Bancor suspends DeFi Impermanent Loss Protection when users need it most

DeFi tokens stacking up the gold coins cos they're pumping.
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Citing “hostile market conditions,” Bancor has decided to suspend its main service, Impermanent Loss Protection, effective immediately. The decentralized finance (DeFi) platform is also banning deposits.

“We have observed anomalies, if not manipulative behavior, occurring in the data. Therefore, we are taking bold measures to protect the protocol,” Bancor said in a blog post on Monday. “This is a temporary measure to protect the protocol and its users.”

Impermanent loss is a major problem in DeFi. Typically, users provide two tokens into a pool in a 50:50 value ratio. For example, a simple pool might have 1 ETH and 1,158 USDC (price at press time). Here, values are perfectly balanced.

However, as people trade in the pool, the ratio will become unbalanced. One token will become more expensive within the pool than on third-party exchanges.

To resolve this imbalance, an Automated Market Maker (AMM) will sell the token that is rising in price on a third-party exchange. Obviously, this is an indispensable function. Without AMM selling, DeFi pools would regularly experience parabolic, near-infinite prices. Instead, AMMs maintain fair prices by selling the pool’s expensive asset on other exchanges.

As a result, all DeFi liquidity pools slowly lose value over time. Because holding two tokens in a pool is subject to AMM sales, the value of a pool will always be less than simply holding those two tokens in a wallet. This is impermanent loss.

How Bancor’s Impermanent Loss Protection was supposed to work

Bancor’s flagship offering was Impermanent Loss Protection. Incredibly, it claimed users could “stake with confidence knowing you’ll get back 100% of your original deposit.”

Well, that confidence is broken. As of this week, users don’t know if they’ll receive back their original deposit. Without Impermanent Loss Protection, depending on how much liquidity users are withdrawing from any particular pool, users could receive back far less than they originally deposited.

Moreover, Bancor’s decision to prohibit deposits means users cannot rebalance pools to reduce their impermanent loss.

Bancor’s Project Architect Mark Richardson spoke on Twitter Spaces for an AMA on Monday. On the call, he claimed that “deposits being disabled is strictly an ethical decision,” (our emphasis).

He told listeners that because users interact with Bancor programmatically or via API, he thought “it would be much better just to force all deposit actions to revert, that way no one is committing to something that they might not know that they’re committing to.”

Richardson didn’t seem concerned about market advantages this action granted to depositors who added liquidity shortly before Bancor’s deposit ban.

According to Bancor’s official blog post on the matter, “there is no ongoing attack and funds on the protocol are secure.” However, Richardson explained a wholly different reality. “We found another Celsius wallet that was gonna withdraw $10 million from the protocol,” Richardson said in the AMA.

Must be the fault of evil short-sellers

Richardson continued ringing alarm bells: “There’s also been a sort of a wave of additional panic on the protocol that resulted in a very, very large amount of withdrawals piling up, and so it really started to look something like a bank run event where it would be difficult to imagine the the protocol withstanding such a large flight of liquidity all at once,” (our emphasis).

He blamed the event on “a hostile antagonist against the Bancor protocol.” He claimed this antagonist was “creating short positions” and “trying to manipulate the BNT price down.” BNT is Bancor’s ICO token from 2017 that raised $153 million.

The market reaction to Bancor’s service suspension has been decidedly negative. Already, over 230 people have quote-tweeted Bancor’s announcement of the service suspension. One user asked, “If your car insurance took a pause when you got into a car crash… was it ever really insurance?”

Decentralization theater.

Read more: Celsius was once a $28 billion empire — it collapsed 88% this year

Another user had a similar complaint: “What’s the point of Impermanent Loss Protection if it just disappears when you need it the most?”

Richardson claims Bancor will reactivate Impermanent Loss Protection as soon as the market stabilizes ⏤ “within a few days” in his estimation.

Bancor’s troubled history

Bancor (BNT) has a contentious history. On January 9, 2018, it was worth $10.72. Today, BNT has collapsed 95% to $0.52.

The project originally claimed to be a “digital decentralized clearinghouse for cryptocurrencies.” However, a clearinghouse is something of a controlled term that typically requires licenses and registration. As DeFi Summer 2020 heated up, Bancor soon switched marketing messaging toward Impermanent Loss Protection.

Harmed investors have tried suing the project. One plaintiff, in Holsworth v. BProtocol Foundation et al in the Southern District of New York, claimed that Bancor and its co-founders sold BNT as unregistered securities in the US. The company countered that BNT tokens are not securities.

Curiously, Bancor began blocking US residents in June 2019 from trading on its application due to “increased regulatory uncertainty.”

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