How Can Impermax Offer Undercollateralized Loans?

No one else is doing this kind of lending

Impermax is a protocol for leveraging Uniswap liquidity provider (LP) tokens that allows users to take undercollateralized loans against the value of their LP tokens. This type of system is largely an enigma in the cryptocurrency markets: almost all other DeFi lending applications, such as MakerDAO, Compound, and Aave require overcollateralization in order to secure repayment. The only direct competitor that exists today is Alpha Homora, which has notably been exploited and does not allow for the amount of leverage that can be had on Impermax. So this begs the question: how can Impermax offer this, and what are the trade-offs?

A different structural design

First, let’s start with the most obvious question: how is this possible? Impermax has been carefully designed with user safety first. As such, the smart contracts that make up the platform are broken up into core (immutable) contracts and periphery contracts, which may be further upgraded based on governance votes. Additionally, all of the lending pools on Impermax are isolated from one another. This means that one bad token pair cannot affect the stability of the other token pairs. This unique feature also allows users who provide liquidity for borrowing to earn a yield in only one token, and ensures they will not suffer from impermanent loss. The specific values and calculations for determining maximum leverage can be found in the whitepaper, but depending on the value of the safetyMargin parameter, the maximum leverage that can be taken for stable pairs is about 20x.

Impermax keeps leveraged funds farming

What are the tradeoffs here? This question is far simpler to answer. While most DeFi lending arrangements allow users to use their borrowed funds any way they want, Impermax keeps leveraged (undercollateralized) LP tokens farming yields for that user only. For comparison, if a Compound borrower sends their borrowed funds to an exchange and never repays, the collateral is liquidated to repay the lender. A bad actor on Impermax can’t send or trade their borrowed funds if they are using leverage so they can’t run away with the lender’s funds. They must de-leverage closer to matching collateral before they can send the borrowed funds anywhere. Fortunately, the required collateral on Impermax is much less because the value of the LP token collateral is always matched to the value of the borrowed funds.

Choose your risk level

The next obvious tradeoff is the assumption of more risk; Uniswap LP tokens cannot be liquidated if they are not borrowed against. By adding the ability to borrow against these LP tokens, the risk of liquidation becomes present. Due to the design of Impermax, this risk is easily quantified. Users are displayed with the updated liquidation price of their LP tokens, where the price is calculated as the Uniswap Time-Weighted Average Price (TWAP) with a minimum interval of 1 hour.

Moving risk from those who want less risk to those who want more risk

So, what does this mean for an end user? Uniswap liquidity providers can take their UNI-V2 tokens and deposit them into Impermax in order to borrow against the cumulative value of the token pair. Additionally, users can not only borrow against the value of their LP tokens, but also leverage the LP tokens in order to earn more yield with more risk. On the other side, users who wish to earn a yield by providing single-sided liquidity to Impermax that may be borrowed by the Uniswap LP token holders can do so and earn a yield that is completely isolated from all of the other pairs and their yields. The borrower must be careful that the relative price of the tokens comprising the LP token that they deposited does not fall below that of their liquidation price, else the LP tokens can be liquidated to pay off their debt and they will lose some or all of their deposit. The risk of liquidation can be mitigated by paying off all or a portion of the borrowed funds, which will adjust the collateralNeeded parameter and as such the liquidation price.

Increase or decrease your risk at the moment it’s needed

Impermax is all about giving users a choice — the choice to assume a higher level of risk to achieve a higher level of passive return, as well as the choice to provide single-sided liquidity. With more choices, the DeFi market will be able to facilitate a more vibrant and expanding economy.