Liquidation is a critical process within the Unlockd platform, designed to maintain the balance and security of the lending system. It's essential for both borrowers and lenders to understand how liquidations work, as they play a key role in the platform's risk management strategy.

What Triggers a Liquidation

  • Health Factor Breach: Liquidation is initiated when a borrower's Health Factor falls below 1. This typically occurs when the value of the collateral no longer adequately covers the value of the borrowed debt. Such a situation can arise if the collateral's value decreases or if the borrowed asset's value increases disproportionately.

  • Market Volatility Impact: Fluctuations in the market can affect the value of both collateral and borrowed assets, potentially leading to scenarios where the collateral is insufficient to secure the debt.

Liquidation as a Protection Mechanism

  • For Lenders: From the lender's perspective, liquidation acts as a safeguard. It protects against extreme price drops that could lead to under-collateralization and, consequently, liquidation.

  • For Borrowers: Borrowers face the risk of losing their collateralized assets permanently in a liquidation event. This happens when the protocol allows another party to repay the borrower's debt in exchange for the collateralized asset following the breach of the Health Factor threshold.

Avoiding Liquidation

As a borrower, you can avert liquidation by closely monitoring your Health Factor and taking action if it approaches the critical threshold.

  • Depositing Additional Collateral: Boosting your loan's Health Factor by adding more collateral can help maintain the necessary buffer against market volatility.

  • Partial Loan Repayment: Repaying part of your loan is often more effective in increasing your Health Factor compared to depositing additional collateral, especially considering the impact of LTV ratios.

The Consequence of Liquidation: Loss of ownership

In the event of liquidation, borrowers permanently forfeit ownership of their collateralized assets. This underscores the importance of proactive loan management and understanding the inherent risks.

Liquidation, while serving as a necessary mechanism to protect the integrity of the lending system, can have significant consequences for borrowers. It is essential for users of Unlockd to understand the dynamics of liquidation, how it's triggered, and the steps that can be taken to prevent it.

Careful management of your assets and awareness of market conditions are key to maintaining a healthy loan status on Unlockd.

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