> For the complete documentation index, see [llms.txt](https://docs.pawnfi.com/llms.txt). Markdown versions of documentation pages are available by appending `.md` to page URLs; this page is available as [Markdown](https://docs.pawnfi.com/risk/risk-framework/lending-market-asset-risk/from-risks-to-risk-parameters.md). # From Risks to Risk Parameters For each asset, or token, it has its own market risk that profiles its price uncertainty. Even though there is no unique classification applied to DeFi, the most commonly used types of market risk are: 1. Liquidity 2. Volatility 3. Market Capitalization ## **Liquidity** Liquidity is yoked to the market volume. It is a vital factor that incurs liquidation. The risks can be mitigated with several liquidation parameters, e.g. the protocol will provide higher incentives when the liquidity level gets lower. ## Volatility The price change of collateral heavily driven by Volatility will influence the overall solvency of the protocol. When the collateral value falls below the amount of borrowing, additional levels of liability coverage are required. For example, **Collateral Factor** will decide at which point liquidation process will occur, and whether a liquidator can get profits from repaying the loan. Assets with higher volatility like Altcoins usually have lower Collateral Factors, driving smaller borrowers' borrow limit and buffer zone for price drop, which are prone to trigger liquidations. The counter example are the less volatile assets like ETH, stable coins and other mainstream coins, which have the higher Collateral Factors and allow borrowers to borrow more against them. ## **Market Capitalization** Market capitalization illustrates the size of the market. When collaterals are liquidated, market cap is a key factor to be considered as it affects liquidation parameters: the smaller the market cap, the higher the incentives. Overall risk, or systemic risk, is the integration of liquidity, volatility and market capitalization. Overall risk is a major element to affect reserve factor. ## Overall Risk The overall risk (systematic risk) derives from three primary sources of risk, i.e. Liquidity, Volatility, Market Capitalization, thereby implying key risks within the protocol, which has a direct impact on Reserve Factor. --- # Agent Instructions This documentation is published with GitBook. GitBook is the documentation platform designed so that both humans and AI agents can read, navigate, and reason over technical content effectively. Learn more at gitbook.com. ## Querying This Documentation If you need additional information that is not directly available in this page, you can query the documentation dynamically by asking a question. Perform an HTTP GET request on the current page URL with the `ask` query parameter, and the optional `goal` query parameter: ``` GET https://docs.pawnfi.com/risk/risk-framework/lending-market-asset-risk/from-risks-to-risk-parameters.md?ask=&goal= ``` `ask` is the immediate question: it should be specific, self-contained, and written in natural language. `goal` is optional and describes the broader end goal you are ultimately trying to accomplish on behalf of the user. GitBook uses it to tailor the answer towards what is most useful for that goal. The response will contain a direct answer to the question and relevant excerpts and sources from the documentation. Use this mechanism when the answer is not explicitly present in the current page, you need clarification or additional context, or you want to retrieve related documentation sections.