Soft liquidations

The first line of defense

How does veUSD closely follow the price of USD?

The ability to soft liquidate veUSD for collateral at face value (i.e., 1 veUSD for $1 of collateral) and to mint veUSD at a 100.5% collateral ratio against USDC establishes a price floor and ceiling, respectively, through arbitrage opportunities. These are referred to as "hard peg mechanisms" since they rely on direct processes.

What are Soft liquidations?

Soft liquidations involves depositing veUSD into other users' Vaults and withdrawing an equivalent risk adjusted value of collateral. The soft liquidation process depends on the Safety Ratio of each collateral. Only collaterals with Safety Ratio < 1 can be Soft liquidated. When assets are entered into the soft liquidation mechanism, users can redeem them at a discount determined by the Individual Collateral Ratio (ICR) and the Safety Ratio of the asset.

Vaults cannot be soft liquidated if the ICR of the vault is higher than 150% (Unless the protocol is in recovery mode)

The discount is calculated using the following equation (The discount is expressed as a percentage):

$$Discount = \frac{(1 - SR) \times ( 1.5 - ICR)}{0.4}$$

This equation ensures that the higher the ICR of a Vault, the lower its discount. For example, if a Vault enters the soft liquidation mechanism with an ICR of 150%, the discount will be 0. Additionally, the equation allows for a maximum discount equal to the Safety Ratio of the asset.

When collateral gets redeemed, a user soft liquidating the vault will be partially paying the veUSD debt. The system cancels the veUSD debt from these Vaults, deducting the corresponding risk adjusted value from their collateral.

Do i lose money if i'm soft liquidated against?

If your Vault is soft liquidated against, you may incur a net loss depending on your ICR. Additionally, you will lose some of your collateral exposure. While your Vault might experience a financial loss, its collateral ratio will improve after the soft liquidation.

What happens if my vault is soft liquidated against?

The reduction in your collaterals corresponds to the nominal veUSD amount by which your vault debt is decreased. You can think of soft liquidations as someone else repaying your debt and retrieving a RAV equivalent amount of your collateral. As a positive side effect, soft liquidations improve the collateral ratio of the affected vault, making it less risky.

Liquidations that do not reduce your debt to zero are called soft liquidations, while those that fully pay off a vault debt are referred to as full liquidations. In such cases, your vault is closed, and you can claim your collateral surplus along with the Liquidation Reserve at any time.

Let’s say you own a vault with 1 EDGE collateralized and a debt of 2,500 veUSD. The current price of EDGE is $4,000and the Safety Ratio is 0.9 .

This puts your collateral ratio (CR) at 144% (= 0.9 * 1 * (4,000) / 2,500). Let’s consider that 150% is the threshold in the Vaultedge system for a vault to be eligible for soft liquidation, look at an example of a soft liquidation:

Example of a soft liquidation

Somebody redeems 2000 veUSD for 0.50761 EDGE (veUSD repayed) and thus repays 2000 veUSD of your debt, reducing it from 2,500 veUSD to 500 veUSD.

In return, 0.50761 EDGE $= 2000 / (4000 * ( 1 - Discount ))$, worth $2,030.44, is transferred from your vault to the liquidator. Your collateral goes down from 1 to 0.4923 EDGE, while your collateral ratio goes up from 144% to 354% = (0.9 * 0.4923 * 4,000) / 500).

Incurring in a loss of 0.00761 EDGE.

Can I be soft liquidated if my ICR is above 150%?

If veUSD falls below $1, the soft liquidation mechanism is designed to generate enough demand to restore its peg. However, there may be cases where there aren’t enough vaults eligible for soft liquidation.

In such scenarios, if the demand for veUSD remains insufficient to bring it back to $1, the Minimum Redemption Ratio (MRR) will be increased, enabling vaults to be soft liquidated at a higher Individual Collateral Ratio (ICR). Importantly, these liquidated vaults will not incur a net loss.

The MRR will continue to be raised until there is enough demand to restore veUSD to its $1 peg.

Can I soft liquidate multiple assets in the same transaction?

Although this action is technically permitted at the smart contract level, our frontend does not support it because the discount will not apply to multi-collateral soft liquidations. Therefore, we strongly advise against soft liquidating multiple assets simultaneously, as it may result in a loss.