Hey folks, if you’ve followed along with my other articles earlier this month, you may have been lucky to front run UMA’s news about their Oval project — a new tool that borrowing and lending protocols can use in order to recoup funds that may be lost from MEV liquidations.
Although the specific details have yet to be released, it appears that the rest of the market is beginning to price in the possibility that even if Oval is able to gain even a fraction of what MEV liquidator-revenue share, that this could be an extremely lucrative new project — to the tune of millions (possibly tens of millions) of dollars for UMA in the future.
It’s commonly known in crypto that degens have a much high threshold for risk compared to the average normie, therefore it’s not unusual to see headlines such as this:
Although the liquidation mechanisms on different DeFi protocols may differ slightly from protocol to protocol, for many (like on Aave), liquidators or searchers are incentivized to liquidate positions that are underneath water. In other words, DeFi liquidations aren’t done by the protocols themselves — instead they’re normally done by bots, bots that are given a reward if they’re able to liquidate the position first. The reward may differ for the protocol and the asset, and you can see that for Aave, as they range from around 4.5% to 8.5% depending on the asset that underlies the liquidated collateral:
There’s a lot of other add-ons that more sophisticated bots can use in order to further maximize returns, but essentially if someone is able to provide the protocol with whatever is owed, then the liquidator is essentially able to make a 4.5–8.5% profit relatively risk free.
As you may have already guessed, MEV liquidation bots aren’t as profitable if there’s a lot of competitors, if the size of the undercollateralized loan is small, or most importantly if there’s no volatility in the market. A great read out of data is from Eigenphi’s last MEV annual report where they show that MEV liquidation bots made profits of around $33 million dollars 2022, with the majority made from the fallout of the Terra Luna collapse, and then in November with FTX’s collapse:
From what I’ve gathered, Oval will be somewhat of a tool that lending protocols can use so that once a price feed comes in, potential liquidations will be targeted and sent through a Dutch auction where liquidators can essentially try to bribe Oval in order to gain the rights to liquidate the position.
In a Dutch auction the auctioneer usually starts with the highest price and then subsequently decreases, assuming there’s someone willing to bid at a lower price. In Oval’s case, the bid is awarded to the liquidator who is willing to liquidate the position at the lowest liquidation bonus. Because the liquidation is relatively risk free, the assumption is that the bidding will continue to go down as long as the liquidation remains profitable.
Let’s break this down to a hypothetical example:
1.Paul (sorry Paul) is going to get liquidated for his loan of $20 million dollars worth of $ETH on Aave.
2.On Aave, during a liquidation event, half of his collateral would need to be repaid plus a 5% liquidation bonus— this would equate to a total liquidation bonus of $500k worth of $ETH.
3.Normally this $500k would go straight to the liquidator, but since we’re now using Oval, a Dutch auction starts and Brittany, once again a keen searcher, wins the bid to liquidate Paul’s position for only a 0.05% liquidation bonus, or in other words for $5k instead of $500k.
In this scenario, $5k of profit for a relatively risk-free action is still pretty damn attractive, and also the protocol and/or Oval has now been able to recoup $495k dollars worth of $ETH.
If we zoom out a bit and assume that in 2024 there will once again be a potential sum of $33 million dollars worth of liquidation bonuses up for grabs, then this would mean that protocols would be able to recoup 99.9995% of their funds, or $32,999,835 dollars!
Due to Oval’s staggering value proposition, it makes it seem like a bit of a no-brainer for every lending protocol to consider using it, and if successful, I would imagine that we might see Oval attached to every major lending protocol in DeFi by the end of 2024.
As we continue to speculate on how Oval might actually look, there are some considerations to consider, including…
Lower volatility = Lower profits: As I’ve mentioned before, MEV liquidations are contingent on some major market assumptions, the most important being that there are any liquidations going on in the first place. Crypto in it’s current state is still insanely volatile, but perhaps this will change as we get more institutional adoption.
This is/was not UMA’s primary product: As someone who spends a lot of time on UMA’s’ discord, I might be a bit biased, but I was already very bullish on UMA prior to Oval taking place. UMA has already seen up-only growth with TVS in their oSnap integrations — an easy-to-setup tool that I think every DAO should use.
UMA’s future price speculation: Perhaps at a conservative estimate, if UMA is able to capture $10 million a year worth of Oval fees, this means that they would be able to generate around $27k worth of fees per day. This would place UMA…right behind Polygon?
Look, speculation is fun, but the UMA team hasn’t made an official announcement (yet), and from the looks of it, we might not get one until the egg finally hatches in… 3 days?
Incidentally what’s also in 3 days is UMA’s next community discord call, which I’m sure to be a part of:
I’m very excited for the UMA team, and I think Oval’s ingenuity really speaks towards to who these guys are and what they care about— they’ve stuck to building things that are for the public good.
As always, thanks for taking the time to read this and be sure to follow me on twitter (https://twitter.com/CryptosWith) to get all my latest updates. Also, looking for a gift for your Crypto-loving/hating friend? Give them a REKT journal to cheer them up!
Disclaimer: And as a final reminder, this is not financial advice and this is for educational and entertainment purposes only. Please as always, do your own research and find what investments are best for you. Cheers everyone!
