One important issue with leverage is the lack of available liquidity during liquidations. This creates very volatile prices during liquidation events, and hefty taxes for the traders being liquidated.
Infinity Pools allows traders to secure their exit liquidity when their open their trade.
Lenders can deposit liquidity on concentrated positions, and choose to lend these positions to traders. In exchange, they are paid an interest rate.
The protocol lets traders borrow those concentrated liquidity positions and deposit it into a “swapper” that they can rely on to trade against the liquidity. The swapper contract ensures that there is enough funds at all times to pay back the lender of liquidity: original liquidity + initial margin + interest.
In exchange, the trader can use this liquidity to trade, and rely on the underlying position mechanism as a stop-loss.
Alice is an ETHUSDC LP on a concentrated liquidity position centered between price C and D (C<D). The initial market price is M0.
Below price C, Alice expects 100% ETH, above price D she expects 100% USDC, and a mix of ETH and USDC in between.
A key aspect to understand is that this position has a “strike price” S: a virtual execution price for the position between ETH and USDC if the price moves out of range to either side. Because of how concentrated liquidity positions work, LPs end up with the weaker of the two tokens when their position gets out of range.
This is exactly what traders need for the position to act as a stop-loss. The concentrated position acts as a continuous sell (or buy) order (stop-loss) when price goes from D to C, with S as the “full” execution price.
When a trader borrows a liquidity position, it can swap all the position’s USDC for ETH at M0 using any DEX, to effectively long ETH.
At any point in time the trader can get out of its position at the market price Mt, or, thanks to how concentrated positions work, at the strike price S (if Mt < S), and get back a certain pre-determined amount of ETH from the USDC.
This means that the worst case scenario for the trader is bounded by the difference between S and M0.
This is the margin ratio required to initiate the position to make sure the borrower will always be able to pay back their loan.