The Concept of Collateralization in the DeFi Lending Industry
As everyone is aware, the term “DeFi” stands for Decentralized Finance and it is one of the more popular concepts that has emerged within the crypto industry. The DeFi industry is a very broad industry and has spanned many products and services under its wing such as derivatives, dexes, assets, and payments. One of the more important products provided by DeFi is the DeFi Lending Protocol. As with the DeFi indsutry, the DeFi Lending sector is also one of the fastest growing sectors with the highest lending growth rate in blockchain, even outperforming DEXs and DeFi payments in terms of its ROI. The DeFi Lending Protocol functions similarly to traditional banks by offering users loans except in this case, it is done so in a trustless environment without the involvement of any third party. The DeFi Lending Protocols link together lenders and borrowers in a decentralized manner, allowing them to borrow and deposit cypto asset to earn or pay interest.
The Benefits of DeFi Lending
DeFi Lending provides many more advantages over traditional banks in many ways. For instance: DeFi Lending Protocols can offer much better interest than banks saving accounts. It can also provide greater speed, flexibility and utility for users. Here are some other advantages of DeFi Lending over traditional banking.
Transparency — Smart contracts are able to handle the lent and borrowed assets and save it in the blockchain for everyone to verify.
Easier Access to Asset — As there’s no middleman, DeFi lending platforms enable peer to peer lending and borrowing, offering much easier access for users.
Price Efficiency — The ability of DeFi to attract more users quickly in a financial disclosure can promote price efficiency.
Censorship Resistance and Immutability — Decentralization guarantees there’s no preferential treatment and equal right to information and opportunity are maintained, with transactions saved in blockchain promising immutability.
Collateral and Collateralized Loans
A small part of the DeFi Lending Protocol is the use of Collateral Loan. What is a Collateral? Collateral is defined as putting up something as a guarantee when you borrow money. This is to ensure that if you can’t pay back your loan, your collateral will be used to pay your debt. The concept of collateral is the same for DeFi as well. The key difference between traditional collateralization and DeFi collateralization is that collateralizing a loan on any DeFi Lending Protocol (Platform) will require the borrower to over-collateralize the loan.
This means that in order to take out the loan, the value of the collateral will need to exceed the value of the loan. For example: MakerDAO requires its borrowers to collateralize their loan, at minimum, of 150% of the loan value. However, most individuals will collateralize their loans well over 200%. This is done to give investors a nice padding in the case of any volatility in the crypto markets and to avoid the liquidation penalty.
HDAO NFT Minting System Collateralization Ratio
HyperDAO’s NFT Minting System also utilizes the collateralization ratio as the risk parameter to the system and will require users to maintain a minimum collateralization ratio of 200%. This would mean that users would be able to mint a maximum of 50% of their property’s value in stablecoins. The collateralization ratio will also provide the first level of safety for the platform’s users as it minimizes the risk of over-leverage. The collateralization ratio can be adjusted via community consensus through HyperDAO’s governance protocol. Different types of assets can also have different types of collateralization ratios. HyperDAO also has numerous other risk parameters in place to ensure the smooth operation of the HyperDAO NFT Minting System. HyperDAO hopes that the placement of these risk parameters will work in conjunction with the other function to ensure that the success of the HyperDAO NFT Minting System and help realize the on chain ecology for all real world assets