Reflection on USDR Unanchoring: More than 500 days after the collapse of UST, we still don’t understand stablecoins
Original author: Samuel McCulloch
Original compilation: Deep Chao TechFlow
On October 12, 2023, a full 523 days have passed since the collapse of UST, and we still don’t understand stablecoins.
USDR, a stablecoin with $60 million in circulation, much of it collateralized by British real estate, quickly fell from $1 to $0.5 in a matter of hours. This is a classic “run” event, where there is a maturity mismatch between the stablecoin’s highly liquid debt and its illiquid collateral.
It is issued by Tangible, a marketplace for buying and selling real estate collateralized obligations (RWA). On the platform, tokenized real estate, watches, wine and gold can be purchased with USDR.
Real USD...not a better currency
According to Tangible’s documentation, “Real USD (USDR) is a new type of rebased, interest-bearing, over-collateralized stablecoin pegged to the U.S. dollar. USDR is primarily collateralized by interest-bearing, tokenized real estate.”
All USDR can be redeemed for DAI at any time 1:1 with a fee of 0.25%. The agreement retains several million dollars in cash to act as a capital buffer and facilitate redemptions.
Decoupling occurred when the reserve ran out of $12 million worth of DAI that could be redeemed for USDR and holders began dumping the token through decentralized exchanges. Now, USDR holders must wait for the company’s financial assets to be distributed or sold off to cover the collateral shortfall.
The more interesting aspect of USDR is that it is an algorithmic stablecoin.
USDR can be minted in TNGBL or DAI at a 1:1 ratio. The protocol imposes a 10% maximum limit on the amount of USDR generated from TNGBL. Funds collected from the swap are then used to purchase homes in the UK. The Tangible team writes in its documentation that overcollateralization above the gearing ratio is used to purchase more real estate collateral. However, the Tangible team told us that they never did this and that all over-collateralization was held as a reserve.
real estate support
Tangible offers two reasons for using real estate to back USDR.
First, real estate can generate income. All Tangible properties are rental properties that can generate monthly rent, which will flow to USDR holders through buybacks.
Tangible only buys properties in the UK market and has a yield of 6.39%. By comparison, the yield on 1-month UK gilts is 5.31%.
Second, the team points to the long-term role of real estate “price appreciation.” They said real estate has a predictable history of appreciation and that the average sales price of a U.S. home rose from $27,000 in the first quarter of 1970 to $383,000 in the first quarter of 2020.
They then claim in the document that USDR is a “better currency” because it is a “true store of value” and protects holders from inflation due to long-term increases in house prices.
Just like we learned nothing from the 2008 financial crisis.
On-demand parity
The biggest lie in cryptocurrencies is how the three characteristics of money are presented. We have all heard countless times that money has three properties: a medium of exchange, a unit of account, and a store of value. But these only relate to the denomination.
Bitcoin can become a currency because it retains value, and platforms integrate it as a payment option. This is true for any product. Bitcoin can fluctuate 5%, 10%, 15% every day, which does not diminish its ability as a payment method because the price is relative to the US dollar. They say 1 BTC = 1 BTC.
Debt denominated in U.S. dollars is subject to higher standards. USD stablecoins should be redeemable for $1 or approximately $1 under any circumstances.
If it cant, its not a dollar currency.
I say approximately because if you accept that privately issued currency should have a place in our society, it will always have a slight price sensitivity. Only government-issued currency can be considered price-insensitive because it enjoys the full trust of the money-printing press.
Stablecoins are imitations of the US dollar, and FRAX has now entered this category with the launch of v3. Our stablecoin can be sold for USDC at a value of approximately $1, but there are no guarantees. Frax DAOs mission is to maintain a treasury of highly liquid assets to maintain the peg, but circumstances can always change and portfolios are prepared for the worst.
Notably, Tangible pursued a growth strategy on Curve in the first and second quarters of this year. The Llama risk team raised concerns about their collateral support. At the same time, Frax DAO voted to increase the collateralization ratio to 100%.
The perspective that must be adopted when looking at stablecoins is if something happens and the entire treasury has to be sold at a discount, how much will I get back?. If it is not due on demand, then the reference denomination is wrong.
Considering the assets on Tangibles balance sheet, we can make the following assumptions:
In the event of a protocol failure, TNGBL tokens have stake-like properties and will be worthless. It does not add any value to stablecoin support.
Both insurance funds and POL held by the team will be withdrawn to close to zero or until redemptions are cut off to preserve remaining collateral.
When Tangible flips properties in trade-down sales to recoup money, they may have to sell below market value due to unknown market conditions in the future. In addition, properties are located around the world, increasing the currency risk of their sale.
The question that needs to be answered, then, is how much discount should be allocated to the property value. With interest rates at 15-year highs, liquidity at these valuations has evaporated.
Tangible’s action plan
In light of USDR token decoupling, the team has proposed the following steps:
1. Asset liquidation:Taking into account real estate and liquid assets, USDR currently has a collateralization ratio of 84%.
2. Introduce the basket:Tangible will offer tokenized real estate pools, i.e. real estate index funds, instead of stablecoins. These baskets, such as UK real estate, will be allocated proportionally to USDR holders. Users can hold index tokens, earn from rent collection, mine them on Pearl, or sell them. If there is no demand for the basket, Tangible will begin liquidating the properties, but the process will likely take several months to complete.
3. USDR redemption:Once the basket assets are in place, Tangible will initiate the USDR redemption process. USDR will be redeemed in a combination of stablecoins, basket tokens, and locked 3, 3+ TNGBL NFTs. If there is a mortgage gap thereafter, it will be made up through TNGBL 3 or 3+ and locked for one year.
Assuming the property can be sold without a significant discount, each USDR holder will receive:
0.052 USD stablecoin (DAI);
$0.78 real estate in basket form;
TNGBL locked at $0.168, earning income from rentals.
There’s a reason every stablecoin bill discussed or passed requires all issuers to hold only cash and short-term equivalents. Market conditions turn bad and investors panic. If you dont have enough liquidity to redeem, a decoupling/run is inevitable. Illiquid debt increases convexity exponentially. As long as the market detects the slightest sign of insufficient liquidity, asset prices will be discounted immediately.
At the time of writing, the price of USDR is $0.53. Even though the team claimed that the tokens were collateralized at 84%, the market knew that liquidating the treasury portfolio could take months and discounted them accordingly.
After this process is completed, USDR will no longer exist. Stablecoins are dead after runs.
Let’s be clear…all stablecoins are a form of debt. An extremely liquid and fungible debt instrument in the form of a token. Tangible believes they can issue millions of dollars of debt 78% backed by real estate, with zero maturity risk. To some extent, the 30% cash and POL buffer before the crash was enough to provide adequate liquidity in the event of a run.
Today’s incident has been repeated countless times in traditional finance, and the nature of the project was demonstrated when it was claimed that “the measures put in place to protect customers were too easily manipulated to attack the protocol.” Tangible doesn’t “try new things” either. The team intentionally issues redeemable liquid debt tokens against illiquid assets. Tangible markets their jargon to uninitiated, non-institutional users.
What makes USDR’s collapse so frustrating is that the risks involved have been documented by the Llama Risk Team, who wrote:
In summary, Tangible has established several mechanisms to support USDR pegs. They conceived a promising method (pDAI) to ensure that USDR holders can always redeem USDR for something of equal value. However, most measures are still new and untested, and some are completely centralized (e.g. real estate liquidations). Especially in the event of a run, it is questionable whether USDR can maintain the peg. Additionally, the project adds multiple dimensions of complexity and potential vulnerabilities through its wUSDR token and cross-chain integration. These factors are not conducive to the stability of USDR.
Yet, we are still discussing yet another “stablecoin” failure today. This is frustrating because these incidents are exactly what anti-crypto lawmakers cite when drafting draconian regulations and laws. Tangible’s debacle gives the anti-crypto lobby yet more reason why our industry should be shut down.
It’s time to dispel the idea that any stablecoin can be 100% backed by anything other than cash or short-term equivalents. Real estate is good collateral, but allowing 100% lending against home equity in the form of stablecoins is clearly disastrous.
At Frax, we are committed to building a robust stablecoin ecosystem with as little risk exposure as possible. In the latest v3 launch, Frax also uses RWA to provide income for the DAO, but only allows the most liquid assets with the shortest maturities: Treasury bills, overnight repos, US dollars in the Feds main account, and selected money market funds. Nothing else.
