The supply of Ethena's USDe stablecoin has surged dramatically, primarily driven by the Pendle-Aave looping strategy.

Recently, the supply of Ethena's decentralized stablecoin USDe surged by approximately $3.7 billion in just 20 days. This rise is mainly attributed to the Pendle-Aave PT-USDe looping strategy. Currently, Pendle has locked approximately $4.3 billion in funds, accounting for 60% of the total USDe supply, while the funds deposited in Aave amount to around $3 billion. This article will delve into the PT looping mechanism, the drivers of growth, and the potential risks.

Core Mechanism and Yield Characteristics of USDe

USDe is an innovative decentralized stablecoin pegged to the US dollar. It does not rely on traditional fiat or crypto asset collateral to anchor its price, but instead achieves this through Delta-neutral hedging in the perpetual contract market. Specifically, the protocol holds a long position in spot ETH while shorting an equivalent amount of ETH perpetual contracts to hedge against ETH price volatility risk. This mechanism allows USDe to algorithmically stabilize its price and obtain income from two sources: staking rewards on the spot ETH and the funding rates in the futures market.

However, the returns from this strategy are highly volatile, primarily because they depend heavily on the funding rate. The funding rate is determined by the difference between the perpetual contract price and the ETH spot price (i.e., "mark price"). In a bull market sentiment, traders tend to open high-leverage long positions, driving up the perpetual contract price, thereby creating a positive funding rate. In this case, market makers will arbitrage by shorting the perpetual contract and going long on the spot.

On the contrary, under bearish market sentiment, an increase in short positions can cause the price of ETH perpetual contracts to fall below the mark price, resulting in a negative funding rate. For example, recently, AUCTION-USDT experienced a spot premium due to spot buying and perpetual contract selling, leading to an 8-hour funding rate reaching -2% (annualized approximately 2195%).

Data shows that from 2025 to now, the annualized yield of USDe is about 9.4%, but the standard deviation is as high as 4.4 percentage points. This dramatic fluctuation in returns has generated strong demand in the market for more stable, predictable yield products.

Pendle's Fixed Income Conversion Mechanism

Pendle, as an automated market maker (AMM) protocol, can split yield-bearing assets into two types of tokens:

1. Principal Token (PT): Represents the principal that can be redeemed on a specified future date. It trades at a discount, similar to a zero-coupon bond, and its price gradually returns to par value over time.

2. Yield Token (YT): Represents all future earnings generated by the underlying asset before the expiration date.

Taking PT-USDe, which expires on September 16, 2025, as an example, PT tokens typically trade at a price lower than the maturity value (1 USDe). The difference between the current price of PT and its maturity value (adjusted for remaining time to maturity) reflects the implied annualized yield (i.e., YT APY).

This structure provides USDe holders with the opportunity to lock in a fixed APY while hedging against yield fluctuations. During periods of historically high funding rates, the APY has exceeded 20%; currently, the yield is about 10.4%. Additionally, PT tokens can earn up to 25 times SAT bonus on Pendle.

Pendle and Ethena have thus formed a highly complementary relationship. Currently, Pendle's total locked value (TVL) is $6.6 billion, of which approximately $4.01 billion (about 60%) comes from Ethena's USDe market. Pendle addresses the yield volatility issue of USDe, but there is still room for improvement in capital efficiency.

Aave Architecture Adjustment Supports USDe Circulation Strategy

Recent key architectural adjustments by Aave have cleared the way for the rapid development of the USDe loop strategy:

1. Aave DAO has decided to directly peg the price of USDe to the USDT exchange rate, nearly eliminating the main risk of large-scale liquidations caused by price decoupling.

2. Aave has started accepting Pendle's PT-USDe as collateral directly. This change simultaneously addresses the issues of insufficient capital efficiency and yield volatility, allowing users to leverage PT tokens to establish fixed-rate positions, significantly enhancing the feasibility and stability of circular strategies.

High Leverage PT Cycle Arbitrage Strategy

To improve capital efficiency, market participants have begun adopting leveraged loop strategies, which is a common arbitrage trading method that enhances returns through repeated borrowing and redepositing.

The typical operation process is as follows:

1. Deposit sUSDe.
2. Borrow USDC at a loan-to-value ratio (LTV) of 93%.
3. Convert the borrowed USDC back to sUSDe.
4. Repeat the above steps to achieve approximately 10 times effective leverage.

This leveraged cyclical strategy is popular across multiple lending protocols, especially in the USDe market on Ethereum. As long as the annualized yield of USDe is higher than the borrowing cost of USDC, the trade can maintain high profits. However, once the yield plummets or the borrowing rates spike, profits will be quickly eroded.

PT Collateral Pricing and Arbitrage Opportunities

When pricing the collateral for PT, Aave adopts a linear discounting method based on the implied APY of PT, using USDT as the anchor price. Similar to traditional zero-coupon bonds, Pendle's PT tokens will gradually approach par value as the maturity date approaches.

Historical data shows that the appreciation of the PT token price relative to the borrowing cost of USDC has created a significant arbitrage opportunity. The introduction of leveraged cycles has further amplified this profit space, with approximately $0.374 earned for every $1 deposited since last September, resulting in an annualized return of about 40%.

Risks, Linkages, and Future Outlook

Historically, Pendle's yields have significantly exceeded borrowing costs, with an unleveraged average spread of about 8.8%. Under Aave's PT oracle mechanism, liquidation risk is further reduced. This mechanism features a floor price and a kill switch. Once triggered, the LTV (loan-to-value ratio) will immediately drop to 0, freezing the market to prevent bad debt accumulation.

Taking Pendle's PT-USDe September expiry product as an example, the risk team set an initial discount rate of 7.6% per annum for its oracle, allowing for a maximum discount of 31.1% under extreme market pressure (circuit breaker threshold).

Interconnections of the Ecosystem

Due to Aave underwrite USDe and its derivatives at par with USDT, market participants are able to execute loop strategies on a large scale, but this also tightens the risk connections between Aave, Pendle, and Ethena. Whenever the collateral supply limit is raised, the fund pool is quickly filled by users of loop strategies.

Currently, the supply of Aave's USDC is increasingly supported by PT-USDe collateral, while users of the looping strategy borrow USDC and then invest in PT tokens, making USDC structurally similar to a senior tranche: its holders earn a higher APR due to high utilization and are generally protected from bad debt risk, unless extreme bad debt events occur.

Scalability and Ecological Benefit Distribution

Whether this strategy can continue to expand in the future depends on whether Aave is willing to continuously increase the collateral cap for PT-USDe. The risk team currently tends to frequently raise the cap, for example, an additional proposal of 1.1 billion USD has been put forward, but it is subject to policy regulations that each cap increase cannot exceed twice the previous cap and must be spaced at least three days apart.

From an ecological perspective, this circular strategy brings benefits to multiple participants:

• Pendle: Charges a 5% fee from the YT end.
• Aave: Extract 10% of the reserve fund from USDC lending interest.
• Ethena: Plans to take about 10% of the revenue after the fee switch is activated in the future.

Overall, Aave provides underwriting support for Pendle PT-USDe by anchoring to USDT and setting a discount limit, allowing the circular strategy to operate efficiently and maintain high profits. However, this high-leverage structure also brings systemic risks, as any party encountering issues could create a ripple effect among Aave, Pendle, and Ethena.