How Does a CDP Create Leverage for a User in Decentralized Finance? ⎊ Path

How Does a CDP Create Leverage for a User in Decentralized Finance?

A CDP allows a user to create leverage by borrowing against their assets without selling them. For example, a user can deposit ETH into a CDP, mint stablecoins, and then use those stablecoins to buy more ETH.

This new ETH can then be deposited into another CDP to mint more stablecoins, and so on. This process, known as 'leveraged farming' or 'recursive leverage', magnifies the user's exposure to the price movements of the collateral asset.

While it can amplify gains, it also significantly amplifies the risk of liquidation if the asset's price falls.

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Glossar

Cdp

Collateral ⎊ The Collateralized Debt Position, or CDP, represents a smart contract mechanism in decentralized finance where a user locks an asset, typically a volatile cryptocurrency, to generate a new asset, often a stablecoin.