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How Does Over-Collateralization Protect a Derivative Smart Contract?

The collateral value exceeds the debt value, creating a price buffer to prevent immediate liquidation during market volatility.
Greeks.Live05.11.25

How Does Over-Collateralization Protect a Derivative Smart Contract?

Over-collateralization means that the value of the collateral locked in the contract is intentionally greater than the value of the loan or potential loss. This buffer protects the contract against sudden, sharp drops in the collateral's price due to market volatility.

It ensures that even a rapid price decline does not immediately trigger a liquidation or leave the counterparty with an under-secured position. It is a key mechanism for maintaining solvency in volatile DeFi markets.

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