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Liquity protocol offers interest-free loans and is more capital efficient than other borrowing systems (i.e. less collateral is needed for the same loan). Instead of selling Ether to have liquid funds, you can use the protocol to lock up your Ether, borrow against the collateral to withdraw LUSD, and then repay your loan at a future date.
For example: Borrowers speculating on future Ether price increases can use the protocol to leverage their Ether positions up to
11 times, increasing their exposure to price changes. This is possible because LUSD can be borrowed against Ether, sold on the open market to purchase more Ether — rinse and repeat.*
*Note: This is not a recommendation for how to use Liquity. Leverage can be risky and should be used only by those with experience.
Collateral is any asset which a borrower must provide to take out a loan, acting as a security for the debt. Currently, Liquity only supports ETH as collateral.
Yes, ETH is the only collateral type accepted by Liquity.
The protocol charges one-time borrowing and redemption fees that algorithmically adjust based on the last redemption time. For example: If more redemptions are happening (which means LUSD is likely trading at less than 1 USD), the borrowing fee would continue to increase, discouraging borrowing.
Other systems (e.g. MakerDAO) require variable interest rates to make borrowing more or less favorable, but do so implicitly since borrowers would not feel the impact upfront. Given that this also needs to be managed via governance, Liquity instead opts for a fully decentralized and direct feedback mechanism via one-off fees.
To borrow you must open a Trove and deposit a certain amount of collateral (ETH) to it. Then you can draw LUSD up to a collateral ratio of
110%. A minimum debt of
2,000 LUSDis required.
A Trove is where you take out and maintain your loan. Each Trove is linked to an Ethereum address and each address can have just one Trove. If you are familiar with Vaults or CDPs from other platforms, Troves are similar in concept.
Troves maintain two balances: one is an asset (ETH) acting as collateral and the other is a debt denominated in LUSD. You can change the amount of each by adding collateral or repaying debt. As you make these balance changes, your Trove’s collateral ratio changes accordingly.
You can close your Trove at any time by fully paying off your debt.
Every time you draw LUSD from your Trove, a one-off borrowing fee is charged on the drawn amount and added to your debt. Please note that the borrowing fee is variable (and determined algorithmically) and has a minimum value of
0.5%under normal operation. The fee is
0%during Recovery Mode. A
200 LUSDLiquidation Reserve charge will be applied as well, but returned to you upon repayment of debt.
Another consideration is the price of LUSD at the time of repayment. If at the time you want to repay your loan LUSD is trading at $1.02 on the market and you need to buy it, you are incurring a 2% 'fee'. You can avoid this by having your borrowed funds readily available or by being able to wait for LUSD to return to peg.
The borrowing fee is added to the debt of the Trove and is given by a
baseRate. The fee rate is confined to a range between
5%and is multiplied by the amount of liquidity drawn by the borrower.
For example: The borrowing fee stands at
0.5%and the borrower wants to receive
4,000 LUSDto their wallet. Being charged a borrowing fee of
20.00 LUSD, the borrower will incur a debt of
4,220 LUSDafter the Liquidation Reserve and issuance fee are added.
Loans issued by the protocol do not have a repayment schedule. You can leave your Trove open and repay your debt any time, as long as you maintain a collateral ratio of at least
This is the ratio between the Dollar value of the collateral in your Trove and its debt in LUSD. The collateral ratio of your Trove will fluctuate over time as the price of Ether changes. You can influence the ratio by adjusting your Trove’s collateral and/or debt — i.e. adding more ETH collateral or paying off some of your debt.
For example: Let’s say the current price of ETH is
$3,000and you decide to deposit
10 ETH. If you borrow
10,000 LUSD, then the collateral ratio for your Trove would be
If you instead took out
25,000 LUSDthat would put your ratio at
The minimum collateral ratio (or MCR for short) is the lowest ratio of debt to collateral that will not trigger a liquidation under normal operations (aka Normal Mode). This is a protocol parameter that is set to
110%. So if your Trove has a debt
10,000 LUSD, you would need at least
$11,000worth of Ether posted as collateral to avoid being liquidated.
You lose your collateral as your debt is paid off through liquidation, i.e. you will no longer be able to retrieve your collateral by repaying your debt. A liquidation thus results in a net loss of
9.09% (= 100% * 10 / 110)of your collateral’s Dollar value.
When you open a Trove and draw a loan,
200 LUSDis set aside as a way to compensate gas costs for the transaction sender in the event your Trove being liquidated. The Liquidation Reserve is fully refundable if your Trove is not liquidated, and is given back to you when you close your Trove by repaying your debt. The Liquidation Reserve counts as debt and is taken into account for the calculation of a Trove's collateral ratio, slightly increasing the actual collateral requirements.
When LUSD is redeemed, the ETH provided to the redeemer is allocated from the Trove(s) with the lowest collateral ratio (even if it is above
110%). If at the time of redemption you have the Trove with the lowest ratio, you will give up some of your collateral, but your debt will be reduced accordingly.
The USD value by which your ETH collateral is reduced corresponds to the nominal LUSD amount by which your Trove’s debt is decreased. You can think of redemptions as if somebody else is repaying your debt and retrieving an equivalent amount of your collateral. As a positive side effect, redemptions improve the collateral ratio of the affected Troves, making them less risky.
Redemptions that do not reduce your debt to 0 are called partial redemptions, while redemptions that fully pay off a Trove’s debt are called full redemptions. In such a case, your Trove is closed, and you can claim your collateral surplus and the Liquidation Reserve at any time.
Let’s say you own a Trove with
2 ETHcollateralized and a debt of
3,200 LUSD. The current price of ETH is
$2,000. This puts your collateral ratio (CR) at
125% (= 100% * (2 * 2,000) / 3,200). Let’s imagine this is the lowest CR in the Liquity system and look at two examples of a partial redemption and a full redemption:
Example of a partial redemption
0.6 ETHand thus repays
1,200 LUSDof your debt, reducing it from
2,000 LUSD. In return,
$1,200, is transferred from your Trove to the redeemer. Your collateral goes down from
2 to 1.4 ETH, while your collateral ratio goes up from
140% (= 100% * (1.4 * 2,000) / 2,000).
Example of a full redemption
3 ETH. Given that the redeemed amount is larger than your debt minus
200 LUSD(set aside as a Liquidation Reserve), your debt of
3,200 LUSDis entirely cleared and your collateral gets reduced by
$3,000of ETH, leaving you with a collateral of
0.5 ETH (= 2 - 3,000 / 2,000).
By making liquidation instantaneous and more efficient, Liquity needs less collateral to provide the same security level as similar protocols that rely on lengthy auction mechanisms to sell off collateral in liquidations.
You can sell the borrowed LUSD on the market for ETH and use the latter to top up the collateral of your Trove. That allows you to draw and sell more LUSD, and by repeating the process you can reach the desired leverage ratio.
Assuming perfect price stability (
1 LUSD = $1), the maximum achievable leverage ratio is
11x. It is given by the formula:
maximum leverage ratio =
where MCR is the Minimum Collateral Ratio.
If Troves are liquidated and the Stability Pool is empty (or gets emptied due to the liquidation), every borrower will receive a portion of the liquidated collateral and debt as part of a redistribution process.