Automated Loan Protection
Last updated
Last updated
When a user creates a loan in the $MONEY protocol, they must lock up some collateral that backs up the value of the $MONEY they created. In a typical lending protocol, if the price of their collateral drops too low, all of the collateral would get liquidated, which is a very harsh and unpleasant user experience. The Automated Loan Protection system is here to prevent that unpleasant experience from happening.
When a user sets up their loan, they decide how much collateral to deposit and how much $MONEY to borrow. These two decisions then determines where the Conversion range for that particular loan will be placed. The conversion range is the first piece of the puzzle for understanding how the Automated Loan Protection system works.
The conversion range is the price range where your collateral can be sold to cover the health of the loan, but also used to buy back the collateral if the collateral increases in price. If your collateral's price goes into the conversion range, this is where the Automated Loan Protection system takes over to manage your collateral. It is there for protecting your collateral if the price of the collateral dropped too quick for you to respond to and adjust the loan prior, but it is still recommended that you try to avoid your loan entering this mode for your own sake as trading fees get involved.
The conversion range is set further away from the current price of your collateral the more collateral you deposit versus the amount of $MONEY you borrow (hence safer).
The price range is a structured set of price bands, each band representing a portion of your collateral which would get traded into $MONEY if the collateral dropped to that price. The reason we have a range like this, and why the collateral would partially be traded into $MONEY, is two-fold:
The loan is backed by the collateral, and if the total value of the collateral drops too close to the amount of $MONEY loaned, instead of trading everything to repay and close the loan, we can do partial conversions into $MONEY, only as much as is needed, to ensure the loan is still backed.
The $MONEY that is gained from trading part of the collateral asset can be kept and included with the collateral and still owned by the user, as we have no reason to repay and close the loan while it is still backed. So if a user's collateral is partially converted, their collateral is now a combination of a portion of the original collateral plus a new addition of $MONEY, which together still cover the loan. And neatly, we now have a way to buy back the collateral that was sold if the price of the collateral goes back up again, using that new portion of $MONEY!
Being able to buy back the collateral if its price goes back up again is what puts the "protection" in the Automated Loan Protection name. If there is short-term price volatility that makes the price of your collateral asset swing down and back up again, you now can be protected from losing your collateral if the price only dipped into the conversion range but not fully through it. Of course it can't prevent you from full liquidation if the price dips too far, but that is where setting the conversion range at a comfortable distance from the current price matters, which defi.money also helps with.
When your collateral's price dips into the conversion range, it triggers your loan into entering the Collateral conversion mode. This means the protocol has begun managing your loan to ensure it stays healthy. While in this mode, bands of your collateral gets converted into $MONEY or back into the collateral depending on which direction the price of the collateral moves.
An important thing to note here is that while your loan is in Collateral conversion mode, you cannot add more collateral into the loan, as the price bands have been "locked in" during the Collateral conversion mode to ensure conversion happens as fairly as possible for you. The options you do have are the following:
Do nothing and let the protocol manage the loan for you
Fully repay the loan and close it (this way you could open a new loan and add more collateral if you wish)
Partially repay the loan
To learn more about the Collateral conversion mode click here.
If the price of your collateral dips fully below the conversion range while your loan health is negative, the loan unfortunately closes automatically for you, also known as getting liquidated. This means that all of the collateral has been converted to $MONEY automatically and then used to pay back the $MONEY loan you created. The $MONEY you borrowed in the first place is still yours, meaning you do not have to repay anything if liquidation has occurred.
To learn more about how liquidation works in defi.money click here.
