Last week, we laid out the three different types of risk associated with BendDAO 1) default risk, 2) defaulted asset liquidation risk, 3) utilization risk.
Today we’re going to deep-dive on utilization risk, specifically in the implications it can have for the depositors (LPs of the BendDAO pool).
To recap, utilization risk is the risk that can be realized when the utilization ratio of the lending pool is higher or lower than the optimal level. For example, if the utilization ratio is too high, there may not be enough funds for depositors who need to withdraw the money they have deposited into the pool immediately. As such, the amount of liquidity left in the pool - the proportion used for loans - directly impacts the depositors. By analyzing BendDAO’s liquidity pool’s utilization, we’ll uncover what the depositors need to know and keep track of to manage this risk.
And don’t worry, we’ll also cover the default risk and defaulted asset liquidation risk expose risk as well. Hint: we’ll be analyzing the credit risk that BendDAO bears.
Table of Contents
1. Purpose of Liquidity management
2. BendDAO liquidity management
Deposit payable turnover ratio
Deposit payable depositor analysis
Purpose of Liquidity management
Before going through the data, we must go over what liquidity management is. Liquidity management is managing the reserve so that the depositors can get the appropriate amount at the fund's maturity date. Commercial banks in Tradfi do this as well; they make sure to have sufficient liquidity to give back to depositors when they request to withdraw, through normal and stress periods.
How does BendDAO, often compared to Tradfi’s commercial bank, manage its liquidity?
BendDAO liquidity management
Based on BendDAO’s operation method, their only source of liquidity is provided by the deposit made by the depositors. This implies that we only need to look at “deposit payable” account for BendDAO to diagnose how sound BendDAO’s liquidity is. Let’s now dive into BendDAO’s liquidity pool to see how BendDAO has managed its liquidity.
Deposit payable turnover ratio
The turnover ratio is the percentage of the fund that has been replaced throughout a certain time period. The higher the turnover ratio, the more often the deposit withdrawn. The more often the withdrawals, the higher the risk for depositors to not be able to pull out their initial principal.
BendDAO’s Deposit Turnover ratio from March 23, 2022 to January 31, 2023 was 15.5.
Turnover Ratio = Sum Withdraw Amount / Average Total Reserve
Quarterly Turnover Ratio
Looking back at Q3 of 2022, when BendDAO’s bank run and the ETH merge occurred, we can see that the turnover ratio increased. The high turnover ratio indicates that a large withdrawal may have been made, which we confirmed through our data below.
By tracking the turnover ratio, we are able to sense before utilization risk surfaces.
Deposit payable depositor analysis
Utilization risk occurs when a large of amount deposit is either added in or taken from the liquidity pool within a short span of time. It’s considered high risk if that large amount is dependent on a few wallets which makes our depositor analysis important.
We tracked how many depositors came into the protocol and how much was deposited by each of them - both in terms of principal and interest accrued - at the end of every month.
Our accrual-based accounting enabled us to capture the exact distribution of the liquidity among the depositors as well as their total profit.
(Read our first newsletter to learn about how powerful accrual based accounting can be: Link)
Based on the graph below, we can see that from March 2022 to January 2023, the number of unique depositors consistently increased from 44 to 365.
While we can think that by more people joining the protocol as depositors, the liquidity pool distribution will become broader, that wasn’t the case.
From March 2022 to January 2023, 50% of the liquidity was initially distributed among 3 wallets and then expanded to 9 wallets as time passed. However, during BendDAO’s bank run event (August 21~22, 2022), only 2 to 3 wallets held 50% of the total liquidity, which meant the pool was dependent on these few wallets.
Moreover, the depositor with the highest amount deposited in the pool covered up to 20% of the liquidity pool before the bank run and 40% during the bank run event (8/21~8/22), showing how much impact a single wallet can make.
Looking at the wallet distribution on January 31, 2023, 141 wallets out of 365 had less than 1 ETH deposited, which was about 40% of the total wallets but only 0.03% of the 68,545ETH total liquidity in the pool.
On the other side, 21 wallets deposited over 1000 ETH each, covering 74% of the total liquidity but representing only 5.7% of the wallets. It’s still pretty clear that the small number of wallets has the power to impact the utilization of the protocol.
Conclusion
To wrap up, we inspected BendDAO’s utilization risk by looking at the liquidity risk directly impacting the depositors. In doing so, we analyzed Deposit Payable Account on two metrics:
Turnover ratio
Individual Depositor Wallets
The turnover ratio for BendDAO from March 2022 to January 2023 was 15.5. For Q3 2022, when the bank run event and the ETH Merge took place, the turnover ratio was the highest at 5.56. After things settled down in Q4 without any noticeable events, the turnover ratio was back to 3.15, which we could use to assess the future liquidity risk for BendDAO.
As for the depositor concentration, the number of unique depositor wallet addresses increased from 44 wallets (March 2022) to 365 wallets (January 2023). However, 50% of the total liquidity pool is still controlled by single-digit wallet counts (up to 9 at most). This means that the utilization rate depends on a few individuals, which implies high volatility of the protocol, indicating the need to improve financial stability.
Fun fact 👀
As of January 31, 2023, depositors that have 1) deposited over 10 ETH in BendDAO and 2) earned up to 4% APR (as stated on BendDAO’s website) are estimated to be only 24 wallets. This is about 6.58% of the total depositor wallets and 3.59% of the total deposit volume, which could attribute to the high turnover ratio of deposits. We could imply that BendDAO, as a protocol, still needs improvement for users to participate in the protocol actively.