Borrowed money bites the dust: Bored Ape NFTs encounter liquidation & BendDAO nears bankruptcy.

Almost 3% of the Bored Ape NFTs have been collateralized by the NFT lending platform BendDAO, and several other NFTs have also entered the "danger zone" of liquidation.

Dozens of Bored Ape Yach Club non-fungible tokens (NFTs) (1) have been utilized as collateral for acquiring loans and are now perilously close to being forcibly sold while giving a hint that could trigger even more liquidations.

BendDAO (2) is a peer-to-peer lending service allowing users to borrow ether ETH for NFTs, where customers can ideally obtain loans equal to 30% to 40% of the NFT collection’s floor price, depending on the minimum cost to purchase on the open market with NFTs pledged as collateral.

The issue is developing at BendDAO as floor prices have dropped significantly in recent months to the point where 45 of the 272 Bored Apes linked to BendDAO loans are now in the platform's "danger zone," meaning the NFT is on the verge of being auctioned off and, in other words, Bored Apes worth $5.3 are in danger of being liquidated.

As BendDAO is popular among NFT collectors, it also means that the scope of any fire sale could become massive, while as of now, 272 Bored Apes tied to BendDAO represent 2.72% of the entire BAYC NFT collection. Mass liquidations could also impact other NFT lending services that have risen to prominence in the past year following the NFT industry’s popularity explosion.

With BAYC NFTs being one of the most well-known NFT collections, cascade liquidations could impact beyond the Bored Apes. Given that the NFT floor price did not rise and fall in a single day and that short-term changes in that price are normal, it seems unlikely that the NFT will collapse very soon.

Most of the Bored Apes that are at the risk of being liquidated were bought months ago when the floor price was 125 ETH (3), and ever since then, it has fallen over 70 ETH on a broader NFT route. Collectors who used their Bored Apes as collateral can simply collect the NFT by paying off the loan plus interest to the site.

The issue lies in the mechanics of NFT trading, wherein the floor price will adjust as ETH’s price fluctuates against the U.S. dollar. And despite ETH’s climb from $1,000 to $2,000 in the past month, lending services remained denominated in their originally lent token, which caused some Bored Apes to be liquidated at higher dollar prices than purchased.

The more high-priced NFTs go for sale in the form of liquidation auctions, and collectors have begun window shopping for the discounted prices of these NFTs. Bids on auctioned NFTs on BendDAO must be within 5% of the collection’s floor price, regardless of how appealing the NFTs might be to the bidder.

When Franklin (4), a fervent NFT collector, overtook other users as the platform's biggest borrower, it became a well-known NFT incident that attracted the attention of many. Franklin, the owner of 60 Bored Apes, borrowed 10,000 ETH ($17.5 million) from BendDAO, but he finally paid it back.

Similar to many other incidents in the crypto and NFT industries, this illustrates how powerful "whales" can be for competitors, as an individual user's actions have the power to endanger an entire ecosystem and destabilize the market.

What led BendDAO to encounter such circumstances?

BendDAO ran out of wrapped Ether (5) wETH in its contract. At the time of writing, it only has 15 wETH (6) to pay for lenders, and an estimated 15,000 Ether is pending. Since its inception in March, the platform has lent out 56,000 ETH to NFT holders, especially being popular among 272 Bored Apes being collateralized with the platform.

Some users use the unlocked utility to purchase tangible products, while others place calculated cryptocurrency bets. The platform's stringent guidelines state that there is a high minimum bid threshold for those seeking to take the collateral and a 48-hour lock-up for bidders. Prolific NFT traders were first put off from participating by ETH, leaving them vulnerable to being burned in a bear market if the value of NFTs keeps falling.

What went wrong was that when BendDAO set initial specifications, it overestimated how illiquid NFTs would become during the bear market. Better late than never, they've finally devised a proposal to boost platform liquidity by reducing bid requirements and cutting lock-up times.

Since then, the balance has rebounded to about 7,479 ETH as major borrowers have been rushing to save their NFT collaterals (7) that are at risk of default and willing buyers who then showed up to snap up discounted NFTs. The BAYC collapse primarily caused a bank run as the supplying loans yanked their funds from the platform, causing BendDAO's total wallet holdings to drop from 10,000 ETH to 5 ETH.

Impacting the NFT market

The governance proposal made by BendDAO to the DAO community governance could change the terms of their lending business going forward and even delay or prevent the collapse. Like DeFi (8) lending and borrowing protocols, BendDAO uses an external price to determine when to liquidate a borrower's position, which is problematic given how NFTs are valued.

In contrast to cryptocurrencies, NFTs are valued by their lowest floor price, which makes sellers unaware of what their NFTs are worth to buyers. Even though OpenSea's (9) trade volume statistics indicate there isn't enough money to acquire NFTs at their current market value, there is undoubtedly enough money to purchase NFTs.

Each NFT will be sold for the lowest price possible, which is currently the collection's floor price, which is already down 55% from its high in 2021, if there are not enough buyers willing to pay 1360 ETH for the 20 BAYC NFTs that are due to enter liquidation. This will further compress the market and may also cause BAYC NFT collection prices to "death spiral" and other NFT prices to plummet across the market in a wave of utter panic.