> For the complete documentation index, see [llms.txt](https://tau-labs.gitbook.io/vault-dashboard/llms.txt). Markdown versions of documentation pages are available by appending `.md` to page URLs; this page is available as [Markdown](https://tau-labs.gitbook.io/vault-dashboard/tau-risk-framework/risk-factors.md). # Risk Factors For each vault, TAU runs thorough due diligence across all risk layers the vault is exposed to, including:

Risk Layer	Logic
Blockchain Risk	Risk of the underlying blockchain (TVL over time, uptime, technical mechanisms e.g. forced withdrawal options for L2s)
Protocol Risk	Risk of protocols used (TVL over time, audits, exploit history)
Asset Risk	Risk of assets the vault is exposed to. For example, the assets held by the vault or collateral assets when lending on Morpho. In the case of stablecoins, we evaluate elements such as collateral, collateralization rate, redemption mechanisms, and admin controls.
Strategy Risk	For instance, risk of bad debt in lending vaults or risk of liquidation for looped borrowing vaults.

*** ## More on **Strategy Risk** The underlying strategy creates unique risks. For example, a lending vault carries credit risk, the risk that the collateral of the borrower is worth less than the debt, leaving so-called bad debt. A borrow loop on the other hand, for example, comes with liquidation risk. All these risks depend on a number of factors that can be assessed and modeled.

Factor	Why it matters	How we assess it
DEX Liquidity	DEX liquidity is crucial to execute transactions at or near current market prices. Lending strategies rely on deep liquidity to ensure that when a position is liquidated, debt doesn’t exceed the value of the recovered (liquidated) collateral (solvency risk). Price impacts above the liquidation penalty mean liquidations become unprofitable for liquidators. Low DEX liquidity can result in price impact during swaps which eats into yield (Performance risk).	We take current DEX liquidity and apply a volatility discount to account for market shocks where liquidity historically dries up. These situations are most relevant as liquidity is most needed in times of distress. For example, liquidations usually coincide with market stress.
Price Volatility	Volatility dictates the "Margin of Safety." The more volatile an asset, the larger the buffer required to protect the vault. In a lending strategy, a more volatile asset is more likely to get liquidated. This will require DEX liquidity. When borrowing, the price volatility between collateral and debt asset determines LTV. Higher volatility = more buffer required between the LTV selected by the strategy and the market’s LLTV. LRTs/LSTs (e.g. wstETH) come with increased price volatility compared to the underlying asset (e.g. ETH) due to price pressure on their peg because of withdrawal queues. Furthermore, slashing risk can impact prices.	We use historical price data to calibrate fat-tailed (leptokurtic) models, such as Merton Jump-Diffusion models, which account for the true nature of crypto markets. By running thousands of Monte Carlo simulations, we stress-test the strategy against extreme 'jump' events to determine risk (e.g. risk of bad debt when lending) and identify parameters (e.g. LTV ratios when borrowing).
Oracles	Oracles provide pricing data for all assets the vault is exposed to. This includes: Assets the vault holds, which make up the value per vault token Assets the vault is exposed to, such as the collateral’s value in a lending strategy	We distinguish between market rate oracles (current trading price) and exchange rate oracles (the NAV of underlying assets) to ensure we are using the correct "heartbeat" for each specific use case. For instance, stablecoin markets on Morpho usually use exchange rate oracles, meaning that secondary price volatility is irrelevant when analyzing the risk of bad debt. Moreover, we may employ additional custom oracles to give the vault better data to act and reduce manipulation risk.

Factor

Why it matters

How we assess it

DEX Liquidity

DEX liquidity is crucial to execute transactions at or near current market prices.

Lending strategies rely on deep liquidity to ensure that when a position is liquidated, debt doesn’t exceed the value of the recovered (liquidated) collateral (solvency risk). Price impacts above the liquidation penalty mean liquidations become unprofitable for liquidators.
Low DEX liquidity can result in price impact during swaps which eats into yield (Performance risk).

We take current DEX liquidity and apply a volatility discount to account for market shocks where liquidity historically dries up. These situations are most relevant as liquidity is most needed in times of distress. For example, liquidations usually coincide with market stress.

Price Volatility

Volatility dictates the "Margin of Safety." The more volatile an asset, the larger the buffer required to protect the vault.

In a lending strategy, a more volatile asset is more likely to get liquidated. This will require DEX liquidity.
When borrowing, the price volatility between collateral and debt asset determines LTV. Higher volatility = more buffer required between the LTV selected by the strategy and the market’s LLTV.
LRTs/LSTs (e.g. wstETH) come with increased price volatility compared to the underlying asset (e.g. ETH) due to price pressure on their peg because of withdrawal queues. Furthermore, slashing risk can impact prices.

We use historical price data to calibrate fat-tailed (leptokurtic) models, such as Merton Jump-Diffusion models, which account for the true nature of crypto markets. By running thousands of Monte Carlo simulations, we stress-test the strategy against extreme 'jump' events to determine risk (e.g. risk of bad debt when lending) and identify parameters (e.g. LTV ratios when borrowing).

Oracles

Oracles provide pricing data for all assets the vault is exposed to. This includes:

Assets the vault holds, which make up the value per vault token
Assets the vault is exposed to, such as the collateral’s value in a lending strategy

We distinguish between market rate oracles (current trading price) and exchange rate oracles (the NAV of underlying assets) to ensure we are using the correct "heartbeat" for each specific use case. For instance, stablecoin markets on Morpho usually use exchange rate oracles, meaning that secondary price volatility is irrelevant when analyzing the risk of bad debt.

Moreover, we may employ additional custom oracles to give the vault better data to act and reduce manipulation risk.

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