Ever wondered how to make money in DeFi beyond just holding tokens? Welcome to the exciting world of liquidations—a chance to profit while keeping lending platforms like Aave and Pike running smoothly. Whether you’re new to DeFi or looking to level up, this blog will show you how liquidations work, how you can cash in, and what to watch out for.
What Are Liquidations in DeFi?
In DeFi lending, borrowers don’t just borrow money—they have to deposit more collateral than the amount they borrow. This is called over-collateralization, and it’s the safety net that keeps platforms solvent. For example, if you borrow $100, you might need to lock up $150 in crypto.
But here’s the catch: if the value of that collateral drops too far (say, due to a market crash), the loan becomes risky. When a borrower’s health factor dips below 1, their loan can be liquidated. That’s where you come in—a liquidator can step in, repay part of the debt, and claim some of the collateral at a discount. It’s a win-win: the platform stays healthy, and you pocket a profit.
How Can You Profit from Liquidations?
- Become a Liquidator:
- What You Do: Watch for loans that are about to be liquidated (health factor < 1) and swoop in to act.
- How You Earn: Repay part of the borrower’s debt and get their collateral at a discount—often 5% or more below market value.
- Pro Tip: Use tools like on-chain data trackers or bots to spot these opportunities fast. Some platforms even offer ready-made liquidation bots!
- Lend Assets:
- Why It Works: Liquidations protect lenders by ensuring loans get repaid, even if borrowers default.
- Your Benefit: Enjoy more stable interest rates and lower risk as a lender, thanks to liquidators keeping the system in check.
For most people chasing profits, becoming a liquidator is the real action—it’s active, hands-on, and potentially lucrative.
Example: Liquidation on Aave V3 Ethereum
Let’s walk through a scenario:
- Initial Loan Setup: A borrower deposits 10 ETH (worth $30,000 at $3,000/ETH) as collateral and borrows $15,000 USDC
- Liquidation Threshold: 83%
- Liquidation Penalty: 5%
- Market Movement: ETH’s price drops to $1,807. The collateral’s value decreases to $18,070, his Health Factor drops below 1. The loan is now undercollateralized and eligible for liquidation.
Liquidator’s Role:
- A liquidator repays 2.5 ETH worth of USDC (up to 50% of the borrower’s debt).
- The liquidator receives ETH collateral at a 5% discount. The liquidator claims 2.625 ETH.
- By selling this ETH at market value, the liquidator earns a $226 profit.
Risks for Liquidators
While liquidation can be profitable, it’s not without risks:
- Market Swings: If the collateral’s value keeps tanking after you claim it, your profit could vanish.
- Gas Fees: High network fees (especially on Ethereum) can shrink your earnings.
- Competition: Other liquidators might beat you to the punch—speed matters!
- Platform Rules: Each platform (Aave, Compound, etc.) has its own liquidation quirks—read the fine print.
- Smart Contract Risks: Rare, but bugs in the code could throw a wrench in your plans.
Liquidations in DeFi lending platforms offer a unique way to earn profits while contributing to the ecosystem’s stability. By understanding how the process works and managing risks, seasoned users can position themselves to take advantage of these opportunities.
About Pike
Pike is a modular money market with built-in DEX capabilities delivering superior capital efficiency for lenders, borrowers, and traders. It offers highly competitive rates through cross-chain interest rate arbitrage and above industry standard liquidity utilization rates.
Learn more: https://www.pike.finance/
Join the Discord: https://discord.gg/pikefinance
Community Dashboard: https://community.pike.finance Docs: https://docs.pike.finance/
*Disclaimer: This educational content prepared by community members is for educational purposes only and not financial advice. DeFi evolves quickly, so always DYOR. If you spot any inaccuracies, let us know!