Curve's founder, Michael Egorov, has put forth a market-driven approach to address approximately $700,000 in bad debt associated with LlamaLend, the platform's lending arm. Egorov proposed a free-market based recovery method with an option-like payoff, allowing participants to invest in the effort, in a governance post, stating that Curve DAO is invited but not required to participate. The bad debt is a result of the October 10 crash, which led to a significant decline in CRV's value, causing lenders in the CRV-long market to be left with deposits backed by only about 70% of their stated value. To address this issue, Egorov suggests packaging the affected lender positions into a tokenized vault, enabling traders to buy and sell them through a dedicated Curve pool.
The goal of this approach is to provide trapped lenders with an exit option while allowing outside buyers to determine the value of the distressed claims. 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 approach offers trapped depositors a choice: they can either wait for CRV's recovery or sell their vault tokens at a discount and move on.
For buyers, the trade represents a long-term bet on CRV's recovery, with the potential for the token's value to increase if CRV's price rises. The token has an interesting option-like property, with its fair price and price floor increasing if CRV's price goes up, and remaining unchanged if CRV's price goes down. Liquidity providers in the new pool would earn swap fees and any CRV incentives allocated by Curve's DAO. The proposal comes at a time when the DeFi industry is dealing with the aftermath of a significant exploit, which resulted in Aave facing up to $230 million in bad debt.
While the industry response to Aave's situation has been a coordinated bailout effort, Egorov's proposal presents a different model, where Curve would build a market for distressed claims, allowing buyers to determine the price. If this approach proves successful, it could be applied to similar situations at Curve or other protocols in the future.