Quick take:
- Liquity is considered a simplified version of MakerDAO, with the main products being Stability Pool and Stablecoin LUSD.
- Liquity’s operating model focuses on ensuring the stability of the stablecoin LUSD token, instead of focusing on capturing value for the project’s Utility token, LQTY.
- The potential market of Liquity is the entire DeFi market.
Overview of Liquity (LQTY)
Liquity is a decentralized Borrowing protocol similar to the Maker DAO. In Liquity Protocol, users lock collateral to open Collateralized Debt Positions (CDPs, in Liquity call them Troves). The system then lends the user LUSD from the system – a stablecoin pegged for $1.
The two main and essential components of the project are the LUSD Stablecoin and the LQTY Utility Token:
- LUSD Stablecoin is a type of Stablecoin that is collateralized only by ETH and is kept stable at peg 1 LUSD = 1 USD.
- Liquity (LQTY) is the project’s Utility token, only used for Staking and Earn Protocol generated during Borrow & Redeem LUSD.
Liquity is one of the recent prominent Lending projects. After more than 3 months of development, the project has achieved many remarkable achievements, Stablecoin LUSD is currently a stablecoin with market capitalization ranked 8 on the market according to Coingecko statistics.
This article will help you:
- Understand how Liquity works.
- How Liquity captures value for LQTY token.
- The future and vision of Liquity.
Please refer to it for more investment perspectives.
Before starting with Liquity, you should refer to the Maker DAO’s operating model first, or open the article in a new tab and leave it parallel, because in this article I will have many angles to analyze and compare. with Maker DAO so that you can easily compare the pros and cons of the two projects.
How Liquity works
Liquity currently has 3 main components:
- Trove: Helps manage collateralized debt positions (CDPs).
- Stability Pool: The mechanism makes liquity liquidate debt positions simpler and more efficient, making it possible for Protocol to allow a minimum collateral rate of only 110% instead of 150%.
- Staking Pool: Staking LQTY to earn part of Borrowing Ree and Redeem Fee.
We will learn about how these products work in turn.
Trove
To be able to start interacting with Liquity, the first thing you need to do is open a Trove to help manage your mortgage positions, similar to the concept of CDP (Collateralized Debt Position) but Liquity calls it a different name. A user can open one or more Troves.
The mint/redeem stablecoin LUSD mechanism is as follows:
Mint & Redeem mechanics will go like this:
Mint:
(first) Users will Deposit ETH into their Trove.
(2) The minimum mortgage rate is 110%, in fact, to avoid liquidation, users borrow less, usually 300% (ie deposit 300$ ETH, borrow 100 LUSD), Liquity does not collect Stability Fee like Maker DAO , the one-time fee protocol is 0.5% (at the moment).
Redeem:
(first) When the user wants to repay the loan and get the collateral back. User will return borrowed LUSD + % Redeem fee.
(2) Trove unlocks the collateral, and the user gets his or her assets back.
Stability Pool
The unique feature of Liquity is that the system only needs to maintain a minimum collateral ratio of 110% instead of 150% like Maker DAO, to do this, the system introduces a new architecture called Stability Pool , how it works is as follows:
After borrowing LUSD from Liquity Protocol, users can deposit LUSD into Stability Pool to earn collateral from liquidation. The Stability Pool acts as a backstop for the Liquity system to allow the project to maintain a minimal collateral ratio without fear of the protocol being indebted.
- When a CDP drops to 110%, the protocol liquidates the debt position immediately using the Stability Pool (if needed).
- In return, stability pool providers will receive liquidated collateral in the amount of lost LUSD, plus a 0.5% borrower liquidation penalty in the form of ETH.
- Liquity implements LP Mining as incentives to incentivize LUSD holders to deposit LUSD into the Stability Pool.
Staking Pool
As I have shown above, when Minting LUSD or when Redeem LUSD, users will have to pay a fee in the form of LUSD and ETH. LQTY holders have to staking LQTY to receive this fee.
Analysis of the main parameters of Liquity & LUSD
Collateral Ratio – Mortgage Ratio
Although the minimum collateral rate is 110%, the total collateral rate of the whole Liquity Protocol falls in the range of 300%, this means that for every $300 worth of ETH deposited into Liquity, 100 LUSD will be minted.
Peg
The value of LUSD is kept fixed around the $1 mark. When the LUSD price fluctuates, there are mechanisms to adjust the price.
Price stabilization mechanism
Where LUSD falls below $1
The market price of LUSD is trading at
- Users with a debt position in the protocol buy LUSD from the secondary market.
- Then pay the delivery debt and eat the profit difference.
Where LUSD rises above $1
The market price of LUSD is trading at > $1, Since the price of LUSD is still $1 in the Liquity Protocol system, users will have an opportunity to arbitrage by:
- Load collateral into Liquity to borrow more LUSD.
- Then sell them on the market to enjoy the price difference.
How Liquity captures value for LQTY token
LQTY is Utility token and Liquity Protocol capture value for LQTY only one way is Staking LQTY token in Staking pool to receive fees arising from Minting & Redeem LUSD process.
Currently, there are more than 4.9M LQTY Tokens staking in the Staking Pool, worth more than $31M, the total fee collected from Minting Fee & Redeem Fee is more than $550K at the time of writing (including 14.45 ETH & 525,688 LUSD).
Overall, the total fees generated are quite small when compared to the market cap of LQTY & LUSD.
The Future of Liquity and LQTY
As a Debt Protocol, the goal of Liquity is of course to expand the demand for LUSD, when the Demand for LUSD increases, the Protocol Revenue earned from Minting & Redeem activities will also be larger.
At the moment, LUSD use cases & integrations are very limited, the project needs more integrations and widely applied in DeFi protocols, some potential use cases:
- Collateral in Debt Protocols.
- Liquidity pairs on AMMs.
- Farming Pool.
Comments and conclusions
Overview of the operating model of Liquity and LUSD, we draw some main points as follows:
- LUSD is an over-collateralized stablecoin with a minimum collateralized of 110%, but the actual collateralization of the whole system falls in the 300% range.
- Liquity is one of the recent prominent Lending projects. After more than 2 months of development, the project has achieved many notable achievements, Stablecoin LUSD is currently the 8th largest market capitalization Stablecoin according to Coingecko statistics.
- Liquity generated revenue (Minting Fee & Redeem Fee) and captured for LQTY through Staking Pool.
- LUSD’s DeFi integrations and use cases are very limited.
Disclaimer: All information contained in this article is intended to provide readers with the latest information in the market and should not be considered investment advice. Crypto investment is a very risky form of investment, readers need to learn carefully before investing and should only participate with capital that can be lost.