Subprime crypto loans rise to highest level in 2 years, what does this mean?

High-risk cryptocurrency lending is on the rise again, and according to analysts’ opinions, the growth cannot be considered a positive development for the digital asset space.

Data from market analysis platform IntoTheBlock shows that subprime loans have increased to the region of $5 million, a level last seen during the collapse of many crypto lenders in May/ June 2022.

Subprime loans rise to May 2022 level

Subprime loans are often used to take advantage of arbitrage opportunities in the crypto market. They consist of various activities, including traders buying crypto assets at lower prices in one market and instantly selling at higher prices in another, all in one transaction. While these loans can allow participants to make quick money, they are often accompanied by risks due to the volatility of crypto assets.

One of the main problems with subprime lending is the potential for traders to lose their collateral when asset prices fall below the liquidation level.

IntoTheBlock says high-risk loans are those within 5% of settlement; the assets recorded as collateral are very close to their liquidation prices. Analysts insist that the growth of high-risk loans is an important indicator to monitor in crypto lending protocols because they can contribute to market liquidity problems.

Potential market liquidity problems

According to IntoTheBlock, rapid market declines can cause the collateral needed to cover loans to become insufficient, leading to bad debts and losses for lenders. Large liquidations of insufficient collateral can trigger a downward price spiral in cryptocurrencies, putting more loans at risk and causing further declines.

Additionally, cascading liquidations can prevent crypto lenders from adding new liquidity to their markets to mitigate potential losses.

The last time subprime lending rose to its current level, about a dozen crypto companies, especially lending platforms, went up in smoke. Entities such as Celsius Network, Voyager Digital, Three Arrows Capital, BlockFi and Babel Finance became insolvent.

The numerous implosions could be attributed to several factors, including cryptocurrency volatility, which triggered the deactivation of the algorithmic stablecoin terraUST and its sister coin, LUNA.

The collapse of the TerraLUNA ecosystem had a domino effect that led to a massive liquidation of unsecured loans. As IntoTheBlock explained, the massive liquidation led to even more liquidity problems that worsened the crypto winter.

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