Let's Run the Numbers on DAI - Depegging and Collateral

With USDC and Circle exposure to SVB, I decided earlier today to move my stablecoin positions into DAI. Eight hours later, I kind of wish I had chosen something else, but I think it is worth looking into what happens in different SVB insolvency scenarios and the knock-on effects, particularly to DAI. I wrote out portions of this in a comment in another thread but I think looking at the math is worthwhile.

First off, let’s look at how much exposure Circle has to SVB, and therefore how much is at risk: with $3.3B in SVB, against ~41B USDC in circulation. As a percentage, 8% of USDC collateral is at risk.

Next, let’s talk about what happens if Circle experiences a liquidity crunch and must dispose of assets on their balance sheet. They likely take a small haircut on the short term bonds, maybe 1-2%. Theoretically these assets are very liquid, but I suppose if they cannot quickly dispose of them there could be a run-on-the-bank situation. Expect US Government conservatorship in that case and a long time for redemptions to happen. Otherwise we can say that about another 2% of the USDC collateral is at risk.

If SVB is completely insolvent with ABSOLUTELY 0 ASSETs – in other words, creditors get nothing – that means that the full collateral held by SVB for Circle goes to zero. Backing for USDC is 92 cents on the dollar, and there could be a run on the bank. The assets on Circle’s balance sheet are liquidated, and in the end we end up somewhere around 90 cents collateral for every USDC in circulation. Maybe they are bailed out, maybe they undergo bankruptcy proceedings for insolvency. It could take some time (potentially years) to get money back out but basically there’s a 10% hit for anyone holding USDC, in addition to whatever you calculate your time value of money to be.

If SVB is only somewhat upside down, say 50% of their debts can be covered by their assets, then ~4% of USDC is at risk. Once again, assume a run on the bank, Circle enters insolvency and has to dispose of assets at less than ideal prices, and we get to 95 cents on the dollar. This could take years as we wait on assets from both SVB and Circle to return to the market.

Now let’s look at what this means for a stablecoin like DAI, with significant USDC exposure. You can see on the Maker Burn site that there is a significant amount of USDC exposure – $~3.5B. There is another $5B in other assets. Collateralization ratio is 150%. There are 5.77B DAI in circulation against $8.5B in collateral. The Maker Burn site: https://makerburn.com/#/rundown

Stablecoin Collateral

Overall Collateral

What does this mean for DAI? Well, in the worst case I outlined above, USDC goes to 90 cents. That means that for DAI, USDC collateral value would drop to 3.15B. Overall collateralization would be $8.1B on 5.7B DAI. It might take time for that full value to be available, however, because the velocity of money is clearly going down.

I suppose if USDC somehow goes to zero, which I think is unlikely, then it would be accurate to say that there would be a collateral shortfall for DAI – something like $700M. However, I think this is a fairly unrealistic scenario. USDC can drop below 20 cents, ~17 cents, and DAI is still fully collateralized.

A few things that this does not consider:

  • How much do we believe in MakerDAOs liquidation mechanisms?
  • Are we at all concerned that as USDC crashes the other collateral crashes and cannot be liquidated before DAI is insolvent?
  • What if we include the GUSD backing and issues that Gemini might be having right now?

I think these are worth further consideration but it’s late right now and I’ll have to come back to continue the analysis. For now, however, I am going to sleep decently soundly expecting my DAI positions to probably hold up, even if it takes some time to get back to the peg.

If I’m wrong I look forward to the inevitable embarrassment and jokes you all send my way in a few months.

submitted by /u/brybts
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