Daily Briefing: BendDAO’s Bad Weekend

Last week, we covered a looming crisis in the NFT market that traced its origins to the “NFTfi” platform BendDAO, which allows holders of certain blue chip NFT collections (think Bored Ape Yacht Club, CryptoPunks, Azuki, and the like) to take out a loan against their NFTs. In the simplest terms, users can borrow up to 40% of the floor value of the NFT collection they hold. If the floor price drops within a certain range of the loan value, the protocol automatically lists the collateralized NFT for auction, and the holder has 48 hours to pay off the loan, lest they be rekt.

While it seems fairly straightforward, the actual mechanics of BendDAO’s liquidation and auction structure turn out to be quite complicated. It would take a lot more time and effort to understand BendDAO than is allocated to a typical briefing, so those interested in how it works can check out their docs. Suffice to say, it involves a lot of in-house mathematics used to calculate the “health factors” of the NFTs posted as collateral, which is the central concept in determining liquidations. There are even more complex features as well, including the ability to partially purchase an NFT with a down payment while executing a flash loan on AAVE to cover the rest.

With that complexity comes a heightened level of risk, of course, and high-risk projects in the crypto space seem to have a reliable propensity for imploding spectacularly. As we reported this morning, BendDAO experienced a “bank run” this weekend as several of the NFTs collateralized on its platform either neared or sank below their liquidation threshold. What’s worse, however, is that there seem to be no bidders on the NFTs that have gone to auction, which are required to go for at least the amount of the principal loaned against them.

So things are not going well for BendDAO, and—at the risk of venturing a judgmental opinion—it comes as little surprise. Collateralized loans tend to work well when the collateral is a hard asset with predictable value; images of cartoon artworks that derive their value strictly from the demands of a speculative marketplace, it turns out, are not such hard assets. It may be a controversial opinion, but I think it’s arguable whether or not they should be called “assets” at all.

Look, I get it—the driving force behind the crypto industry is that we have a profoundly novel technology with which we can do all kinds of new and exciting things. But as with anything new and exciting, it’s also easy to get carried away. The fact that developers can write code that makes it possible to collateralize a loan with a digital asset is interesting, innovative, and worth experimenting with. But charging full steam ahead by letting users pump tons of money into the protocol was probably a mistake.

Disclosure: At the time of writing, the author of this piece owned ETH and several other cryptocurrencies.