This page outlines some features that all traders should know before making a trade on the Lyra Protocol.
Options that are shorted (sold) to the AMM by users need to be collateralized. In V1 of Lyra, all shorts needed to be fully collateralized which was very capital inefficient. For instance, selling 1 ETH call would require having 1 sETH available as collateral.
Avalon will allow users to partially collateralize their shorts, greatly improving capital efficiency. This would mean, selling 1 ETH call would require, say, 0.4 ETH - a substantial improvement over V1. Further, short calls will now be able to be collateralized in either the base (ETH, BTC, etc) or quote (sUSD/USDC) asset. Short puts will only be able to be collateralized with the quote asset.
Users will always have the option to fully collateralize their shorts (and so have no chance of being liquidated - see next section). If a user chooses to partially collateralize their short, they must deposit a minimum amount of collateral.
The minimum amount of collateral (in the base asset) for a short is computed by finding the premium of the same option with a time dependent shock volatility and a static percentage shock to the spot price. Specifically, the minimum amount of collateral required will be given by:
Where MinStaticCollateral is the absolute minimum amount of collateral required for any (partially collateralized) short. Here, ShockVol is a large, time dependent static volatility while SpotShock is a static percentage shock to the spot price.
Users must maintain at least the minimum amount of collateral or the will be liquidated by a liquidator. For more details on this, see the next section on Liquidations.
When a user's collateral falls below the minimum collateral (described in the previous section) they are eligible to be liquidated. This occurs via keepers, users who call the liquidation function on an underwater position.
When a user is liquidated, the user is forced to buy back their option in such a way that will (in expectancy) favour the AMM/LPs.
The user's remaining liquidity will then be penalized by a flat percentage, for more detail see Partial Collateralization Parameters. This slashed penalty will then be split between the liquidator, the AMM, and the security module.
The protocol enforces trading cutoffs to ensure that the mechanism remains accurate and performant. This has some important implications for traders:
Traders will not be able to open positions with the AMM for options with <12 hours to expiry.
Traders will not be able to open trades with the AMM for options with deltas outside the specified cutoff for a given asset. For example, if the delta cutoff range is set to 10-90, users will be unable to open positions in options with a delta less than 10 or greater than 90.
Traders will only be able to close existing positions that are outside of the delta cutoff range OR with less than 12 hours to go using the ForceClose mechanism, which incurs a penalty for doing so.
ForceClose will allow users to close their open positions at any time/delta