DeFi Lending, Collateral and Liquidation Thresholds
DeFi lending typically lets a user borrow against collateral subject to contract-defined risk limits. Liquidation allows eligible actors to repay debt and seize collateral under specified terms when those limits are breached.
How it works
Loan-to-value compares debt with collateral value. A common health-factor model uses collateral value multiplied by a liquidation threshold divided by debt value. Real protocols may combine assets, interest accrual, caps and oracle rules. Collateral cannot guarantee a safe exit during an abrupt price move or malfunction.
Worked example
Collateral is valued at 1,000, debt at 600 and the hypothetical liquidation threshold is 80%. Health factor is 1,000×0.8/600≈1.33. If collateral value falls to 700 while debt stays 600, health factor becomes about 0.93, below 1 under this model. Liquidation penalties and execution can further reduce the borrower’s remaining assets.
Amounts, prices and scenarios are fictional teaching examples. They exclude any effects not explicitly stated and are not trade recommendations.
Limits and common mistakes
Interest can increase debt even if the posted price is stable. Oracles, smart contracts, governance changes, congestion and collateral depegging create additional failure modes. Never apply one protocol’s thresholds universally or assume an interface warning will arrive in time.
Knowledge check
Can a position become liquidatable without the borrower making another transaction?
Read the explanation
Yes. Collateral prices, debt interest, exchange rates or applicable protocol parameters can change the position’s health after it is opened.
References and further reading
These sources explain the underlying concepts and specifications. They do not endorse QBMFX Academy. Check the relevant market, protocol version and reporting rules before applying an example.