icETH - Leveraged Token Liquidation Risks

icETH Overview and Risk Warning

What is a Leverage Token?

Leverage means that you are using borrowed capital to trade a financial asset, such as a cryptocurrency, in order to amplify your buying or selling power.

A leveraged token allows you to take a leveraged position in a cryptocurrency. A leveraged position can increase your earnings if your borrowed capital allows you to generate additional returns, but it can also incur losses if the borrowed asset increases in value against your collateral used to finance the debt position.

icETH Overview

Index Compounding ETH (icETH) is an Index Coop product that aims to provide exposure to a leveraged long liquid-staked ETH position via a fungible and tradable ERC20 token.

Targets a leverage ratio of a 3.1 multiple of the standard underlying staked ETH yield.

How icETH Works

Lido Finance liquid-staked Ethereum tokens (stETH tokens) are deposited into the AAVE V2 protocol as collateral in order to borrow additional ETH, which is then staked with Lido Finance to procure more stETH. As a result, icETH token-holders can receive both spot exposure to ETH and up to twice the yield they would receive by simply holding stETH in isolation. The yield on icETH is variable as it is subject to both stETH staking rates (Ethereum Proof Of Stake validator rewards) and borrowing costs on the AAVE V2 Protocol.

Click here to read more about icETH.

icETH Risk Warning

When you stake your ETH for icETH on rhino.fi you are exposing yourself to certain risks, which include but are not limited to:

• Lido Finance staked ETH smart contract risk.
• Index Coop icETH smart contract risk.
• Aave V2 Protocol smart contract risk.
• Lido DAO security and key management risk for the treasury that controls the stETH staked on the Ethereum Network.
• stETH validator slashing risk.
• stETH may trade lower or higher than un-staked ETH due to demand fluctuation, liquidity or technical constraints.

More information on icETH risks can be found on the Index Coop website here.

The liquidation risk of leveraged tokens

Whenever there is a use of leverage, there is a risk of liquidation if the collateralised debt position falls below the liquidation threshold meaning that the loan becomes undercollateralised.

The The Interest Compounding ETH Index - icETH is a token developed by the Index Coop. icETH deposits stETH tokens as collateral on Aave and borrows ETH in return. It then swaps the borrowed ETH for more stETH that can further be used as collateral.

The target leverage ratio is 3.1x with a safe range of between 3.0x and 3.3x. The liquidation threshold for icETH is reached if the index’s leverage ratio in the underlying Aave position reaches 4x.

If ETH and stETH were to de-peg, this can change the real leverage ratio and the index would need to rebalance back to the target ratio. This would likely cause more losses the further the depeg goes as it will become more expensive to rebalance.

Therefore the relationship between ETH and stETH is important, but the functionality of rebalancing is managed by the index. This does not remove all risk but does remove the need for you to actively monitor balances or intervene as the market moves.

Updated on: 07/02/2023