Risk Capital Requirements

The OUSD protocol employs a quantitative framework for determining the minimum amount of capital required to safeguard against both baseline and dynamically evolving risks. At its core, this framework separates “base risk” from “dynamic risk” to capture the spectrum of potential risks. The base risk buffer is calculated using historical volatility metrics and the maximum permissible position size, while dynamic risk adjustments account for variables such as shifting market liquidity and protocol-specific vulnerabilities.

Example: Lending AMO Risk Capital Analysis

Consider a lending market where OADA serves as collateral. In this scenario, borrowers can draw up to 80% of the collateral’s value (i.e., an 80% Loan-to-Value ratio), and liquidations trigger at 90% LTV. This 10% gap between the highest allowable borrowing level and the liquidation threshold serves as an initial safeguard against modest price dips. However, two critical factors necessitate additional risk capital:

1. Market Volatility Historical data shows that ADA’s hourly price can drop by as much as 20% under extreme market conditions. If a sharp decline occurs before the system can initiate liquidation, collateral values could plunge, quickly imperiling overextended loans.

2. Liquidation Delay Network congestion or other bottlenecks may delay liquidations for up to one hour, allowing further price deterioration during this window. Prolonged liquidation times significantly magnify default risk.

To address these contingencies, the protocol maintains a 10% risk capital reserve for the total value of loans in the sOADA pool. For every 100 OADA in open loans, 10 OADA of dedicated capital must be held in reserve. This buffer provides a failsafe against simultaneous worst case scenarios: a 20% market crash, delayed liquidations, and multiple positions requiring immediate liquidation. By implementing conservative collateral buffers and scaling them in proportion to the loan book, the protocol significantly reduces the likelihood of cascading liquidations and systemic insolvency.

Mathematical Formulation

The protocol’s risk capital requirement is defined by the following relationship:

Base Risk Buffer = Maximum Position Size × Historical Volatility × Time to Resolution

Required Risk Capital = Base Risk Buffer + Dynamic Risk Addition

This structure ensures that as the lending AMO expands, its protective capital reserves scale accordingly, providing robust defense against extreme market turbulence.