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Economics
LQTY
Liquity offers a unique approach to lending, featuring interest-free loans that are backed by Ether and paid out in LUSD, a stablecoin. These loans necessitate maintaining a fixed minimum collateral ratio of 110%. The Liquity protocol is distinguished by its governance-free and immutable nature. LQTY, the protocol token, entitles its holders to a share of the fees earned by the protocol.
Loan applications are subject to Borrowing and Redemption fees, which are both a function of the redemption rate. The Borrowing fee, ranging between 0.5% and 5%, is remitted in LUSD, while the Redemption fee is settled in ETH and can vary from 0.5% to an undefined upper limit.
When the volume of LUSD redemptions rises — indicating LUSD is trading below its peg — the Borrowing fees are automatically escalated to deter further borrowing. The Redemption fee, on the other hand, acts as a regulatory measure for the redemption velocity, increasing when redemptions occur and gradually decreasing since the last fee event.
Furthermore, an additional 200 LUSD is levied as a Liquidation Reserve during the borrowing process, which is refunded when the debt is repaid. It's important to note that Liquity imposes a minimum debt requirement of 2,000 LUSD. This balance of carefully curated features and checks ensures a sustainable, stable, and user-friendly lending platform.
Standard protocols allow third parties to seize collateral during liquidation when a user's borrow balance surpasses a protocol-defined threshold, posing an insolvency risk. This process is not automated; instead, it is delegated to sophisticated DeFi users who design smart contracts and operations to profitably liquidate users.
Source: Liquity
In contrast to the traditional model, Liquity maintains a Stability Pool filled with LUSD. In cases of loan liquidation, LUSD from the Stability Pool is utilized to repay the loan. Following repayment, the LUSD is burned, and the Ether collateral is distributed to users who contribute LUSD to the pool.
Due to the 110% minimum collateral ratio, most liquidations end up being profitable for Stability Pool participants, as they receive more value in ETH from the collateral than they lose from the LUSD burn. For a more detailed understanding of Liquity's liquidation logic, refer to their official documentation.
To encourage more user participation in the Stability Pool, Liquity provides additional incentives in the form of LQTY token rewards. This strategic move reinforces Liquity's commitment to ensuring stability while simultaneously offering rewarding opportunities for its user base.
Staking
Team and Backing
Liquity is backed by reputable investors and partners such as Polychain Capital, Pantera Capital, 1kx, Tomahawk VC, Robot Ventures and more.
Vulnerabilities and Security
Audits
- Trail of Bits Security Assessment
- Audit by Coinspect
- Trail of Bits Liquity Protocol and Stability Pool Final Report
Risks to LPs of bLUSD-LUSD3CRV
Just like any other form of investing or financial strategy, providing liquidity to the bLUSD-LUSD3CRV pool also comes with its own set of risks. These include:
Impermanent Loss
Impermanent loss is the potential loss a liquidity provider might face if the price of one of the assets in the pool changes compared to when it was deposited. The bLUSD Curve pool is a V2 pool, which mitigates the effects of impermanent loss by only updating price scale when it has offset losses by trading fees earned.
Price Risk
Low liquidity on bLUSD-LUSD3CRV might cause a higher price impact, leading to a potential drop in the price of bLUSD when selling. This risk increases when there's a larger gap between bLUSD's market price and its ever-increasing floor price.
The stability of LUSD’s peg to the US Dollar may be influenced by market sentiment, especially during an ETH flash crash. Although LUSD has historically traded at or above its peg, the possibility of it getting depegged shouldn't be ignored.
The Risk Associated with Yield-Generating Protocols
bLUSD is exposed to the inherent risks of B.Protocol and Yearn, which are used for yield generation. Loss of funds from these protocols/vaults for any reason can severely impact the bLUSD floor price.
B.Protocol: Despite B.Protocol's audit and bounty programs, there still exists a potential risk in extreme market conditions. If the ETH price crashes heavily, causing liquidations to happen below a 100% collateral ratio, there might be losses.
Yearn LUSD vault: While Yearn has been active and patched from a past attack, the potential for undiscovered smart contract bugs exists, which can lead to losses.
Opportunity Cost
There is a risk that the system might reach a state where bonding will not be profitable, which could result in stagnating trades between bLUSD and LUSD and a decrease in vAPY. This would effectively mean that liquidity providers may be better off investing their funds elsewhere, representing an opportunity cost.
It is important to note that while these risks do exist, measures are put in place to mitigate them to the best extent possible. However, as is true with any investment, the potential for loss does exist, and it is crucial for individuals to understand these risks fully before deciding to provide liquidity.
