Collateralization — What it entails, advantages & disadvantages
In the cryptocurrency world, what’s quite hard to understand is how assets are collateralized without third parties being involved and also users earning upon collateralization of the type of assets. In this short article, we will be learning what Collateralization is, its advantages & disadvantages & also applicable ways collateralization can come in.
Collateralization is the process of securing a loan with a valuable asset(mostly referred to as collateral). The borrower provides an asset to secure the loan and in the event of default, the lender can take possession of the asset to cover the debt.
Though using a collateral loan can be an effective way to borrow money, there are also some risks involved in it.
But, let’s look at some advantages first.
- Since you’re reducing the lender’s risk by offering up collateral, this might qualify you to borrow more than you would otherwise.
- It provides short-term liquidity: Assuming all of your money is tied up in assets that aren’t easy to convert into cash, such as a home or other valuables, a collateral loan can help you get your hands on money without having to go through the stressful process of selling those assets.
Some disadvantages of collateral loans 👇
- You can lose the collateral if you don’t pay the loan back: This is the biggest risk of all, especially if you set the loan with a highly valuable asset like your home.
- Another potential issue is that you must have something valuable to offer as collateral in the first place.
Some assets that can be collateralized are:
- Personal real estate
- Personal Vehicles.
- Cash or savings accounts
- Investment accounts.
One can be wondering how cryptocurrency works as collateral. Here’s how;
If you already own cryptocurrencies like Bitcoin or Ethereum, you can use these holdings as collateral for a loan in US dollars.
One major benefit of using cryptocurrency as collateral is that there are few requirements(other than owning crypto) and typically crypto lenders don’t check your credit.
The combination of traditional-asset stability with digital-asset flexibility has proven to be a wildly popular idea. This idea is what birthed the use of stablecoins as an asset.
An asset used for collateralization is USDC. USD Coin or USDC is a stablecoin that is the main native coin issued by Circle. Scallop Chain is building its product to further allow collateralization of assets and also better access to loans.
Looking for one secure platform to control all your financial assets — Crypto & Fiat? Check out the Scallop platform today!