By Femi Babatunde
Co-founder, Savecoins Technologies.
Most people with access to financial services have either gotten loans in the forms of overdraft to short or long-term loans; ranging from a month to 12 months. Loans are contracts of agreements between two parties.
Some important information in a loan agreement includes APY or APR to be repaid, duration of the loan, personal details of both parties and total expected amount to be repaid.
Crypto-backed Loans
Have you ever wanted to get Fiat (Ngn, USD) to spend without selling your crypto-assets? Well, there’s a way to do that, all you need to do is to get a loan using your crypto holdings or a crypto portfolio as collateral for the loan!
How does it work?
This Image is a pictorial representation of the flow involved in Crypto-Backed loans.
When you want to use your crypto holdings (asset(s) or portfolio) to get a Fiat loan to spend, there are a few things you need to understand. They are;
· Collateral ratio
The percentage of a loan secured by a discounted asset is known as the collateral coverage ratio (more on that in a second). For lenders, the lower the ratio, the higher the risk; the larger the ratio, the lower the risk.
In comparison to regular loans, getting a crypto loan is quite simple.
Depending on how much collateral you have, you will be given a loan amount.
The loan-to-value ratio is calculated by dividing the loan amount
by the value of the collateral.
Example
you have BTC holdings worth $20,000 and you urgently need cash (let’s say 10,000 USD) without wanting to sell your assets at all, what do you do? you use your BTC as collateral to get a loan.
How the Collateral ratio works with the above example
Because of the Volatility in the value of BTC compared with the stable value of fiat (USD, NGN), the lender (Savecoins) will allow the User to overcollaterize by 150% of his intended Loan of (10,000). i.e., if he wants to get a loan of 10,000 USD in Fiat, the user will have to use 15,000 USD value in BTC as collateral.
What happens when the value of your collateral keeps dropping?
If the value of your collateral drops nearly below the loan amount, you will get a notification call to add more collateral just to keep your Loan afloat. In Finance, this notification you get is called a Margin call (There is an interesting film on Netflix about this!) A Margin call is a call to a borrower or investor to add more liquidity (Money) to keep his Loan or Investment position afloat.
If your Loan position (value of BTC) goes below your Loan to value ratio, (below 95% of the collateralized assets) without adding extra liquidity, the user will get a liquidation call that takes the loan value of 10,000 USD as a repayment of the Loan.
What happens when the value of your collateral keeps appreciating?
If the price of the asset you collateralize your loan for keeps appreciating, your loan position is in a positive position and all you have to pay is a little interest when you decide to repay the loan either with fiat or the crypto assets you collateralized with
Why collateral ratio, Margin call & Liquidation call?
I am sure you probably wondered why and what exactly are the reasons for these?
The reason for a collateral ratio is to reduce the risk on the lender. This is because Crypto-assets can be volatile and taking a loan for Fiat with crypto as collateral requires higher collateral value from the borrower.
A Margin Call is to inform a User that his Loan position is getting closer to the Loan to Value ratio and he needs to add more Liquidity to keep the loan afloat
A Liquidation Call notifies the User that his Loan position has been liquidated because the price of the collateral asset keeps dropping.
How will Crypto-Backed Loans work on Savecoins?
As a Savecoins user who wants Fiat (USD, NGN) but does not want to touch the crypto portfolio or assets, all needed is to collateralize the assets for a loan. Details on the Collateral ratio will be provided and the remaining process automated.
Image credit ; www.youhodler.com, btcloans.org
