Collateral health zones and grace periods

Collateral health zones and grace periods

Crypto-backed loans move fast because collateral prices move fast. A single bad day can push a loan from comfortable to dangerous. Lenders and borrowers manage this by dividing the loan's loan-to-value ratio into zones, with a defined response for each one.

The idea is simple: the borrower should know exactly where they stand, what happens next, and how much time they have to act.

How it actually works

A typical structure has four zones. The numbers below are illustrative. Actual thresholds depend on the asset, its volatility, and the specific agreement.

Zone | Example LTV | What happens

Healthy | Below 65% | Normal operation. No action needed.

Watch | 65–75% | Borrower is notified. Topping up is optional.

Margin call | 75–85% | Borrower must add collateral or repay to return to healthy, within the grace period.

Liquidation | Above 85% | Collateral is sold to repay the loan.

As LTV rises, the response escalates. Below the margin call line, nothing is forced. Above it, the borrower has a set window to restore the position.

The grace period

The grace period, or cure period, is the time between a margin call and enforcement. It exists because selling collateral is a blunt tool. Most borrowers can and will fix the position if given time to move funds.

Grace periods are a trade-off. Longer gives borrowers more room to act and avoids forced selling into a temporary dip. Shorter protects the lender from a position that keeps getting worse while the clock runs.

That's why most structures pair a grace period with a hard ceiling. If LTV crosses the liquidation line during the grace period, the grace period ends early. A price drop severe enough to threaten the lender's recovery doesn't wait for the clock.

How a borrower cures

There are two ways to bring LTV back down:

• Add collateral. More of the same asset, or another accepted asset, raises the value in the denominator.
• Repay. Paying down part of the loan lowers the numerator.

Both work. Adding collateral keeps the borrower's position intact. Repaying reduces leverage permanently.

Why the zones matter

For borrowers, zones turn a single cliff into a series of warnings. The watch zone is the chance to act before anything is required. Most borrowers who end up liquidated ignored several warnings first.

For lenders, zones size the buffer. The gap between the margin call line and the liquidation line is the room for collateral to fall during the grace period. The gap between the liquidation line and 100% is the room for the collateral to fall further while it's being sold. Both gaps need to be wide enough for the asset's volatility (see Overcollateralization).

For both, zones only work if everyone sees the same number at the same time. A margin call based on a stale price, or a price the borrower can't check, creates disputes. Clear, shared price sources and clear notification rules are as important as the thresholds themselves.

See Pledge in place for how these zones apply when the collateral stays with the holder's own custodian.