Guide to Liquidation
Types of Liquidation
Liquidation is a risk in volatile markets, and can be categorized into two main types:
Forced Liquidation: This is the most common type of liquidation, occurring automatically when the value of a trader's position falls below a certain threshold, known as the liquidation price. This threshold is determined by the exchange and is typically based on factors like the trader's leverage, initial margin, and the current market price of the asset.
Voluntary Liquidation: Traders may also choose to voluntarily liquidate their positions. This involves manually closing a position before it reaches the liquidation price, or setting a trigger order to automatically close the position at the trader’s preferred price. Traders might liquidate to secure profits, limit losses, or rebalance their portfolio.
How to Calculate Your Actual Liquidation Price
Liquidation price is the amount at which your position will be automatically liquidated to cover your losses and prevent further debt. Calculating the liquidation price can be complex, as it varies depending on the exchange, the specific trading instrument (e.g., futures, perpetual contracts), and the leverage used.
Maintenance Margin
Many exchanges use a concept called maintenance margin which is the absolute minimum margin you need to maintain in your account to avoid liquidation. Maintenance margin can vary from asset to asset. If the margin in your account falls below the maintenance margin, your position will be liquidated. This can happen even if the price hasn't reached your estimated liquidation price based on leverage.
Example:
You open a long 100x BTCUSDT.PERP position.
You might think you'll only be liquidated if the price drops by 1% (since you have 100x leverage).
However, if the maintenance margin for BTCUSDT.PERP is 0.5%, you'll be liquidated if the price drops by just 0.5%. This is because your margin will fall below the required 0.5% minimum.
Mid Price vs. Mark Price
To tell when liquidation will occur while using a chart, traders must understand the difference between Mid Price and Mark Price.
Mid Price: Average of the best bid and ask prices currently available in the market. It's the price you see displayed on most trading charts. Mid Price is the reference point for triggering orders like take-profit and stop-loss.
Mark Price: An estimated "true value" of the contract that is the actual trigger for liquidation.
Mark price calculation on Flipster:
Mark Price = Index Price + MA(5M, Basis), where Basis = (Best Bid + Best Ask) / 2 - Index Price
Liquidation is based on the Mark Price, not the Mid Price. As a result:
Liquidation can happen before your stop-loss: If the Mark Price drops to your liquidation price while the Mid Price is higher, your position will be liquidated even if your stop-loss hasn't been triggered yet.
The candlestick chart might not accurately reflect the liquidation price: By default, the candlestick chart on Flipster displays the Mid Price. Traders can change the chart settings to display the Mark Price to better gauge when liquidation will occur.
Learn how liquidation, mid price and mark price works in more detail on our FAQ: Liquidation of Position.
Liquidation Alerts
While forced liquidation is an automated process, some exchanges like Flipster provide warning signals to help you avoid it. Before your position is liquidated, you'll receive warning emails when your margin balance falls to a critical level (e.g., 75% of your initial margin), giving you a chance to take action and potentially save your position.
Manage Your Liquidation Risk
While liquidation is an inherent risk in leveraged crypto trading, employing effective risk management strategies can significantly mitigate the risk. Here are three key strategies to keep in mind:
Stop-loss orders: Stop-loss orders are your first line of defense against liquidation, allowing you to set a specific price at which your position will be automatically closed, limiting potential losses. For example, if you're long on Ethereum, you could set a stop-loss order 5% below your entry price. Even if the market crashes, your loss will be capped at 5%.
Monitoring the market: Stay informed about market trends so you’re not caught off guard. Unexpected events can trigger significant price swings, potentially leading to liquidation.
For instance, in 2023, the German government sold a significant portion of Bitcoin seized from the film piracy website Movie2K. Traders who were unaware of this news and hadn't taken steps to mitigate the risk might have been caught off guard by the sudden price drop and potentially faced liquidation. On the other hand, those who actively monitored market news and anticipated the potential impact of the German government's actions could have adjusted their positions accordingly.
Position sizing: Avoid overleveraging. Choose a leverage level that aligns with your risk tolerance and trading strategy. Remember, higher leverage amplifies both profits and losses. Start with lower leverage and gradually increase it as you gain experience and confidence.
How to Trade Cryptocurrencies on Flipster
Flipster provides tools and features designed to help traders manage liquidation risk, including real-time liquidation price calculators, customizable margin call alerts, stop-loss orders, and a variety of order types to execute your risk management strategies effectively.
Furthermore, Flipster has an Insurance Fund to ensure that traders’ positions can be settled even if insufficient funds are on the losing side of a trade. In the event that the Insurance Fund is depleted, Flipster utilizes Auto-Deleveraging Liquidation (ADL) to ensure all positions can be settled.
Sign up for an account on the Flipster website or by downloading the Flipster app (Android or Apple).
Click the [Trade] tab.
Search for your preferred cryptocurrency and click on it.
Select the leverage (up to 100x).
Select either a Trigger Order or Market Order.
Enter the amount of coin you want to trade or choose a percentage of your available funds.
Once you have confirmed the details, click the [Long] or [Short] button to open a position.
Disclaimer: This material is for information purposes only and does not constitute financial advice. Flipster makes no recommendations or guarantees in respect of any digital asset, product, or service. Trading digital assets and digital asset derivatives comes with significant risk of loss due to its high price volatility, and is not suitable for all investors.