The weekend of March 11 - 12 saw Aave experience $300k in insolvencies due to USDC price volatility, triggered by the closure of Silicon Valley Bank (SVB), which held approximately 25% of USDC assets. Gauntlet, who flagged the USDC price anomalies, recommended pausing Aave v2 and v3 to halt liquidations and avoid realizing mark-to-market insolvencies at highly dislocated USDC prices. However, the Aave Guardian did not implement this pause. Instead, Aave Guardian froze USDC, USDT, DAI, FRAX, and MAI on Aave v3 Avalanche and set LTV to zero, stopping users from opening new positions but allowing liquidations to continue. This resulted in Aave realizing around $280k in insolvencies from v3 Avalanche eMode and around $20k from v3 Arbitrum. Gauntlet's analysis showed that liquidations increased insolvency risk¹.

Gauntlet conducted an in-depth analysis of the liquidations, focusing on specific accounts' collateral ratios. They found that the collateral ratios for the top 3 insolvent accounts fell steadily as they were liquidated, with the most damage occurring once the USDC price had somewhat stabilized below $1. By 18:00 UTC on March 12, these accounts had fully realized their insolvencies and reached a collateral ratio of near zero. They concluded that the liquidations that occurred while USDC was below ~98 cents were harmful to protocol health¹.

Gauntlet also examined a specific account (0x45b4) that exclusively supplied USDC and borrowed USDT. This account became insolvent once its USDC supply dropped below its USDT debt, even if the USDC price returned to $1. Over the course of March 12, the account’s USDC collateral was drained by recurring liquidations until only the insolvent debt portion remained¹.

While pausing Aave could have reduced insolvencies, it would have also resulted in revenue loss. The expected revenue loss from pausing the markets from March 10 through March 13 was roughly $23k, which is significantly lower than the insolvencies that occurred¹.

Gauntlet recommended pausing Aave v3 Avalanche on March 11 due to the high risk of liquidations increasing realized insolvency. Although the pause was not implemented, stablecoins on Aave v3 Avalanche were later frozen, preventing users from opening new positions. As of March 14, the risk exposure has changed substantially, with insolvencies not beginning until USDC drops below 90 cents. This indicates that the potential insolvencies have mostly been realized and the current composition of the loan book is significantly less risky than before. As a result, Gauntlet recommended unfreezing the markets on March 15¹.

In conclusion, the discussion highlighted the impact of USDC price volatility on Aave's insolvencies and the role of liquidations in exacerbating the situation. The analysis by Gauntlet provided valuable insights into the dynamics of the situation and offered recommendations for mitigating such risks in the future. The discussion also underscored the need for careful risk management in the face of asset price volatility.