Ever heard of someone losing their crypto in a DeFi loan overnight? They weren’t hacked. They got liquidated – the number one way beginners lose money in DeFi.
When you borrow in DeFi, you lock up crypto as collateral – like the pawn shop watch from our lending video. But crypto prices move every second, and if your collateral drops, the loan behind it gets risky.
Protocols track this with a number called your health factor. Think of it as a fuel gauge. Above one, you’re driving fine. Hit one, and the engine stops – the protocol automatically sells your collateral to repay the loan. That’s a liquidation.
Example. You deposit a thousand dollars of Ethereum and borrow six hundred in stablecoins. Ethereum drops thirty percent. Your collateral is worth seven hundred, your health factor crosses the line, and a liquidator repays your debt and takes your Ethereum – plus a penalty, often five to ten percent. You keep the six hundred you borrowed. Your Ethereum is gone.
Why does this exist? It protects the lenders. Without liquidations, a crash could leave the pool with bad debt and nobody to pay depositors back.
How to stay safe: borrow well below your limit, keep your health factor above two, set price alerts, and be ready to add collateral or repay when the market dips.
This is educational content, not financial advice – always do your own research.
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