income across different market conditions.

We propose the following analysis by the Risk Committee to determine the specific approach for integrating SOL as a USDe backing asset while minimizing risks. The focus will be on implementing this addition in a controlled and systematic manner, while continuously monitoring funding rates and liquidity.

1. Availability and Liquidity of Spot and Perpetual Markets for SOL

A review of the exchanges on which to add SOL is essential. The assessment should focus on whether these platforms provide sufficient liquidity and adequate funding rates for opening short positions on SOL. Liquidity and slippage, particularly during periods of market volatility, are critical factors that can significantly impact the efficiency of the hedging strategy.

2. Volatility and Impact on Funding Rates

Solana’s higher volatility compared to BTC and ETH may result in more frequent and substantial fluctuations in funding rates. These fluctuations could either enhance yield opportunities or increase the cost of maintaining the hedge. Therefore, an analysis of historical funding rate behavior on SOL perpetual contracts is necessary to determine whether it can consistently contribute to positive yield generation across different market conditions.

3. Risk of Liquidation

During periods of heightened market volatility, there is an elevated risk of liquidation when utilizing LSTs. Given that spot LSTs are not the same asset as the underlying derivative positions, their price volatility could lead to liquidation events. Although the backing asset composition is to contain a relatively small proportion of LSTs, it is important to define the maximum allowable exposure to SOL LSTs and which ones are to be accepted in order to mitigate this risk effectively.

4. Exit and Rebalancing Strategies

Should SOL become too volatile or unprofitable for delta-neutral strategies, a clear exit or rebalancing plan should be in place. This plan should outline the conditions under which SOL positions can be unwound or rebalanced with alternative assets, and the speed and cost at which such adjustments can be made. This aligns with the Risk Committee’s broader plan to manage all strategies dynamically, ensuring flexibility in response to changing market conditions.

[LlamaRisk]

Summary

Llamarisk supports the proposal to onboard SOL as USDe backing asset. Based on the analysis presented below, we believe that the proposed initial target of $100-200M allocated in SOL Perpetual Futures is rational.

However, due to the current lack of redemption assurances and the significant risks associated with Binance’s model for SOL staking, we believe that BNSOL should not be allocated as a backing asset at this stage. For the 1/3 of total SOL LST backing, it is advised to start with bbSOL which has an onchain minting/redemption process.

Ethena is expected to maintain an exposure not larger than 10% of total SOL OI adapting to the fluctuations optimally. In addition, we recommend the perpetual positions to be mainly opened on Binance and Bybit exchanges as ~90% of all OI is concentrated there. The Risk Committee will continue to monitor the market situation and help ensure the stability of USDe collateral backing.

Full Analysis

SOL Perpetual Analysis

SOL Perpetual Analysis

This section outlines the perpetual market conditions for SOL, evaluates trading venues and compares the price/volatility properties of SOL versus ETH and BTC.

Open Interest

The total aggregated open interest for SOL perpetual futures has been stable with at least $1.5B of OI since March 2024. This indicates stable market conditions and reinforces the suitability of safely managing perpetual positions.

Source: Coinalyze, October 10th, 2024

Perpetual Trading Venues

Ethena currently uses Binance, Bybit, Deribit, OKX and Bitget to hold the perpetual positions. The following is a breakdown of SOL perpetual pairs traded on these exchanges:

Binance

Binance offers both stablecoin and Coin-M denominated perpetual trading pairs for SOL. At the time of writing, the total open interest for these pairs is $830M with the largest perpetual pair being SOLUSDT.

Source: Binance, October 10th, 2024

Bybit

There are both linear and inverse SOL perpetuals offered on Bybit CEX. The total open interest is $740M with the largest pair being SOLUSDT.

Source: Bybit, October 10th, 2024

Deribit

One SOL-USDC perpetual pair is available with $18M of open interest. It is a linear perpetual pair.

Source: Deribit, October 10th, 2024

OKX

Linear SOLUSDT and inverse SOLUSD perpetual pairs are traded with a total open interest of $30M.

Source: OKX, October 10th, 2024

Bitget:

Linear SOLUSDT and inverse SOLUSD perpetual pairs are traded with a total OI of $10M.

Source: Bitget, October 10th, 2024

While there might be more SOL perpetuals open interest available in other exchanges, it is not considered as these exchanges are not used by Ethena. Furthermore, Deribit, OKX, and Bitget contain a negligible OI relative to Binance and Bybit exchanges, therefore to lower the counterparty risk it is advised to concentrate the perpetual positions on Binance and Bybit.

Volatility

When an asset is onboarded as collateral backing USDe, it is crucial to manage positions and margins effectively, especially in response to price fluctuations. High volatility can present challenges in this regard. While Ethena is skilled at managing positions amid the price volatility of ETH and BTC, SOL tends to have higher average volatility, even though it is highly correlated with these assets. Therefore, using leverage with SOL perpetual positions should be avoided.

Asset	Mean 30-day Volatility	Max
BTC	0.030	0.06
ETH	0.046	0.10
SOL	0.062	0.14

Funding Rates

The funding rate analysis on Binance CEX reveals that SOL perpetual funding rates are more sensitive, both to the upside and downside. Nonetheless, the correlation of perpetual funding rates between these assets remains high.

The average funding rate for SOL perpetuals for the observed period (May 2023 - October 2024) was marginally higher than for ETH and BTC pairs.

Asset	Mean Funding Rate	Min	Max
BTC	12.91%	-23.17%	120.71%
ETH	12.43%	-19.63%	130.23%
SOL	13.92%	-61.33%	181.28%

An in-depth look into funding rate observations also indicates a larger standard deviation (and therefore volatility) of funding rates with longer left and right tails.

All of this indicates that while SOL offers a marginally higher average funding rate, additional caution should be exercised during the negative funding rate periods as the yield downside might become more aggressive in comparison with other assets.

SOL Staking & LSTs

SOL Staking & LSTs

Solana is an established and mature network with the 3rd largest TVL among all chains. While Solana has indicated high reliability, there have historically been incidents causing network outages. In addition, the relatively low number of validators poses a centralization risk. Moreover, slashing has not yet been implemented on Solana’s network. The lack of this safeguard mechanism can also negatively affect the stability of the network.

Validators

Solana is currently backed by ~1400 validator nodes. In comparison, there are more than 1 million Ethereum validator nodes (source). This difference indicates an apparent centralization risk for the network. Nonetheless, the addition of over 67,000 new staking accounts over the past 30 days is a positive indicator of growing network participation.

Source: Rated.Network, October 10th, 2024

The United States dominates the geo-distribution with the highest concentration of Solana nodes, representing 35.89% of the network, introducing a potential centralization risk. If regulatory changes or service outages occur within the U.S., it could disrupt a significant portion of the network. The top four hosting providers (Vultr, OVH, TeraSwitch, Latitude.sh) account for around 35% of the network, which introduces potential centralization concerns as well.

Source: Solana Beach, October 10th, 2024

LST issuers

Binance & BNSOL

BNSOL represents SOL staked with Binance. A steady growth has been observed since the product launch. BNSOL has also not deviated much from the underlying asset (source, October 10th, 2024).

Source: Defi Llama, October 10th, 2024

Binance has sole authority to mint BNSOL and the SOL-to-LST conversion happens offchain. In fact, the SOL collateral is not assigned to Binance’s validator directly. This lack of transparency in the mint and redemption process raises a counterparty risk and makes the “LST” nature of this asset questionable. The exact terms of service as outlined by Binance for BNSOL are covered in-depth in a dedicated section.

Bybit & bbSOL

Branded as an “exchange-backed LST”, bbSOL is a tokenized version of SOL deposited into the Bybit stakepool. There is an observed acceleration in TVL growth where the locked capital jumped from roughly $60 million to nearly $100 million within a week.

Source: Defi Llama, October 10th, 2024

Minting of bbSOL is enabled by Sanctum’s onchain infrastructure which creates a SOL stake account that delegates the SOL to Bybit’s validator and mints a bbSOL LST token.

Note: On Solana, delegating your tokens to a validator does NOT give the validator ownership or control over your tokens. At all times, you still control all your staked tokens that you may have chosen to delegate. This is why staking is not instant. Delegation and undelegation have a warmup and cooldown period.

Sanctum Reserve Pool then provides deep liquidity for all liquid staking tokens on Solana. The Reserve can accept staked SOL and give SOL in return. It will then unstake the staked SOL at the end of the epoch to replenish its SOL reserves.

bbSOL is not controlled by Bybit similar to other LSTs launched on Sanctum. The upgrade authority of Sanctum’s LSTs is currently held by a 6/11 multisig. All members are reputable actors in the space: Jito, Jupiter, Laine, Mango, MRGN, Solblaze, SolanaFM and Sanctum. Any changes to the LST programs will have to be approved by a majority vote from this multisig.

The following is a list of Sanctum’s programs (contracts) that are involved when depositing SOL and minting the LSTs:

Program	Program ID	Upgrade Authority
S Controller	5ocnV1qiCgaQR8Jb8xWnVbApfaygJ8tNoZfgPwsgx9kx	Sanctum Multisig
Flat Fee Pricing	f1tUoNEKrDp1oeGn4zxr7bh41eN6VcfHjfrL3ZqQday	Sanctum Multisig
SPL SOL Value Calculator	sp1V4h2gWorkGhVcazBc22Hfo2f5sd7jcjT4EDPrWFF	Sanctum Multisig
Sanctum SPL SOL Value Calculator	sspUE1vrh7xRoXxGsg7vR1zde2WdGtJRbyK9uRumBDy	Sanctum Multisig

To summarize, the LST minting & backing is managed onchain by Sanctum. Underlying SOL is never controlled by Bybit or it’s validator(s). While an instant LST redemption might not be possible (if the reserve is exhausted), the LST token is redeemable for SOL at all times.

LST-Issuers & Terms of Service

The Binance SOL Staking Terms grant Binance full control over staked assets, with no clear segregation and redemption capacity limited by pool capacity and daily quotas.

6. Your Staked Assets will not be segregated from the Digital Assets of others. Your Staked Assets may be commingled in hot wallets and cold wallets with Digital Assets belonging to Binance Group Entities and clients of Binance Affiliates globally. You will not have a right to recover any specific Digital Assets but please see Section G below on conversion of BNSOL and the redemption of SOL.

7. Staked Assets may be used by Binance Group Entities in on-chain staking activities in a tightly controlled manner to generate On Chain Rewards. Binance Group Entities may, in their sole and absolute discretion:

   • a. stake your Staked Assets in whole or in part;
   • b. act as a validator on an Applicable Network; and
   • c. delegate to other Binance Group Entities any voting rights that may be attached to your Staked Assets.

Source: Binance SOL Staking Terms, October 10th, 2024

Bybit Web3 User Agreement applicable when acquiring bbSOL via their Web3 Wallet Earn, stipulate: “The Company maintains full custody of the assets, funds and user data/information”. However, self-custody options exist through alternative routes for bbSOL swapping, such as Sanctum or Jupiter, offering users more control over their assets.

The custodial arrangements of both platforms warrant careful consideration. Bybit’s terms lack explicit bankruptcy remoteness provisions, raising concerns about asset protection in case of insolvency. Binance presents even higher risks, as SOL stakers relinquish full control to Binance, granting them sole discretion over virtual assets without an explicit recovery right for stakers. Moreover, redemption is not guaranteed at all times - BNSOL to SOL conversion typically takes about 4 calendar days, with processing times subject to variation.

Due to the current lack of redemption assurances and the significant risks associated with Binance’s model for SOL staking, we conclude that BNSOL cannot be considered a safe LST asset at this time. The primary concerns are Binance’s full discretion over SOL usage, potential comingling with other virtual assets and the lack of transparency in how Binance manages staked SOL off-chain.

On this premise, we advise against any BNSOL allocation in Ethena’s portfolio until explicit conditions benefiting Ethena’s security and interests are introduced.

SOL Legal Classification

SOL Legal Classification

The classification of Solana (SOL) by the U.S. Securities and Exchange Commission (SEC) has become a focal point of legal and regulatory scrutiny. The SEC has halted the approval process for Solana spot ETFs, citing ongoing concerns about whether Solana should be classified as a security.

In the context of high-profile lawsuits against Binance and Coinbase, Solana has been explicitly mentioned as a potential security, further exacerbating the regulatory uncertainty surrounding the token. The SEC’s July filing against Binance, indicates its intention to seek leave to amend its complaint, particularly concerning “Third Party Crypto Asset Securities”. This proposed amendment aims to address the sufficiency of allegations related to these tokens, including SOL.

Nevertheless, the SEC’s motion to amend its complaint does not necessarily indicate a departure from its previous position regarding SOL’s classification as a security. It is likely that there is a refinement or expansion of the allegations concerning these tokens.

In our view, the absence of a definitive court order on this case or other litigation involving SOL should not be construed as an insurmountable barrier to the token’s utility or market presence. While the potential security classification remains a significant consideration, it should not be perceived as an absolute restrictive factor at this juncture.

Recommendation

Recommendation

We understand the current proposal seeks to:

• Onboard SOL as a backing for USDe with a target position size of $100-200m representing 5-10% of SOL OI. At current price of SOL, the proposed allocation is up to 1,273,900 SOL ($200m) or 10% of SOL OI, whichever is lower.
• Allocate no more than 1/3 of the SOL exposure to SOL LSTs (BNSOL and/or bbSOL).
• Any increase in SOL exposure beyond what is stated in the proposal must involve a public governance process and approval from the Ethena Risk Committee.

At the current USDe TVL, only 4-8% of the stablecoin would be backed by SOL and bbSOL LST. We believe that this level of exposure is acceptable considering all the risk factors mentioned above.

Due to the current lack of redemption assurances and the significant risks associated with Binance’s model for SOL staking, however, we believe that BNSOL should not be allocated as a backing asset at this stage

Given the concerning custodial arrangements for both Binance’s BNSOL and Bybit’s bbSOL, we strongly recommend:

• Seeking detailed clarification on Bybit’s segregation mechanics and custodian responsibilities if their native wallet is to be used.
• Obtaining explicit SOL redemption assurances from Binance, should Ethena consider transferring control of SOL to Binance’s exclusive authority.

Additional safety mechanisms, such as the Ethena’s Reserve Fund are also available to be employed in case of collateral loss. LlamaRisk believes that the Reserve Fund is an important safeguard of Ethena’s protocol and will advocate to further capitalize the fund, especially as new collateral types are onboarded.

[Gauntlet]

Gauntlet supports this proposal to onboard SOL as a backing asset. Gauntlet agrees with the response from Blockworks Advisory to conduct a supplemental analysis to inform appropriate positioning, concentration, exit/rebalancing strategies, and the attractiveness of using SOL LSTs.

ACROSS EXCHANGES AND INSTRUMENT TYPES (LINEAR & INVERSE)

• Liquidity Profiles: A measurement of the quality of liquidity across exchanges and instrument types.
• Open Interest Distributions: The distribution of positioning across exchanges and instrument types.
• Funding Rate Volatility & Impact: A measurement of funding rate volatility and mean reversion times, taking into account open interest levels and asset volatility.
• Rebalancing & Exit Logic: An aligned methodology with existing backing assets to determine when to unwind perpetual short positions due to negative carry exposure.

LST ANALYSIS

• Liquidity & Redemptions: A measurement of instant available liquidity of the LST, in addition to standard redemption times for the underlying.
• Peg Volatility: Distribution modeling of returns, volatility, and kurtosis highlighting chances of depeg events.

[PhDan]

I strongly support this proposal!

[BA-Labs]

TL;DR: BA Labs supports the proposal to onboard SOL as a USDe backing asset. We favor a conservative approach to SOL backing given past history of volatility in SOL derivatives and liquid staking markets.

We’d like to echo Gauntlet and Blockworks above that it will be appropriate to undertake additional research on optimal positioning and strategy for taking on SOL collateral, including further review of available derivatives contract venues and liquid staking products. We also note that Ethena Labs has significant experience with delta neutral positions which will help inform the overall SOL strategy.

Market Dislocation Risk

Our principal concern for onboarding SOL as a backing asset is potentially greater susceptibility to severe dislocations during market crashes. Based on historical data, we have seen SOL has faced much larger spot vs perp price divergence and funding rate volatility versus BTC and ETH. SOL liquid staking products have also faced significant discounts during market crashes.

Velodata

The chart above shows SOLUSDT perp market dynamics for the period leading up to and immediately following the collapse of FTX. We see that there was a severe price crash of as much as ~75% over a few days, and this corresponded with extreme and protracted periods of negative funding and perp vs spot price discounts. If a delta neutral SOL perp position was held open through this period, it could have lost well over 25% of position value due to the accumulated impact of negative funding rates, which peaked at nearly -5% per 8 hour funding period. In comparison, aggregated funding rates on ETH perps fell only as low as -0.23% per 8 hours at the trough of the FTX collapse (20x lower magnitude).

This also corresponded with a significant perp vs spot price discount of as much as ~15%, and ideally traders would have been able to close out their delta neutral position and capture this spread as a profit. But, use of SOL liquid staking products as collateral may interfere with this opportunity as they were generally trading at significant discounts while this event was ongoing. Taking the example of Marinade’s mSOL, the primary LST at the time, we see that it has experienced several depegs of up to ~20% in the 2022-2024 period.

The SOL crash corresponding with the FTX collapse is arguably a worst case scenario that is unlikely to reoccur with similar severity. We have also seen that Solana has achieved increased market maturation across both cefi and defi venues over the past two years, with a greater diversity of liquidity sources and less reliance on single exchanges or sponsors. But based on the available evidence, we conclude that SOL still presents an elevated risk of severe dislocations during a market crash, which could potentially result in impairment to the Ethena reserves depending on specific positioning and responses.

SOL Liquid Staking

We have seen that SOL LSTs have experienced significant depegs and have generally shown lower liquidity and stability versus ETH counterparts. However, we also note that the Solana staking mechanism has several features that make it potentially more attractive and suitable for including LSTs as part of a delta neutral strategy.

Ethereum staking requires waiting through a variable length unstaking queue to receive liquid ETH back, and while this unstaking period is typically short increases in queue length are highly correlated with periods of market stress where Ethena may want to exit liquid staking. In contrast to this, Solana staking operates based on short, fixed length epochs of roughly 3 days, meaning that it should never take more than roughly 3 days for LST holders to fully exit their position regardless of market conditions. This means SOL LSTs have substantially less duration risk, and should have a lower propensity to trade at a discount per any given level of secondary market liquidity. Over time, we believe that SOL LSTs will achieve a lower level of duration and liquidity risk versus ETH LSTs such as stETH.

Solana also has a substantially higher base staking yield versus Ethereum. While ETH LSTs are currently delivering slightly more than 3% yield, SOL LSTs can consistently provide roughly twice as high of a yield. This implies that the opportunity cost of holding unstaked SOL for delta neutral positions is much higher than for ETH.

On balance, we find that it is appropriate to accept up to ~⅓ of Ethena’s SOL backing in the form of LSTs. While the level of duration and liquidity risk is currently higher with SOL than ETH, we believe that fundamental factors will push this risk down over time, while the benefits in terms of LST yield enhancement are significantly greater for SOL.

Market Sizing

Per data from Velo, we observe that there is a relatively higher ratio of SOL open interest to market cap (roughly 3%) vs ETH”s OI to mcap (roughly 2%). This increased leverage does not seem to correspond with relatively higher trading volume, implying that SOL derivatives have a higher global leverage level and more “days to cover” (ratio of short interest vs average daily trading volume). Given this, we believe it may be appropriate to benchmark Ethena’s exposure to SOL based on the lower of share of open interest or share of market cap, so that greater global leverage on SOL vs BTC or ETH doesn’t result in excessive exposure to SOL derivatives. We also suggest a measured ramp up period when onboarding SOL as a backing asset to minimize impact on derivatives markets.

Conclusion

As the 4th largest crypto asset, and host to arguably the second most important onchain ecosystem after Ethereum, SOL presents a clear opportunity for growing the Ethena protocol.

We support onboarding SOL as a backing asset for USDe, and proposed inclusion of SOL liquid staking tokens as a minority share of the spot assets for SOL delta neutral positions.

[steakhouse]

Steakhouse supports this proposal to onboard SOL as a backing asset for USDe given the maturation of the asset and its derivative markets, as well as the significant growth in liquidity and ubiquity of the SOL token. However, we agree with the other committee members in regards to conducting a deeper analysis to assess:

Historical Volatility:

• Historical funding rate volatility, which have had a much larger standard deviation of returns relative to BTC and ETH and how to best mitigate extreme negative volatility moves

Exit Strategy:

• An exit strategy should be developed in the event market conditions materially and persistently deteriorate
• Given the history of network outages, an understanding as to how an extended period of network downtime may affect USDe, particularly in times of market stress.

LST Risk:

• Appropriateness and scale in consideration of using bbSOL and bnSOL as LSTs, given the structural differences in the products both technically and legally, and relative newness (both launched in September)

Liquidity:

• Spot and perp liquidity, as well as the minimum level of open interest required to begin and continue trading on an exchange. Currently only Binance and Bybit are at a scale that can handle the proposed volume, which could lead to further concentration risk given the significant amount of assets held on Binance already.

Additionally, while the proposal recommends a certain allocation range as a percentage of OI, we believe it would be useful to set hard limits and timetables with respect to the exposure to SOL, so that the community and users can have certain expectations of the evolving underlying risk profile.

[LlamaRisk]

Update [28.10.2024] Re BNSOL:

A review of Binance’s supplementary information regarding their non-custodial staking mechanism, resulted in the following findings.

BNSOL Stake Pool enables direct SOL deposits without necessitating Binance account registration and respective adherence to their standard custody arrangements. Users are offered enhanced autonomy over their assets by relying on this option, which circumvents the contractual arrangement with Binance.

Regarding the redemption mechanism, BNSOL can be converted back to SOL through the stake pool’s reserve system, contingent upon sufficient liquidity availability. It is crucial to note that redemption requests may fail when the stake pool’s reserve is depleted, typically when the pool manager has allocated the entire SOL holdings to staking activities.

Source: SolanaCompass | Date: 28.10.2024

While the Solana stake pool architecture prioritizes fund security through its perpetual redemption capability, certain risk factors warrant careful consideration. The BNSOL Stake Pool operates through a single Binance-controlled validator, which has been identified by SolanaCompass as exhibiting characteristics of stake concentration and elevated commission structures.

Source: SolanaCompass | Date: 28.10.2024

Although the non-custodial design liberates users from Binance’s centralized exchange requirements, it is imperative to acknowledge the persistent counterparty risk arising from the concentration of validator and stake pool authority within Binance’s operational control.

Given the permissionless nature of SOL-BNSOL conversions in both directions, our assessment concludes that BNSOL warrants equivalent consideration to bbSOL. We recommend maintaining consistent treatment while adhering to prudent allocation limits, i.e not exceeding one-third of total SOL exposure to SOL LSTs.

[ACI]

The concerns around SOL’s volatility and links to FTX are valid, but with the Risk Committee’s phased approach and close monitoring, these risks should be well-managed. Adding SOL as a backing asset aligns us with a significant ecosystem, presenting strong potential for protocol revenue growth. As long as we proceed cautiously, this integration strengthens Ethena’s growth trajectory.

[BlockworksAdvisory]

Onboard SOL | Funding Rates

The below analysis is also available in document format here

As highlighted by several members of the Risk Committee, additional analysis is required to refine our strategy for positioning USDe with SOL as collateral. Key areas for further evaluation include:

• Liquidity and Open Interest: Analyzing liquidity and open interest across exchanges to ensure sufficient depth for effective risk management.
• Funding Rates: A comprehensive review of funding rates across exchanges, which will be a focal point of this analysis.
• LST Suitability: Already addressed by LlamaRisk.
• Exit and Rebalancing Strategies: Developing clear exit and rebalancing strategies, aligned with existing collateral assets, to guide the unwinding of perpetual short positions in response to negative carry exposure.

The exit strategy analysis will require a broad approach, encompassing all assets used as collateral. The funding rate analysis will be expanded on this contribution to provide a more detailed perspective on its impact across exchanges.

Funding rates distribution analysis

For this funding rate analysis, we selected the contract with the highest open interest on each exchange. The charts below show the historical funding rates over one year for each exchange for BTC, ETH and SOL.

It is evident that SOL funding rates exhibit significantly higher volatility compared to BTC and ETH, particularly on exchanges like Deribit, OKX and Bitget during certain periods. Below we show the distribution for each exchange’s funding rate for both the existing collateral assets and for SOL.

Across exchanges, BTC and ETH funding rates tend to have similar mean and median values. For BTC, most exchanges show a mean around 10-13, and for ETH, it ranges from 10 to around 15, suggesting generally stable funding rates with some consistency. SOL has higher mean funding rates, especially on exchanges like Bitget and Deribit, where it reaches 19.8 and 24.8, respectively. The median is often lower than the mean, indicating right-skewed distributions, meaning there are frequent extreme positive funding rate values.

The standard deviation (volatility) is relatively lower for BTC and ETH across exchanges, with values mostly between 8-15, reflecting more predictable funding rates. SOL shows a notably higher standard deviation across all exchanges, especially on Deribit and Bitget, where it’s 34.1 and 25.2, respectively. This indicates that SOL funding rates are significantly more volatile, with wider swings around the mean.

Both BTC and ETH exhibit kurtosis values that are moderately high, with spikes on some exchanges (e.g., Bybit for ETH, which has kurtosis around 9.95), indicating that there are occasional extreme funding rate values. SOL’s kurtosis is particularly high on OKX (27.4) and Bybit (12.0), showing heavy tails and more frequent extreme funding rate events. This suggests that SOL experiences higher peaks and troughs compared to BTC and ETH, leading to more occasional, extreme funding rate events.

For both BTC and ETH, skewness values generally range between 1.6 and 2.8, suggesting distributions with slight right skewness — some positive extreme values, but not overly dominant. SOL shows even higher skewness, especially on OKX (3.7) and Bybit (2.8), which confirms a significant positive skew. This means that SOL funding rates tend to have frequent, larger upward deviations compared to BTC and ETH, with more pronounced positive outliers.

While these findings are generally favorable for using SOL as collateral in Ethena, we recommend starting conservatively with a selective choice of exchanges for opening these positions. SOL differs from BTC and ETH significantly, with higher mean values and much more volatility in funding rates across exchanges. The elevated standard deviations, high kurtosis, and skewness indicate that SOL’s funding rate distributions have heavier tails and higher likelihood of extreme values, especially on Deribit and OKX. This could reflect lower market depth or more aggressive trading dynamics for SOL.

Based on this analysis, the recommendation is to begin with Binance and Bybit. Both Bybit and Binance show moderate standard deviations (12.5 and 17.0, respectively) and exhibit reasonably balanced funding rate distributions. The kurtosis on Bybit (12.0) suggests fewer extreme outliers compared to Deribit and OKX, and Binance has more stable averages relative to SOL’s distribution on other exchanges. With these exchanges, we are likely to encounter less dramatic downside volatility.

Bitget could be a secondary option. Bitget has a high mean and median funding rate (19.8 and 11.9) and a slightly lower standard deviation than Deribit and OKX. This suggests Bitget offers relatively higher rates with somewhat less severe fluctuations. The skew is positive (2.6), which indicates there are fewer extreme negative rates compared to exchanges with stronger negative tendencies. Bitget’s relatively balanced skew and moderate volatility make it a viable option as we’re looking for a balance between stable funding rates and potential positive funding benefits. However, it’s slightly riskier than Binance and Bybit due to its higher standard deviation.

We would recommend avoiding Deribit and OKX for now. Both Deribit and OKX exhibit the highest standard deviations (34.1 and 22.9) and kurtosis (3.2 and 27.4), indicating a highly volatile and heavy-tailed distribution. OKX, in particular, shows extreme positive skewness, which could correspond to extreme negative events as well in differing market conditions.

Funding rates autocorrelation and extreme event analysis

Furthermore, we analyzed the autocorrelation of funding rates and the duration of extreme events to provide additional support for this recommendation. The autocorrelation charts below display how the funding rate correlates with its own past values at various time lags (in days). Values near 1 indicate a strong relationship, while values close to 0 suggest little to no correlation.

Both BTC and ETH funding rates exhibit relatively similar autocorrelation patterns across exchanges, with a gradual decline in autocorrelation as lag increases. Binance consistently shows higher autocorrelation over longer lags compared to other exchanges. This suggests that BTC and ETH funding rates on Binance are more stable over time, with recent values more predictive of near-term values. Other exchanges like Bybit, OKX, and Deribit show lower and faster-declining autocorrelation, which implies that BTC and ETH funding rates on these platforms may revert or fluctuate more quickly.

SOL’s autocorrelation pattern is similar to BTC and ETH in terms of the general decline with lag, but it appears to show more variability, especially on Deribit and OKX. Deribit and OKX show a more pronounced drop in autocorrelation, indicating a higher rate of fluctuation or mean reversion for SOL funding rates on these exchanges. This could signal unpredictable or volatile funding rates, which might not sustain stability for extended periods. Binance again shows the most stable autocorrelation for SOL, suggesting that if SOL funding rates are favorable, they are more likely to remain stable on Binance than on other exchanges.

Across BTC, ETH, and SOL, positive funding rate events tend to be short, often lasting only 1-3 days, with a few instances extending up to 8-11 days on some exchanges. The positive funding rate durations are fairly distributed across all exchanges, suggesting similar stability and predictability for short positive rate events. While SOL also shows short positive funding rate events across exchanges, Binance and Bitget exhibit slightly longer positive durations, indicating these exchanges may offer more sustained positive rates. Deribit occasionally shows longer positive durations for SOL, but these are infrequent.

Negative funding rates are a key concern. SOL, in particular, exhibits more frequent and sometimes longer negative funding rate durations compared to BTC and ETH. Negative rate events are relatively rare for ETH and BTC and generally last only 1-3 days across most exchanges, with only a few instances extending slightly longer. Negative funding rate events for SOL are more frequent and longer on Deribit (up to 8 consecutive days), which suggests a greater risk of sustained costs on this exchange. OKX and Bybit also show occasional negative funding rate events, but these are typically shorter (1-2 days).

Conclusion and Recommendations

The autocorrelation and extreme event duration analysis reinforce our initial findings from the distribution analysis, making Binance the clear first choice. Binance consistently displays the most stable autocorrelation patterns across BTC, ETH, and SOL, indicating lower variability and greater predictability in funding rates. Additionally, negative funding rate events for SOL on Binance are infrequent and brief, minimizing potential cost risks. Bybit and Bitget are solid secondary options, in that order. They provide moderate stability and relatively short negative funding rate durations for SOL, making them viable alternatives if additional collateral flexibility is needed. Therefore, we recommend starting with Binance and Bybit to ensure both risk diversification and adequate liquidity. In contrast, Deribit and OKX should be avoided for now. Both exchanges show high volatility in SOL funding rates, with sharp declines in autocorrelation and frequent, prolonged negative funding rate events. Unless there is a compelling reason, such as a significant improvement in funding rate stability, using SOL as collateral on Deribit and OKX is not recommended at this time.

This recommendation is contingent on a more comprehensive analysis of liquidity and open interest, as previously noted, particularly to determine the optimal maximum allocation to SOL and to each exchange. However, since Binance and Bybit are the leading centralized exchanges by SOL perpetuals volume and open interest, there should be no issue in moving forward with the recommendation. We suggest conservatively capping Ethena’s portion of each exchange’s open interest at 5%, maintaining caution and aligning with allocations for other assets. Further analysis can then assess whether confidence in additional exchanges can be increased and limits adjusted accordingly.