Recursive Leverage Loops

Recursive leverage loops occur when a trader uses borrowed assets to acquire more of the same asset, which is then used as collateral to borrow more, creating an infinite cycle of leverage. This is common in yield farming strategies where users deposit stablecoins to borrow volatile assets, stake them, and repeat the process to amplify returns.

While profitable during bull markets, these loops are extremely dangerous during downturns because the entire structure relies on the price of the underlying asset staying above a certain threshold. If the price falls, the entire chain of leverage becomes insolvent, forcing massive liquidations.

These loops represent a hidden form of systemic risk because they mask the true amount of debt in the system.