Aave Faces Potential Losses of up to $230 Million Following Kelp DAO Bridge Exploit

A recent exploit of the Kelp DAO and LayerZero bridge has put lending protocol Aave at risk of losing up to $230 million, contingent upon the resolution of the situation. According to a report published by Aave Labs and LlamaRisk on the Aave governance forum, the incident revolves around rsETH, a liquid restaking token issued by KelpDAO, which relies on a bridge mechanism to transfer tokens between blockchains. An attacker manipulated this setup by forging a valid transfer message, resulting in the creation of new tokens without backing, and the release of 116,500 rsETH from the Ethereum-side bridge. Instead of selling the assets, the attacker deposited 89,567 rsETH into Aave as collateral and borrowed approximately $190 million in ETH and related assets across Ethereum and Arbitrum, leaving Aave exposed to potentially impaired collateral. Aave Labs promptly contained the risk by freezing rsETH markets, setting loan-to-value ratios to zero, and halting new borrowing against the asset. The outcome now largely depends on how Kelp handles the shortfall. If losses are spread across all rsETH holders, the token would experience an estimated 15% depegging, resulting in around $124 million in bad debt for Aave. However, if losses are isolated to Layer 2 networks, the impact would be more severe, with bad debt rising to roughly $230 million and concentrated on networks such as Arbitrum and Mantle. The exploit stemmed from weaknesses in Kelp's verification of cross-chain messages using LayerZero, allowing the attacker to manipulate the process and extract value from the system. The incident has raised concerns about the safety of interconnected DeFi infrastructure and the potential for undercollateralized loans. In response, users have moved to reduce their exposure, resulting in the withdrawal of around $6 billion in total value locked from Aave. The report highlights Aave's indirect exposure to external systems, which has led to increased collateral risk, pressure on lending positions, and a decline in deposits. Discussions are underway with ecosystem participants to address potential losses, with the DAO treasury holding approximately $181 million in assets.