Key Takeaways:
- xUSD collapse reveals $93 million in losses and triggers $285 million in bad debt across DeFi protocols.
- CeDeFi models blend centralized and decentralized finance, often lacking transparency and masking risks.
- Curator mechanism, intended to improve efficiency, can amplify risks due to misaligned incentives.
- Stronger risk management, transparency, and accountability measures are needed in the DeFi sector.
xUSD Collapse: A Wake-Up Call for CeDeFi Risks
Recently, the DeFi (Decentralized Finance) space has seen a sense of unease, with many veteran players alerting users to potential risks. As a result, many have moved away from short-term high yields and shifted their assets to more secure protocols. The story began on November 4th with the flash crash of the yield-bearing stablecoin xUSD. This crash not only caused the issuer, Stream, to halt operations, resulting in a $93 million loss, but also had a domino effect, leading to bad debt across major lending protocols like Morpho and Euler, totaling an exposure of $285 million. This incident has brought to the forefront the risks associated with the low transparency of CeDeFi (Centralized and Decentralized Finance hybrid) models and issues with the incentive structure of Curators.
$93 Million in Losses Triggers $285 Million in Bad Debt
The yield-bearing stablecoin xUSD, issued by Stream, experienced a catastrophic depeg, leading the platform to suspend all deposit and withdrawal operations and triggering a $285 million bad debt crisis in the DeFi market. This incident revealed a long-standing structural trap in the industry: CeDeFi packages opaque high yields as low-risk stablecoins and uses the Curator mechanism of major lending protocols to transform individual risks into systemic risks.
Stream's crisis began when external fund managers reported asset losses of approximately $93 million. The platform then immediately suspended all deposit and withdrawal operations and hired the law firm Perkins Coie to investigate. As a result, xUSD experienced a sharp depeg in a panic sell-off, falling from $1 to $0.23 rapidly, and then further plummeting to as low as $0.08.
CeDeFi: A Blend of Risks
The essence of the CeDeFi model is to combine the composability functions of DeFi with the high-risk and opaque yield strategies of CeFi (Centralized Finance). Unlike traditional stablecoins fully backed by USD fiat currency reserves, xUSD is a "yield-bearing" stablecoin. Its pegging relies not on asset reserves, but on an investment portfolio that earns yields. This portfolio typically includes collateral deployed in DeFi lending markets, LP positions, and a portion of capital managed offline by external asset managers.
The inherent risk of the CeDeFi model is information asymmetry. Although Stream claimed to have a TVL (Total Value Locked) of approximately $500 million, on-chain tracking tools like DeBank can only track approximately $150 million, indicating that the platform transferred a significant amount of user funds to offline trading strategies "in the dark."
The core value of DeFi lies in "trust minimization." Users trust the protocol code rather than manual operations. However, Stream shifted one of the core yield components offline and entrusted it to external managers to report profits and losses. Once offline managers incur losses, centralized risks will flow back to the decentralized system. Although xUSD was positioned as a "Delta Neutral Strategy" stablecoin aimed at reducing market volatility through hedging strategies, it is in essence more like a "tokenized hedge fund." The losses revealed by external fund managers of approximately $93 million indicate that Stream took highly leveraged practices that violated "neutral" trading principles while pursuing high yields through offline trading strategies. This example also illustrates how CeDeFi creates the illusion of "high-yield stablecoins" through backroom operations.
Curator Incentives: A Recipe for Disaster
The Curator mechanism was originally intended to improve capital efficiency and develop specialized strategies. However, the xUSD depeg revealed how Curators can become "risk amplifiers" if poorly managed. Curators primarily exist in next-generation DeFi lending protocols like Morpho and Euler. They are a group of individuals or teams responsible for designing, deploying, and managing specific "Strategy Vaults." These vaults package complex yield strategies, allowing ordinary users to deposit funds and earn interest with one click.
The core characteristic of the Curator mechanism is non-custodial. Curators cannot directly access user funds. User assets are always held by smart contracts, and they are limited to configuring and executing strategy operations through the protocol interface. Although Curators' powers are limited by the protocol, their profit model and incentive structure sow the seeds of risk amplification. Their income primarily consists of performance sharing and management fees. This performance-driven structure is likely to incentivize Curators to adopt more aggressive strategies, even introducing high-risk assets, in pursuit of higher yields. By nature, this structure is similar to hedge funds in traditional finance, but lacks the required regulatory oversight and scrutiny. In the DeFi environment, users who have deposited funds into vaults bear the losses when trading strategies fail, while Curators may have already earned performance shares from previous high yields.
In the xUSD depeg incident, the risk amplification effect of Curators who failed to control risks was particularly glaring. Through the strategy configuration of Curator vaults, stablecoins like xUSD with low transparency were directly included in the collateral list of major lending protocols. Looking at the list of victims of Stream, it is clear that the disregard of xUSD risks by some Curators such as MEV Capital and Re7 and the allocation of their funds to related asset pools led to tens of millions of dollars of bad debt, transforming a single asset collapse crisis into a systemic risk.
CeDeFi Requires On-Chain Verification, Curators Require Interest Alignment
Stream's stark reminder to the industry that the innovation boundaries of DeFi are challenging its decentralization principles. To build a perpetual ecosystem, the industry must confront the transparency trap in CeDeFi models and the issues of misaligned Curator incentive structures.
The xUSD depeg and the bad debt it caused to major lending protocols like Morpho and Euler is further evidence of CeDeFi's failure to balance between pursuing high yields and sacrificing transparency. High yields are often a packaging of complexity, low transparency, and centralized risks. When DeFi protocols introduce synthetic stablecoins as collateral, they inherit the mismanagement and information asymmetry risks of CeFi. The key to solving this problem lies in risk isolation and mandatory transparency.
* **Risk Isolation and Layering:** Lending protocols should require Curators to set stricter risk parameters for synthetic assets or completely isolate them in vaults with more conservative risk parameters and isolated from other major assets.
* **Mandatory Transparency Standards:** For synthetic stablecoins whose yields rely on offline trading strategies, they should mandate the disclosure of information on auditable, real-time proof of reserves and asset allocation. Relying on smart contracts alone is not enough to ensure security. The system should integrate risk isolation and accountability systems.
The intention behind the Curator mechanism was to improve capital efficiency, but in the absence of effective accountability and low transparency, it can easily evolve into a shortcut to embed illiquid, high-risk assets into mainstream DeFi, thereby transforming single-point risks into systemic bad debt.
The future of Curators will depend on whether the mechanism itself can effectively balance capital efficiency and moral hazards. Protocol governance should take stronger measures to mitigate its incentive structure problems:
* **Introduce a Staking Penalty Mechanism:** Lending protocols should require Curators to stake a significant amount of their own assets and establish a clear penalty mechanism. Once Curators cause bad debt due to improper strategy or failure to control risks, the protocol should confiscate their staked assets to compensate for some of the losses. This will also force Curators to align the motivation of pursuing high yields with a sense of responsibility for users' principal.
* **Improve Transparency and Third-Party Verification:** Protocols should force Curators to fully disclose the real-time status of their strategy models, risk exposures, and underlying assets, and introduce independent third-party risk management institutions to verify Curator model data, rather than relying on their words alone.
Ethereum founder Vitalik Buterin pointed out in a blog post that DeFi focusing more on low risk can make the market more economically sustainable for the ecosystem. As he said, there is an urgent need for risk-averse protocols and Curators.
PANews believes that even if the Stream collapse caused significant user fund losses for some Curators and led to the collapse of four stablecoins, the market should not completely deny yield-bearing stablecoins and Curator mechanisms, or even elevate the fault to lending protocols such as Morpho and Euler. Many projects and Curators were wrongly injured, and they are also "victims" in themselves. From a positive perspective, the market is undergoing a phase of risk clearing. During this process, users can also identify risk-averse and truly valuable Curators and protocols. In the past week, four stablecoins in the market have reached zero one after another. They had a large number of associated protocols or counterparties, but Curators such as Gauntlet and SteakhouseFi effectively prevented risks and avoided continuous crises. In addition, stablewatch data shows that although protocols such as Reservoir, YieldFi, and Coinshift experienced large outflows of funds and a sharp decline in TVL, the stablecoins they issued still maintained their peg.
PANews believes that both yield-bearing stablecoins and the Cuartor mechanism have their value and necessity of existence, but the industry needs to form a more sound system to further improve them. For investors, the scope of due diligence should be deeper:
They should not only assess the security of the protocol code, but also judge the reputation, strategy transparency, and robustness of the underlying assets of the Curators they come into contact with. The future of the industry depends on whether the backroom operations in CeDeFi models can be eliminated through technological means and stricter governance structures, and a safer, more sustainable, and highly transparent DeFi ecosystem can be established.
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