DeFi margin trading is hampered by persistent issues such as over-collateralization and liquidation risk. Some decentralized apps address these challenges.
Decentralized Finance (DeFi) is reinventing financial services by relying on decentralized and trustless networks to cut out middlemen and give users full control. This emerging blockchain sector is a powerful alternative to traditional finance. A popular use case in DeFi is lending, which accounts for about 25% of the total value locked (TVL) in DeFi protocols.
Margin trading in DeFi
One of the reasons DeFi lending is attractive is because it facilitates on-chain margin trading and allows crypto holders to earn higher returns by taking on more risk. This involves leveraging crypto assets to generate potential profits.
Margin trading is a key feature of centralized finance, but implementing this approach in DeFi is more difficult as the sector presents some inherent challenges. First of all, one of the problems with DeFi lending is over-collateralization. Users are often required to commit 150% or more of the loan value before receiving financing. This over-collateralization is the price that has to be paid for taking out loans without a credit rating or carrying out know-your-customer (KYC) procedures.
For example, DeFi platforms like Aave or Maker allow users to collateralize their Ether (ETH) holdings to borrow stablecoins like USDC without any verification process. The borrowed USDC can then be exchanged for additional ETH, which can be re-collateralized in a cycle and act as a margin trading strategy. However, this approach has its pitfalls. If the value of ETH or other volatile collateral declines, users risk liquidation, which is an essential requirement to protect lenders. The risk is made even more apparent by over-collateralization requirements.
Therefore, crypto margin trading in DeFi is a double-edged sword. On the one hand, it offers the potential for higher profits in bullish markets and is accessible due to collateral. On the other hand, the risks are significant as market downturns can lead to total liquidations.
How this DeFi lending platform enables safer margin trading
The DeFi space is evolving and the latest protocols are trying to address current challenges by introducing new approaches. An example is Nolus, a Layer 1 chain based on the Cosmos SDK. Nolus’ flagship product is DeFi Lease, an easy-to-use application that connects lenders and borrowers in a trusted network. The app addresses some of the biggest problems with DeFi, including over-collateralization, high liquidation risk, and the lack of true asset ownership.
The non-custodial cross-chain solution is reshaping margin trading by offering the following features:
- Efficient lending. Nolus’ DeFi lease system increases investments by up to 150% and reduces security requirements by a factor of three.
- Lower liquidation. The protocol has a lower risk of liquidation due to its flexible approach. First, it claims that the liquidation threshold is 40% below the industry average and a maximum drop in the asset price of 65% will be tolerated before taking action. In addition, Nolus introduced the partial liquidation approach, where assets are partially, rather than fully, liquidated when the maximum loan-to-value (LTV) is reached. This feature reduces the risk of sudden losses and allows borrowers to retain more of their assets even during market downturns. Additionally, users benefit from having more time to restore their positions to healthy levels.
- Retention of title. Users gain access to the underlying leveraged assets through whitelist strategies.
- Cross necklace. Nolus avoids fragmentation by focusing its liquidity exclusively on stablecoins, enabling seamless access to massive liquidity pools across different blockchain networks.
- Seamless liquidity. With its focus on stablecoin liquidity, Nolus ensures that borrowers can diversify their asset exposure without having to navigate multiple loan pools.
Source: Nolus
Thanks to its unique approach and features, Nolus is transforming DeFi margin trading by improving the balance between risks and potential rewards.
By combining efficient lending practices with novel features such as reduced liquidation thresholds and the partial liquidation mechanism, the platform offers a safer and more intuitive experience for crypto traders looking to exploit DeFi opportunities.
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