Collateral Haircut Sensitivity

Collateral haircut sensitivity measures how the value of a loan changes in response to adjustments in the required collateralization ratio or the perceived risk of the underlying asset. Protocols often apply a haircut, or a discount, to the value of collateral to protect against volatility.

If a protocol increases its haircut requirements, borrowers must deposit more collateral or reduce their debt, which can trigger a wave of liquidations. Sensitivity analysis helps determine how a change in market conditions ⎊ such as a spike in volatility ⎊ will force these adjustments and potentially destabilize the system.

It is a critical component of risk management in lending protocols, where collateral management is the primary defense against insolvency.