Understanding Liquidation Risk with Sendit

This document provides a detailed walkthrough of Sendit's liquidation process, designed to minimize user impact by only selling the necessary amount to restore a healthy Loan-to-Value (LTV) ratio. It highlights potential risks in volatile or illiquid markets and offers practical scenarios to help users understand and manage their exposure effectively.

Step 1

Begin by exploring the concept of liquidation risk. Sendit's liquidation mechanism aims to minimize user disruption by selling only the required amount to bring your position back to a safe LTV range.

Step 2

Partial liquidations can lead to losses on the liquidated portion of your collateral. In markets with high volatility or low liquidity, rapid price changes can result in more aggressive liquidations than anticipated. For instance, if multiple users are close to the maximum LTV simultaneously, a significant market drop can initiate a cascading liquidation effect, where liquidations themselves drive prices lower, leading to further liquidations.

Step 3

The risk is greater in small-cap or thinly traded tokens with limited liquidity and volume across DEXs and CEXs. A liquidation on Sendit occurs when your loan-to-value ratio (LTV) exceeds 75%.

Step 4

Your LTV indicates the proportion of your borrowed amount relative to your collateral's value. For instance, a 70% LTV implies you've borrowed 70% of your collateral's current value.

Step 5

This can change more rapidly than expected, even without a market crash, due to two potentially volatile factors. Let's explore three scenarios to understand why this occurs. The first scenario is when the price of SOL increases.

Step 6

Debt on Sendit is denominated in SOL. When Solana's price increases, the value of your debt rises as well. For example, if you deposit $1,000 worth of FART coin and borrow $700 in SOL, your LTV is 70%.

Step 7

If Solana's price increases by just 8%, your debt increases to approximately $756, raising your LTV to 75%, which puts you at risk of liquidation. Scenario two involves a decrease in your collateral's price.

Step 8

If the value of your token decreases, your collateral's worth diminishes while your debt remains constant. For instance, if you deposit $1,000 of Useless and borrow $700 in SOL, a 6-7% drop in Useless value would reduce your collateral to about $933, pushing your loan to a 75% LTV again.

Step 9

These are the two critical variables to monitor. The third scenario occurs when both variables change simultaneously. If Solana appreciates while your collateral depreciates, your LTV escalates rapidly.

Step 10

This illustrates how users can be liquidated even if the overall market hasn't significantly declined. In such cases, Sendit automatically sells a portion of your collateral to repay enough debt to secure your loan. You retain the remainder, although that portion is permanently reduced.

Step 11

Remember, liquidations are not punitive measures. They exist to safeguard users and the system from more substantial losses.