"Ask not what liquidity can do for you, but what you can do for liquidity" - JFK
Liquidation-Free Leverage lets users have all the benefits of leverage, but avoid liquidation by paying a funding rate instead.
This gives users a choice between paying less but potentially getting liquidated versus paying more but guaranteeing themselves a floor value. Itos users can apply this to any positions they want, and can freely opt into and out of liquidation protection at will. No epochs, no lock-ups, no expiry.
Quick Primer
Normally, when someone uses leverage they deposit a collateral to open a position worth more than their collateral. If the position loses more value than their collateral's worth of value they get liquidated, the user losses their collateral, and there is no chance of recovering.
Instead that person could have chosen to opt into liquidation protection. Perhaps they're using a perp, or just borrowing and lending. Regardless, with a single click they can opt in and start paying a minor reservation fee. This fee is typically small, and the main premium is only paid when they're actually close to liquidation. By paying this fee, they can protect their collateral to any value. They can choose to protect 0%, 30%, 50%, etc and this moves their liquidation price.
When they're near the liquidation price the fee becomes much larger, but keeps their position alive. Even if the value goes down to 0%, they can recover. Once they're past the liquidation price, the position remains at the protected collateral value, and the fee actually goes back to the small reservation amount. Most importantly, their position remains alive.
Under the hood, we open Automated Market Taking positions for the user which is what guarantees the collateral floor. At any point the user can close their position and retrieve the remaining collateral. Most importantly, if the price recovers then aside from the fees, their entire position has recovered as if nothing happened.
Examples
Borrow & Lending
A user lending 5000 USDC and borrows 1 ETH worth 2000 USDC.
They opted into liquidation protection with a default setting of 5%.
They pay 5 cents a day for reserving this protection.
The position normally liquidates if the price of ETH goes to 5000 USDC.
The default liquidation protection range is thus 4750 USDC to 5000 USDC (95-100%).
The price of ETH goes up to 4000 USDC. We're approaching the liquidation price, but nothing changes yet.
The price of ETH goes to 4800 USDC. They're in the protection range which means they start paying higher fees. A typical fee rate is around 30 cents an hour they're in range.
ETH goes to the moon and hits 6000 USDC. They're no longer in range so they're back to paying only 5 cents a day. At any point the user can close the position and retrieve the 5% they protected, but instead they wait.
ETH goes back down to 3000 USDC. They're over-collateralized again and the user can withdraw up to 2000 of their USDC lend if they'd like as if nothing happened.
They can turn off the protection, stop paying fees, and go back to borrow/lending as if nothing happened.
Perpetuals
A users opens a BTC perp at a price of 50,000 USDC with 10x leverage. They put down 5000 USDC as collateral.
If the price goes up to 60K, they make 10K of profit, but if the price goes down to 45K, they would normally get liquidated.
They choose to open liquidation protection at a price of 48K by paying the protection's funding rate.
Now if the price goes down to 45K, they're protected at 48K and stay at a value of 3000 USDC. They can close right now to collect back the 3000 USDC.
Instead they wait, if the price goes above 48K their collateral starts gaining in value again. They can also close the protection then.
Leveraged Real-Hedged V3 LP
A user borrows 900 USDC and supplies 100 USDC of their own money to open a concentrated liquidity positions (they swap a bit to meet the deposit ratio).
They real hedge the position at 10% meaning they guaranteed a floor value of 900 USDC.
When in range they earn fees, but they also pay a funding rate for the hedges. Users typically choose these ranges so the earned fees outweigh the hedge cost. Let's assume that's true in this case.
Say the position is earning net fees of 30% and will experience 20% loss from IL giving the position a net PnL of 10%.
So they earn 10% on the position worth 1000 USDC, thus profiting 100 USDC.
But they were leveraged 10x because they only supplied 100 USDC, thus they earned 100% returns on their deposit.
The only way they could have been liquidated is if the position went out of range, down to the floor value, and the funding fees accrued outweigh the fees earned. This is why typically users don't borrow the entire floor value, instead they leave a little as extra fee collateral to be used if needed.
A normally leveraged V3 LP would simply have been liquidated the moment it LP went below 900 USDC in value. With hedges, our LP can depreciate to any value, even 0, and we can recover as long as the fees are paid.
