Liquidations play a vital role in maintaining the stability and integrity of the Curvance protocol by protecting lenders from potential losses. Liquidations are triggered when the value of a borrower’s collateral falls below a defined threshold, known as the Health Factor.
The Health Factor measures an account’s stability and capacity to cover borrowed funds. Calculated as:
Health Factor = Collateral / (Debt * Debt Multiplier)
Where:
Collateral = User's Collateral Value inside the Market
Debt = User's Debt Value inside the Market
Debt Multiplier = Additional requirement to manage market collateral
A Health Factor above 1 signifies sufficient collateral value and a safe position.
A Health Factor below 1 indicates insufficient collateral value, triggering Curvance’s liquidation processes.
The liquidation engine is proactive and designed to protect borrowers from hard liquidations by implementing a linear scale between "soft" and "hard" liquidation levels. The severity of liquidations is continuous as collateral runs out and travels along a linear curve from soft liquidation to hard liquidation. The severity of a liquidation is calculated from a user's lFactor or liquidation factor. A liquidation factor of 0 indicates that no liquidation is possible, whereas a liquidation factor of 1 indicates a full hard liquidation.
Soft Liquidation: A partial liquidation occurs with a small penalty, preserving more of the user's collateral, making Curvance more forgiving during times of low volatility.
Hard Liquidation: Full liquidation with a high penalty if the Health Factor is critically low, meaning Curvance can shed risk faster than other lending protocols in times of high volatility.
Recommendation: Maintaining a Health Factor above 1, ideally at 1.5 or higher during market volatility, is advised to reduce liquidation risk.
Most lending protocols set single-point liquidation levels, creating a trade-off:
Overly Conservative Liquidation Levels: This can lead to premature liquidations, making the user experience less favorable.
Overly Generous Liquidation Levels: This may increase the risk of bad debt within the protocol.
Other lending protocols also tend to only look at three different factors to determine liquidations:
Collateralization Ratio: Determines the maximum borrowing threshold for each asset.
Liquidation Threshold: Equivalent to the Curvance protocol's Hard Liquidation Threshold, this looks at when a position should be liquidated by half or in full.
Liquidation Fee: A fee on the user's collateral value during a liquidation that goes back to the protocol in the form of revenue.
The Dynamic Liquidation Engine allows for more flexibility in determining liquidation thresholds, how much of a position gets liquidated, the fee associated with that liquidation, and the incentives for liquidators in each scenario. This is done using the following configurable values:
Collateralization Ratio: Determines the maximum borrowing amount per $1 of collateral for each asset.
Soft Collateral Requirement: The premium of excess collateral required to avoid triggering a soft liquidation.
Hard Collateral Requirement: The premium of excess collateral required to avoid triggering a hard liquidation.
Soft Liquidation Incentive: The base incentive to liquidate a user position.
Hard Liquidation Incentive: The maximum incentive to liquidate a user position.
Liquidation Fee: The fee the protocol takes from a user's collateral during a liquidation.
Base Close Factor: The % of outstanding user debt that can be closed for a user position.
Liquidation Scenario: Tony has $1,000 of ETH posted as collateral with $900 in outstanding debt. Soft Collateral Requirement = 120%
Hard Collateral Requirement = 110%
Soft Liquidation Incentive = 4%
Hard Liquidation Incentive = 6%
Liquidation Fee = 0%
Base Close Factor = 20% Tony is below their collateral requirement to avoid soft liquidation (1000 / 120% = $833.33 < $900 but avoids a full hard liquidation (1000 / 110% = $909 !< $900)
Tony has a current lFactor = (900 - (1000 / 120%)) / ((1000 / 110%) - (1000 - 120%)) = 88% This results in a liquidation amount of 20% + (100% - 20%) * 88% = 90.4%,
with a liquidation penalty of 4% + (6% - 4%) * 88% = 5.76% Any address could then liquidate Tony by repaying $900 * 90.4% = $813.6 of their outstanding debt and receive $813.6 * 105.76% = $860.46 in ETH from Tony.
This approach balances the user experience and protocol stability, minimizing the risk of sudden liquidations for borrowers while protecting the protocol and lenders against bad debt.