DeFi Forced Liquidations to Increase as Ethereum (ETH) Prices Free Fall

Two DeFi apps, dydx and MakerDAO, liquidated $3 million of Ethereum (ETH) to cover for issued loans. But the bloodbath may continue.

Not because there is now use and demand for loans and above-rate interest rates, but because of sliding ETH prices.

Ether is the choice of most DeFi dapps because most are launched from Ethereum, the most active and the most developed smart contracting platform.

DeFi is a natural evolution in Finance

Notably, the onset of DeFi meant that users can borrow money without paper work and intermediation. Smart contracts lead processes and all that is needed is ETH as collateral and loans issued in stable coins, DAI.

Conversely, USDC is one of the leading stable coins that is accepted from most DeFi dapps as an asset that can be lent out and issuer rewarded with high interest. Interests that are better than those offered in centralized institutions.

The logic is that as long as there is a demand for DeFi loans and more investors angle to earn high interest from lending out their coins, DeFi rates will always be high, and get higher especially when prices drop.

Relationship with Ethereum (ETH) Market Performance

This is so because DeFi loans is directly correlated to ETH market performance. When prices edge higher, collateralization ratio drops due to higher prices.

On the flip side, when prices fall, the collateralization ratio, which is usually 1:1.5, sparks a liquidation of issued loans.

The number of outstanding loans, or the total value of Locked Loans, fall.

Earlier this month, the total number of locked loans held by DeFi apps rose above the $1 billion mark.

Bears could lead to more DeFi Liquidation

Ostensibly, the amount of ETH collateralized for loans rose because of trending prices.

ETH was bullish, outperforming Bitcoin, and analysts were projecting higher prices thanks in part to new users flocking to DeFi, issuing out ETH for loans, or lending out ERC-20 tokens to earn rates, and other on-chain developments including the smooth migration to Ethereum 2.0.

But that has since changed.

The sharp rise has now paved way for bears and ETH is $20 shy from $200, a psychological point. Similarly, the amount of ETH locked in DeFi has fallen below $1 billion, and is not at $933 million.

A recent assessment revealed that up-to $3 million worth of ETH were liquidated to cover for issued loans.

With falling ETH prices, it is highly likely that there will be more liquidations and further drops in value locked by DeFi apps.