Comment on page
The value of an LP token is always backed 50-50 by the underlying tokens in the token pair. In order to determine how much collateral is necessary for borrowing and ensure borrowers can’t borrow more than the value of their collateral, the Leverage Finance needs to reliably calculate the value of LP tokens.
The collateralization model in Leverage determines the collateral needed for a loan, given the safety margin and liquidation incentive parameters for the lending pool.
These safety margin and liquidation incentive parameters work to ensure that even after a volatile price swing in the underlying tokens, there will always be enough collateral to both repay the loan and pay a liquidator in the event of liquidation.
Nearly every decentralized lending protocol, including the Leverage Finance, relies on timely and swift liquidations to ensure the stability of loans.
Leverage offers a liquidation incentive (currently 2%, and ranging from 1% to 5%) to liquidators in exchange for liquidating, or buying out, at-risk loans. Anyone can be liquidator as long as they provide the necessary tokens to repay the loan.
When a borrower’s position is liquidatable, up to the entire borrowed balance can be repaid by a liquidator. Once liquidated, an amount of the borrower’s collateral equal to the value of repayment plus the liquidation incentive is seized from the borrower and transferred to the liquidator in exchange for repaying the borrowed token amounts.
As an example, when a liquidator repays an entire borrowed balance, they will receive 102% of the value of the repaid amount as collateral seized from the position. This process helps to ensure borrowers keep their positions sufficiently collateralized to avoid penalization.
Borrowers should periodically monitor their Current Leverage and Liquidation Prices for outstanding leveraged positions to ensure they are sufficiently collateralized.
Liquidation doesn’t necessarily mean losing 100% of LP equity. After a borrower’s position is liquidated, the borrower keeps any remaining collateral (and debt, if the entire borrowed balance is not repaid) for the position.
Borrowers may choose from a number of strategies to avoid liquidation:
- Choose lending pools with more stability. Token pairs with higher volatility have a greater chance of going above or below the range of Liquidation Prices.
- Choose a smaller amount of leverage, with a wider range of Liquidation Prices, when you open a new leveraged position.
- Monitor your leveraged positions, especially during periods of high volatility, and decide whether you want to deleverage.
Finally, you may choose to supply tokens instead of borrowing. Supplied tokens have no risk of impermanent loss or liquidation. You can supply tokens in the Lend tab for any lending pool.