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15th May 2022 > > The Terra fiasco again.


The Terra fiasco highlights some tail risks in Decentralised Finance (DeFi).

Market Snap (at time of writing)

Market Wrap

Reports of war criminal Putin’s health problems are coming to the fore again.

There won’t be (m)any mourners when he departs to spend eternity in hell assuming (in his case with full expectation) there is such a place but the key question for us is what impact will that have on the markets?

On the upside, it is likely that the Ukraine war ends abruptly.

On the downside, the chaos within Russia when such a power vacuum vortex occurs will be very destabilising for energy markets. You do not need me to tell you those markets are already under considerable stress.

Just how does that play out?

Curious Cryptos’ Commentary – Further fallout from the Terra fiasco

Noting that Binance has executed 5 BILLION $$$ notional of trades in LUNA in the last 24 hours (that’s $500k of fees right there and then), I would also like to point to the fact that the crypto world is so complex and so interdependent.

DeFi protocols rely on Oracles for price feeds for some of their operations. One of the largest is Chainlink whose native token is LINK (disclosure – the CCC has owned LINK for quite some time now).

As is the case with price feeds in TradFi, both market volatility and illiquidity can give rise to problems. I remember the Friday afternoon when Greece was accepted into the Euro, and Cantor’s IRS quotes were probably 100bps off the market in the short end. It would have been a huge mistake to trade using that price (spoiler alert: I didn’t but I know someone who did …)

Chainlink takes a sensible approach and pauses price feeds under certain pre-determined conditions.

Once those pre-determined conditions had been fulfilled (conditions that are publicly available) Chainlink paused its price feed at 10c. Clearly the price of LUNA went lower after that, but that was no longer a legitimate concern of Chainlink.

This discrepancy between how Chainlink works, and how some people might believe it to work (i.e. that price feeds were always and forever more accurate), did offer up an opportunity.

Two DeFi protocols – Blizz Finance and Venus Protocol – have been attacked as a result.

The attackers were able to deposit LUNA and borrow other cryptos against that deposit with a theoretical price of 10c, whilst the actual market price was 1c or less.

It is easy to see how that plays out.

Blizz Finance had this to say:

“Chainlink pausing the LUNA oracle allowed several attackers to deposit millions of LUNA which is (sic) still worth $0.10 according to the Chainlink oracle to borrow all the collateral. The protocol has been drained before we could pause due to our timelock.”

Use of the word “drained” appears to suggest that Blizz Finance is going to have some problems going forward. I would posit that anyone who had deposited cryptos in Blizz to earn passive income now owns some LUNA with a massive haircut, but I wasn’t personally involved, so I do not know for sure.

A further tweet said:

“We have built on the AVAX ecosystem in good faith with the expectation that @chainlink oracles would behave as expected. Sorry to those affected.”

Which is nice of them, but apart from being materially wrong in content, the sentiment of that comment really doesn’t help.

Blizz Finance appears to be blaming Chainlink for this problem. As @prithajnath correctly pointed out:

“It was a circuit breaker and it behaved exactly as expected. It's your job to have a proper incidence response plan in case circuit breakers are triggered.”

Venus Protocol appears to have made the same mistake.

It has however quantified losses at $11.2mm which it is claimed will be covered by its risk fund.

Meanwhile, a workaround implemented to suspend all LUNA operations on the protocol has also prevented any wallets with LUNA from accessing trades in the protocol:

“In order to take these steps, the price feed for LUNA will be temporarily set to 0 using OracleAdmin via multisig, this will effectively disable the market and, as an unintended byproduct, temporarily disable the protocol for all wallets that have a position with LUNA. Subsequently, a VIP will be prepared asking the community to set the collateral factor for LUNA to 0, after which the Chainlink price feed will be re-enabled which will allow withdrawals and liquidations.”

I think it is fair to surmise that both Blizz Finance and Venus Protocol did not implement the Chainlink oracle correctly, highlighting once again that there are some tail risks in DeFi that are very hard to quantify.

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