Health Factor Distribution

Overview

The health factor of a financial position is a critical metric in decentralized finance, specifically indicating the risk of liquidation. A liquidation eligibility is triggered by a negative health factor. This situation can lead to potential losses for the borrower.

The Health Factor Distribution indicator plays an essential role in financial analysis. It shows the distribution of borrowers according to their health factors, allowing for an assessment of risk across a portfolio. This is especially relevant for stablecoin issuers, as a predominance of low health factors in the supply could indicate a higher risk of solvency issues due to the likelihood of extensive liquidations.

Additionally, the concept of 'bands' within the Health Factor Distribution is used to segment the amount of debt according to specified ranges of health factors. The health of a position is calculated using a specific formula:

Where, 'get_x_down(user)' measures the amount of a particular currency (e.g., crvusd) that can be obtained through a gradual, step-wise sell-off, and 'liquidation discount' is a factor that reduces the valuation of the collateral. This calculation is crucial for understanding the vulnerability of a position to market changes and potential liquidation scenarios.

How can I use it?

This indicator presents useful information both for liquidity providers and liquidators. The greater the amount of loans at risk of liquidation the riskier it becomes for LPs to supply money into the protocol. For liquidators it can be beneficial to analyze during times of market volatility in order to try and anticipate where big liquidations could happen.

Moreover, a more evenly distributed range of health factors indicate that the loans within the protocol are more spread-out across issuers, making it less likely for all of them to be liquidated at once.

A protocol with a high health factor distribution can be more secure for LPs as there is lower likelihood of massive liquidations, which at times may be unprofitable for liquidators due to price impact accrued on DEXs. Therefore, high health factors should make LPs more comfortable with their positions.