Author Topic: New mechanism to handle bad debt (black swan)  (Read 1150 times)

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Offline abit

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New mechanism to handle bad debt (black swan)
« on: October 16, 2018, 11:29:00 pm »
A bad debt means value of a debt position's collateral is less than value of its debt.

Currently, when a bad debt appears in the system, no matter how small the debt is, global settlement will be triggered and ALL debt positions will be forced closed. IMHO this mechanism is flawed.

Here I propose a new mechanism to handle bad debt, the core ideas are:

1. set up a special account "bad-debt-holder" in the system, with an impossible authority like null-account, so nobody can control it
2. when a new bad debt appears, don't trigger global settlement, instead, convert that debt position to a sell order which will never expire, sells its remaining collateral for its remaining debt, under the "bad-debt-holder" account
3. if the order get filled or partially filled, destroy the (debt) asset received.

In comparison to current mechanism, this new mechanism is much "softer" and more flexible. All state will be on the order book and easy to participate for all traders.

Thoughts?


Update (2018-10-21):

1. There is an edge case which slightly affect the implementation: according to BSIP35, when a limit order is too small, it will be cancelled, otherwise will lead to "something-for-nothing" scenario which usually messes up UI. If the limit order is owned by the bad-debt-holder account, we don't like it to be cancelled, instead, we treat it like a debt position (which will overpay when filling the last Satoshi of collateral).

2. In case when the bad-debt-holder owns several bad debt limit orders for a same asset, is it better to combine the orders into one limit order and average out the selling price? I tend to say "yes", because a) it frees memory, and b) it increases the chance that all bad debts get filled, although it may lead to a larger order hanging in the market which may add psychological pressure to traders.

Do you not think that global settlement as it's currently implemented should trigger if a majority of a bitasset's supply have defaulted on their loans though? Or should the proposed mechanism operate for the full 100% of supply?

IMHO we should operate the new mechanism for the full supply (don't trigger global settlement at all). However, perhaps we can have an option for asset owners to choose when there is no supply: which mechanism she would adopt when a black swan event occurs.

I think a penalty for such undercollateralized debt position holders will help keep them more attentive to their collateral and dis-incentivize traders from operating with too little backing.

Because bad debt appears when: collateral / (feed_price*MSSR) <= debt
So if MSSR is above 1 then there will be a penalty.

Perhaps we can another parameter here to replace MSSR though.
« Last Edit: October 24, 2018, 11:01:24 am by abit »
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Offline Thom

Re: New mechanism to handle bad debt (black swan)
« Reply #1 on: October 17, 2018, 12:44:57 am »
I like it!

Not sure you've fully covered the effects if item 3 is only partially filled tho.

Where do proceeds from sale of undercollateralized debt positions go? Are they returned to the debtor or go to reserve fund or elsewhere?

I think a penalty for such undercollateralized debt position holders will help keep them more attentive to their collateral and dis-incentivize traders from operating with too little backing.

Although I feel strongly that we need to maintain at least 100% backing of MPA assets at all times, I feel it would be quite safe if collateral requirements were reduced while market is bullish, and committee could set a global collateral ratio. If that occurred about as infrequently as witness pay is adjusted (ofc that depends on the market), coinciding with a sustained bull market trend, it might work. Question for the committee is how long does "sustained" need to be? That's why I compared with how committee decides to maintain or change witness pay. Point being the CR level would only change with longer spanning trends, and not with every rise and fall of chart candles.
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Offline abit

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Re: New mechanism to handle bad debt (black swan)
« Reply #2 on: October 17, 2018, 12:57:38 am »
I like it!

Not sure you've fully covered the effects if item 3 is only partially filled tho.

Where do proceeds from sale of undercollateralized debt positions go? Are they returned to the debtor or go to reserve fund or elsewhere?

Collateral will go to the one who bought it. Debt will go to "bad-debt-holder" then immediately be destroyed as described in OP.

Quote

I think a penalty for such undercollateralized debt position holders will help keep them more attentive to their collateral and dis-incentivize traders from operating with too little backing.

The penalty is MSSR.

Bad debt appears when: collateral / (feed_price*MSSR) <= debt

Quote
Although I feel strongly that we need to maintain at least 100% backing of MPA assets at all times, I feel it would be quite safe if collateral requirements were reduced while market is bullish, and committee could set a global collateral ratio. If that occurred about as infrequently as witness pay is adjusted (ofc that depends on the market), coinciding with a sustained bull market trend, it might work. Question for the committee is how long does "sustained" need to be? That's why I compared with how committee decides to maintain or change witness pay. Point being the CR level would only change with longer spanning trends, and not with every rise and fall of chart candles.

> "collateral requirements were reduced while market is bullish"

IMHO, in % sense, collateral requirements should be increased while market is bullish; then when market turns to bearish, there will be more spaces to release risks.
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Offline clockwork

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Re: New mechanism to handle bad debt (black swan)
« Reply #3 on: October 17, 2018, 08:05:58 am »
I like it too.

Of course specifics would have to be thought out very carefully but eliminating that mechanism which I think we all agree is very very flawed is a huge incentive to do this right.

On a side-note, can we call the account: collection-agency :D :D :D ?

Offline armin

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Re: New mechanism to handle bad debt (black swan)
« Reply #4 on: October 17, 2018, 04:33:34 pm »
Wait this doesn't make sense. If a debt position is < 100% CR, lets say 80% CR, then this new account will take the 80% CR BTS and buy the bitasset and burn it? But the problem is that an extra 20% of the bitassets was issued by the blockchain. Effectively, the blockchain is "printing bitassets" out of thin air?


Offline pc

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Re: New mechanism to handle bad debt (black swan)
« Reply #5 on: October 17, 2018, 04:57:17 pm »
Wait this doesn't make sense. If a debt position is < 100% CR, lets say 80% CR, then this new account will take the 80% CR BTS and buy the bitasset and burn it? But the problem is that an extra 20% of the bitassets was issued by the blockchain. Effectively, the blockchain is "printing bitassets" out of thin air?

No, the new account will try to buy the 100% debt for the available 80% CR. This is probably to far away from the market price, so the order will stay on the book. As soon as the price recovers, the order will be filled and the full debt will be repaid.

(In reality, with MSSR > 0, the account will try to buy 100% debt for 110% CR. For large positions this will result in the same premium that we have had with the old margin call rule, at least temporarily until the feed price adjusts.)
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Offline armin

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Re: New mechanism to handle bad debt (black swan)
« Reply #6 on: October 17, 2018, 05:30:09 pm »
Wait this doesn't make sense. If a debt position is < 100% CR, lets say 80% CR, then this new account will take the 80% CR BTS and buy the bitasset and burn it? But the problem is that an extra 20% of the bitassets was issued by the blockchain. Effectively, the blockchain is "printing bitassets" out of thin air?

No, the new account will try to buy the 100% debt for the available 80% CR. This is probably to far away from the market price, so the order will stay on the book. As soon as the price recovers, the order will be filled and the full debt will be repaid.

(In reality, with MSSR > 0, the account will try to buy 100% debt for 110% CR. For large positions this will result in the same premium that we have had with the old margin call rule, at least temporarily until the feed price adjusts.)

The problem here is that the price is not guaranteed to recover. With BSIP18 at least the bitasset is "guaranteed" to be de-pegged. And it doesn't seem like you can de-peg a small percentage of the outlying bitasset...

Offline armin

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Re: New mechanism to handle bad debt (black swan)
« Reply #7 on: October 17, 2018, 05:33:50 pm »
Actually, thinking about it more, this solution will cause a number of major problems:

1. As the price moves down sharply, there will be more and more "stuck" orders on the order book (accumulation)
2. The next time a bull market is in swing, the stuck orders will prevent the price from going to new highs

This solution is actually "shorting a bull market", meaning it creates a debt in a bear market (accumulated orders) that needs to be repaid when a bull market is in swing.

Thoughts?

Offline pc

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Re: New mechanism to handle bad debt (black swan)
« Reply #8 on: October 17, 2018, 06:33:07 pm »
BSIP-18 doesn't guarantee recovery either. If BTS continues to go down, neither solution will help.

@abit 's suggestion is better than BSIP-18 because it limits the damage to only the undercollateralized positions, while leaving the rest of the market intact.
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Offline Thom

Re: New mechanism to handle bad debt (black swan)
« Reply #9 on: October 17, 2018, 10:32:41 pm »
BSIP-18 doesn't guarantee recovery either. If BTS continues to go down, neither solution will help.

@abit 's suggestion is better than BSIP-18 because it limits the damage to only the undercollateralized positions, while leaving the rest of the market intact.

Exactly, that's why I like it.

Quote from: abit
IMHO, in % sense, collateral requirements should be increased while market is bullish; then when market turns to bearish, there will be more spaces to release risks.
Interesting, I understand that logic, but am surprised to see you say it, since doing so would dis-incentivize trading and shorting in particular. Wasn't it you that said 175% collateral was too much in bullish conditions?

I know I've seen bitcrab and others talk favorably about allowing CR to go < 100% and "not to penalize debt holders", but I believe we should use the carrot and the stick to keep them trading by the rules, which help to keep the ecosystem safe and fair for all.
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Offline bitcrab

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Re: New mechanism to handle bad debt (black swan)
« Reply #10 on: October 18, 2018, 09:10:07 am »
BSIP-18 doesn't guarantee recovery either. If BTS continues to go down, neither solution will help.

@abit 's suggestion is better than BSIP-18 because it limits the damage to only the undercollateralized positions, while leaving the rest of the market intact.

Exactly, that's why I like it.

Quote from: abit
IMHO, in % sense, collateral requirements should be increased while market is bullish; then when market turns to bearish, there will be more spaces to release risks.
Interesting, I understand that logic, but am surprised to see you say it, since doing so would dis-incentivize trading and shorting in particular. Wasn't it you that said 175% collateral was too much in bullish conditions?

I know I've seen bitcrab and others talk favorably about allowing CR to go < 100% and "not to penalize debt holders", but I believe we should use the carrot and the stick to keep them trading by the rules, which help to keep the ecosystem safe and fair for all.

I believe abit means that in bull market 175% may be low and need to increase

exactly speaking, now I just do not want the independent <100% ratio debt position trigger global settlement, abit's suggestion here seems good.
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Offline Customminer

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Re: New mechanism to handle bad debt (black swan)
« Reply #11 on: October 19, 2018, 01:24:04 pm »
I like the idea of not performing a global settlement if a very small amount is under-collateralized, maintaining the normal function of the bitasset, but it does feel like the individual debt holder in said position is getting off lightly given that they defaulted on their loan.

It'd be great if their account was partially nerfed until their under-collateralized position is bought off the market, like temp-disabling LTM (inflating their BTS DEX fees), perhaps disabling borrowing the same bitasset or even highlighting their account as a known "bad debt holder" within in the BTS DEX UI (similar to known-scammer account warnings)?

Do you not think that global settlement as it's currently implemented should trigger if a majority of a bitasset's supply have defaulted on their loans though? Or should the proposed mechanism operate for the full 100% of supply?
« Last Edit: October 19, 2018, 01:25:51 pm by Customminer »
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Offline bench

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Re: New mechanism to handle bad debt (black swan)
« Reply #12 on: October 19, 2018, 02:40:32 pm »
The account with collateral under 1 gets a negative entry for BTS and will be balanced to 0, when price of BTS is high enough again?

Isolating the problem is the best way dealing with this problem, but we need to make the barrier as high as needed to not get a black swan.
This fits better in a different topic:
https://bitsharestalk.org/index.php?topic=27315.0
« Last Edit: October 19, 2018, 02:42:41 pm by bench »

Offline abit

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Re: New mechanism to handle bad debt (black swan)
« Reply #13 on: October 21, 2018, 08:11:03 am »
OP updated:
Update (2018-10-21):

1. There is an edge case which slightly affect the implementation: according to BSIP35, when a limit order is too small, it will be cancelled, otherwise will lead to "something-for-nothing" scenario which usually messes up UI. If the limit order is owned by the bad-debt-holder account, we don't like it to be cancelled, instead, we treat it like a debt position (which will overpay when filling the last Satoshi of collateral).

2. In case when the bad-debt-holder owns several bad debt limit orders for a same asset, is it better to combine the orders into one limit order and average out the selling price? I tend to say "yes", because a) it frees memory, and b) it increases the chance that all bad debts get filled, although it may lead to a larger order hanging in the market which may add psychological pressure to traders.
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Offline abit

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Re: New mechanism to handle bad debt (black swan)
« Reply #14 on: October 21, 2018, 08:46:12 am »
It'd be great if their account was partially nerfed until their under-collateralized position is bought off the market, like temp-disabling LTM (inflating their BTS DEX fees), perhaps disabling borrowing the same bitasset or even highlighting their account as a known "bad debt holder" within in the BTS DEX UI (similar to known-scammer account warnings)?

I think we'll gain little by doing so, because a) not like transfers, traders don't care who're trading with them in the market (which is the most efficient), and b) it can be easily get around with sock puppets.

Quote
Do you not think that global settlement as it's currently implemented should trigger if a majority of a bitasset's supply have defaulted on their loans though? Or should the proposed mechanism operate for the full 100% of supply?

IMHO we should operate the new mechanism for the full supply (don't trigger global settlement at all). However, perhaps we can have an option for asset owners to choose when there is no supply: which mechanism she would adopt when a black swan event occurs.
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