AAVE P/E Calcualtion

When I last had an update on Aave, I recommended you stay away for inflation cost reasons. Given the bear market year it almost doesn’t matter what token you were looking at, stablecoins or fiat was the play to make. The price when I last looked at AAVE was $248.69, today it is $52.23. The ETH ratio has about halved as well. Not bad by altcoin standards but not a fun hold. So, maybe with prices in the doldrums it’s worth picking up this year? Let’s have a look at their adoption, revenue projection, and inflation schedule to see where we stand.

To review, there are 3 basic sources of revenue for their platform.

1) Origination fees. So small as to be negligible, totaling to thousands per year at most.

2) Flash loans

“From Flash Loans, a 0.09% is collected from the loan amount, from which 70% is redirected as extra income for depositors of the protocol and 30% is split using the same 20%/80% model of the origination fee.”

3) Protocol Reserve Factor. Basically it’s the protocol fee for interest paid by borrowers.

I previously used Aavewatch to fetch raw data on the various types of fees. That’s now defunct. The data I can get now uses aggregates on things like the treasury or from reports like this one. They tell a similar story though. The market is in a more risk adverse position since the UST, VC, and FTX implosions. As a result revenue is down. Activity isn’t just down in USD terms, but in ETH terms as well. According to the linked report net income after grants is about $10M. Going by the Dune Analytics and projecting from the last 90 days the revenue is closer to $12M but there are as many outflows as income. So net revenue is somewhere in the $0-10M range.

Even taking the optimistic end of that the market cap is $741M which puts the PE at about 74 before debasement. That alone isn’t exactly a steal when there are high growth tech stocks in the PE 10-20 range today. Meanwhile, staking incentives are still at 1100 AAVE per day. Even at this low price that’s still $21M in expenses which is greater than any revenue projection I’m seeing. 

The systemic problem with Aave really has to do with their insurance model. The liquidation system of Aave leaves open the possibility of insolvent debt upon liquidation. To hedge against this risk and general smart contract risk they have stkAAVE holders serve as insurers. Now, this is obviously higher risk than Ethereum staking, so it commands a higher APR. That APR comes from inflation but it’s generally just a cost on the system. For the insurance costs to be smaller the the protocol revenue one or more of the following must be true.

1) The insurance pool is tiny compared to the amount of assets being insured. It’s at $193M, against $1.5B in borrows and that’s clearly still more than the protocol can afford. I’ll also note that $193M is dramatically overestimating the value the underlying AAVE could be redeemed more if something seriously bad did happen.

2) The AAVE being issued is near worthless. Well on the way here.

3) Issuance is very low. This doesn’t appear to be changing.

This is all due to the liquidation risk in Aave. However, with things like LLAMA coming out of Curve, we see liquidation systems on the horizon that are more continuous and without the associated Keeper risk and fees. So maybe AAVE v4 will be able to revamp their liquidation system and lead to an eventually profitable system. But that probably won’t happen this year, and so it’s another year that’s a no from me on this token.