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.
Glossar
Maintaining Solvency
Capital ⎊ This involves the rigorous monitoring and maintenance of sufficient collateral reserves relative to open derivative obligations to absorb potential losses under adverse market conditions.
Over-Collateralization Ratio
Mitigation ⎊ Over-Collateralization Ratio in cryptocurrency derivatives represents a risk management technique where the value of collateral posted by a borrower exceeds the value of the asset borrowed, safeguarding lenders against potential defaults and market volatility.