On the other side, as a borrower considering using a Zero-Liquidation Loan for the first time, you might wonder about the reasonable APR and LTV at which you should borrow. For instance, if you want to use your ETH to borrow USDC, what would be a fair APR and LTV for you? While previous articles have explored a theoretical pricing approach (i.e. Black-Scholes Model) to this, there’s another mental model we can refer to: a replication strategy.
Surprisingly, one can use Deribit, a leading marketplace for crypto derivatives, to emulate a Zero-Liquidation Loan and associated payoffs. Let’s explore how this can be done
Zero-Liquidation Loans with Deribit
Let’s imagine a simple theoretical scenario where you hold 1 ETH and want to borrow USD against if for about a month. A replication strategy that allows you to emulate such a Zero-Liquidation Loan can be presented in three steps:
- Sell your ETH for USD.
- Use part of your USD to buy an in-the-money ETH call option.
- Retain the leftover USD as your loan.