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Lido and its liquid staking currency stETH dominate the Ethereum staking service market and thats not necessarily a bad thing, according to Ethena Labs founder Guy Young.

If its a question of whats more important between liquidity and decentralization during times of market volatility, exchanges care far more about liquidity, says Young.

According to the company website, Ethena provides derivative infrastructure in order to transform Ethereum into the first crypto-native yield bearing stablecoin which is not reliant on the banking system: USDe [Unitary Status Dollar Ecoin].

The stablecoin achieves price stability, the website explains, through a delta-neutral hedging process across centralized and decentralized venues. On the 0xResearch podcast (Spotify/Apple), Ethena Labs founder Guy Young and head of research Conor Ryder discuss the liquidity-decentralization dilemma.

We just need to think about our users, Young says. How do things go wrong on our side? Thats with liquidity. In a period of market upheaval, its far less likely that centralization would be the primary cause of failure for USDe, he says.

The biggest risk to what were doing is making sure that collateral is liquid, he says. We have different things that were focusing on versus other [liquid staking token] providers who are more focused on that decentralization piece.

Im more focused on making sure that things are liquid and allow us to provide the best product that we can for our users.

Ryder adds that users are not necessarily reducing risk by taking on competing forms of staked Ethereum. Lido dominance isnt something that really concerns me right now. Its dominant for a reason, he says.

Lidos staking platform and liquid staking token, Lido Staked Ether (stETH), Ryder says, have the best validator set as well as being battle-tested and enjoying very good market traction.

These smaller, liquid staking tokens right now havent got that kind of market traction yet. Its not like youre diversifying by taking 10% stETH, 10% Rocketpool ETH (rETH), 10% whatever else. Such a strategy is only adding more risk, Ryder says.

Another major issue regarding stablecoin risk relates to solvency, which Young says is really a question of timing. If every single user wanted all of their money out at the exact same time, that would force you to crystallize that loss on withdrawal because youd have to take that collateral and give it back to the user, which doesnt represent the dollar that they thought they put in.

A lot of the risks that you saw with bonds blowing up in the real world in the last year was a question of, are you actually redeeming now to crystallize that loss on the market-to-market value of those bonds?

Its actually exactly the same sort of risk there, he says. Its just a question of how are you managing that duration risk.

One way to reduce solvency risks is an insurance fund, Young explains. The effective collateralization of the system will be more than one because youve got that pool of dollars basically sitting behind the stablecoin.

The insurance fund can act as a bidder of last resort, he says, to ensure stability in moments of price dislocation.

You can prove in real time that the whole thing is solvent because you have the collateral there where you can read and show users, and youve got the derivative positions, which again, you can read and show users, Young says.

One example, from Young: In a situation where USDe is trading at $0.95 on Curve, the insurance fund can act as a bidder of the open market USDe to socialize those gains between token holders on the other side.

Market panics are unavoidable, Young admits, but I think theres an interesting role that an insurance fund can play in also providing basically a bid to socialize those gains with token holders afterwards.

And you can only do that when you can prove that the system is actually collateralized at one and that its programmatic.

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Stablecoins need to focus on liquidity, not decentralization ... - Blockworks