Curve founder Michael Egorov has unveiled a market-driven approach to address approximately $700,000 in bad debt associated with LlamaLend, Curve's lending platform. In a governance post, Egorov outlined a free-market-based recovery method with an option-like payoff, inviting but not requiring Curve DAO to participate. The bad debt stems from LlamaLend's CRV-long market, where users borrow Curve's crvUSD stablecoin against CRV, the protocol's governance token. The trade functions as a bet that CRV will maintain or increase its value.
If CRV falls rapidly, the collateral may not be sold quickly enough to repay lenders in full. Following the October 10 crash, which saw over $19 billion in leveraged liquidations within hours, LlamaLend's lenders were left with deposits backed by about 70% of their stated value. The market is designed to mitigate this risk through an automated market maker, LLAMMA, built into the lending system. Instead of selling a borrower's collateral all at once when prices fall, LLAMMA converts the collateral in steps as the market moves.
However, during the October 10 crash, the market moved too quickly, and arbitrage traders could not keep up, resulting in some lender positions being trapped in a vault token that cannot be redeemed at full value today. Egorov argued that the token still holds value because the loss is not open-ended. The distressed positions already hold crvUSD converted from CRV, so further CRV declines should not deepen the shortfall.
If CRV rises above approximately $0.96, the conversion starts to reverse, and the positions begin taking in CRV collateral again, with full recovery expected around $1.24. The proposed solution involves packaging the affected lender positions into a tokenized vault and letting traders buy and sell them through a dedicated Curve pool. The goal is to provide trapped lenders with an exit option while allowing outside buyers to determine the value of the distressed claims. For trapped depositors, the pool offers a choice: they can wait for a CRV recovery or sell their vault tokens at a discount and move on.
For buyers, the trade represents a long-term bet on CRV, purchasing a claim that is partly backed today and could increase in value if CRV recovers. The proposed pool would utilize Curve's Stableswap design, with a 1% swap fee and liquidity centered around 71% solvency rather than full value. This means the pool would not treat the distressed token as if it were worth one dollar on the dollar but would price it closer to the amount currently backing it.
Liquidity providers in the new pool would earn swap fees and any CRV incentives allocated by Curve's DAO. Admin fees would partly accrue in the distressed vault token itself, which Egorov has asked the DAO to keep rather than convert, slowly moving some of the bad debt onto Curve's balance sheet through trading activity.
The timing of the proposal adds weight, as it comes after an attacker exploited Kelp DAO's LayerZero bridge, releasing 116,500 unbacked rsETH worth about $292 million, and Aave now faces up to $230 million in bad debt. The industry response has been a coordinated bailout through DeFi United, a recovery effort that has raised approximately $160 million of the roughly $200 million needed so far. Egorov presents Curve's pool as a different model, building a market for distressed claims and letting buyers decide the price, rather than passing the hat across the industry. If this proves to be a successful pilot study, it could be applied to similar difficult situations at Curve or other protocols.