Liquidation Management
Although their is a downside protection offered to borrowers but their is a limit to that downside protection depending on the current volatility in the market. Mostly, users won't be liquidated till their collateral value becomes equivalent to the stablecoin credit taken by borrower. At this moment, we turn liquidation to protocol and dCDS users advantage by liquidating the borrower collateral assets and nullifying any kind of downside protection offered to that user.
Different Approaches of managing Liquidation
The Liquidation in the protocol will be managed through a combination of 2 approaches as mentioned below
dCDS depositors Acting as Liquidators
Protocol will cover the total owed USDa amount by the borrower from dCDS capital by taking the required USDa debt including borrowing fees from dCDS users pool who have opted for liquidation gains. In return, the protocol will share the liquidated assets with them. Thus, users who have opted for liquidation gains in dCDS will be accruing higher than average yields.
Below is a scenario where liquidation gains are accrued back to the dCDS users Assuming collateral is ETH and price of ETH is $2000 or 2000 USDa
As the ETH price fell to 20% of the deposited price or when LTV turns 100% then the Liquidation Process kicks in At LTV = 100% Total ETH value = 80% of Deposited Price Total amount to be captured through dCDS Protection = 20% from dCDS pool So, We have a total value of 1600 at this moment. Out of this amount, we will return the entire ETH collateral and 20% of the captured USDa back to the dCDS Pool. This way we are able to protect 400 USDa of dCDS value which would otherwise would have went away for Borrower protection. But since the borrower has defaulted so now a portion of that amount will be returned back to dCDS Pool
Since 0.5 ETH is in external protocol so getting back that amount will cost some fees. Suppose that fees is f. Also, we have the interest on borrowed amount i.e br which was not returned So, Total amount returned to dCDS Pool = 1 ETH + 400 USDa - Br -f
A small percentage of 400 USDa will be sent to our (USDa : ABOND) Pool which will help increase the total amount of USDa in the pool and thus will help increase the value of ABOND.
In this scenario, any of the dCDS holders can act as a Liquidation agent but the minimum deposit amount requirements will be higher for them.
Pro-active Action by borrowers through ABOND asset incentives
We manage liquidation by minting ABOND asset. However, we can still wait for liquidation to happen and then take action. We will proactively act to protect the protocol against any liquidation or strive to earn some yield until the liquidation happens (in two ways):
Earning yield from collateral deposited - We will split the collateral value into two parts half of the collateral will be deposited in some other protocol to earn yield, and half of the collateral will be kept here to offer downside protection in our See-Saw function.
Minting of ABOND asset at various stages will be done when the collateral value is 90% of the borrowed amount and when the collateral value has touched 80% of the borrowed amount. When the collateral value touches 80% of the borrowed amount, we give them ABOND asset in return for stablecoins. We will apply some Liquidation discount before giving ABOND asset. This mechanism will ensure that we do not have to take our collateral back from an external protocol which might charge us some fees and lose out on yield on the collateral deposited.
If Di is the debt in stablecoin taken by the borrower bi, then at 100% LTV
Di = Ci * Ei
Rt denotes the value of collateral ETH at time t
So, the health of the borrowing position,
Hi = ( Ci * Rt ) / Di = (Ci *Rt) / ( Ci * Ei) = Rt / Ei
The health of the borrowing position will mainly vary from 0 to 2 approx. Considering that with the rise in the value of Hi, the borrower has increased incentive to close his position and take the increase in value. We will mint ABOND asset at different stages.
When Hi approaches 0.9, the ABOND asset will be minted based on the below formula:
If the market price of ABOND asset = Pm
ABOND asset = [( Ei - Rt) * 2] / Pm
When Hi approaches 0.8, we will mint the ABOND asset again. We will use a Hypothetical Liquidation discount (U) to determine the value of the ABOND asset minted for Liquidators.
ABOND asset = [0.1 * ( Ei - Rt) ] / Pm
Here, Hi of 0.9 & 0.8 are dependent on the ETH volatility and dCDS volumes/Borrower volumes
Liquidator will get = 1.1 * [( Ei - Rt) / Pm] and it will be a direct call from the user (depositor of that particular index cannot be a Liquidator/user).
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