Ten bets, ten losses? Deconstructing the risks of Perptual Futures 'fate' and the 'invincible' way of exchanges.

This article provides an in-depth analysis of the risk management methods of perpetual contracts, from forced liquidation, insurance funds to automatic position reduction, explains the risk control mechanism of the exchange, and provides traders with coping strategies. (Synopsis: Crypto Gambler's Blood Record: Feeding by Desire in the Contract, Devoured by Fate – Zhejiang Reborn, James Wynn, Liang Xi) (Background supplement: James Wynn the whale "loses and admits defeat": Give up opening the contract, I want to leave this fallen place) Closing and liquidating positions is the "fate" that the exchange and every trader must face sooner or later. If opening a position is the beginning of a relationship, full of emotions, beliefs and fantasies, then closing a position is the end of the story, whether willingly or involuntarily. Forced liquidation, for the exchange, is actually a thankless chore. Not only offend users, but also a slight carelessness can easily lead to through positions and cause losses, and no one will pity you when you are in trouble. Therefore, to achieve the ultimate "strong", it takes real effort. To put it another way, regardless of the so-called wealth-making effect, the clearing mechanism is the conscience and responsibility of an exchange. Today, we will only talk about structure and algorithms, what is the real logic of forced liquidation? How does the clearing model protect the overall security of the market? Leverage Disclaimer: If you feel I'm wrong, you're right. Entertainment disclaimer: Don't care too much about the numbers, focus on understanding the logic, just take a look, Tu Yile! Part 1: Core Risk Management Framework for Perpetual Contracts Perpetual contracts are a complex financial derivative that allows traders to use leverage to amplify their capital, thus potentially generating returns far beyond their initial principal. However, the potential for this high reward comes with equal or even greater risk. Leverage magnifies not only potential profits but also potential losses, making risk management an integral core component of perpetual contract trading. The core of this system is to effectively control and resolve the systemic risks brought by highly leveraged trading, which is not a single mechanism, but a set of "ladder" risk control processes composed of multiple interrelated and layered defensive layers, aiming to limit the losses caused by individual account liquidation to a controllable range, prevent them from spreading and impacting the entire trading ecosystem. How to turn the power of the waterfall into the gentleness of the stream: free release, dripping water, rigidity and softness. The three pillars of risk mitigation The exchange's risk management framework relies on three pillars, which together build a comprehensive defense network from the individual to the system, from routine to extreme: Forced Liquidation: This is the first and most commonly used line of defense for risk management. When the market price moves in an unfavorable direction for the trader, causing his margin balance to be insufficient to maintain the position, the risk engine of the exchange automatically intervenes and forcibly closes the losing position. Insurance Fund: This is the second line of defense, acting as a buffer against systemic risk. In times of high market volatility, liquidation positions may be traded at a price worse than the trader's bankruptcy price (i.e. the price at which the loss exhausts all margin), and the resulting additional losses (i.e. "cross-position losses") will be covered by the Insurance Fund. Automatic Position Reduction (ADL): This is the last and rarely triggered line of defense. The ADL mechanism is activated only after extreme market conditions (i.e. "black swan" events) result in a massive liquidation and deplete the risk protection fund. It compensates for losses that cannot be covered by the Risk Protection Fund by forcing the reduction of the most profitable and highly leveraged reverse positions in the market, thereby ensuring the solvency of the exchange and the ultimate stability of the entire market. Together, these three pillars form a logical and rigorous risk control chain, and the design philosophy of the entire system can be understood as a kind of "social contract" in economics, which clarifies the principle of risk layering in a high-risk leveraged trading environment. Trader Risk – > Risk Protection Fund – > Automatic Position Reduction (ADL) Initially, the risk is borne by individual traders who are responsible for ensuring that there is sufficient margin in their account. If individual responsibilities cannot be met, the risk is passed on to a buffer pool of collective funds (through liquidation fees, etc.), the Risk Protection Fund. Only in extreme cases, when this collective buffer pool cannot withstand the shock, will the risk be transferred directly to the most profitable participants in the market through automatic position reduction. This layering mechanism is designed to maximize risk isolation and absorption, maintaining the health and stability of the entire trading ecosystem. Part 2: Risk Basis: Margin and Leverage In perpetual contract trading, margin and leverage are the two most basic factors that determine a trader's risk exposure and potential profit and loss. A deep understanding of these two concepts and their interaction is fundamental to effectively managing risk and avoiding forced liquidation. Initial Margin vs. Maintenance Margin Margin is collateral that traders must deposit and lock in order to open and maintain leveraged positions. It is divided into two key levels: Initial Margin: This is the minimum collateral required to open a leveraged position. It is equivalent to an "entry ticket" for a trader to participate in leveraged trading, usually calculated by dividing the notional value of the position by the leverage multiple. For example, to open a position worth 10,000 USDT with 10x leverage, a trader would need to deposit 1,000 USDT as an initial margin. Maintenance margin: This is the minimum collateral required to maintain an open position. It is a dynamically changing threshold that is numerically lower than the initial margin. A forced liquidation procedure is triggered when the market price moves in an unfavorable direction, causing the trader's margin balance (initial margin +/- unrealised P&L) to fall below the maintenance margin level. Maintenance Margin Rate (MMR): refers to the lowest margin maintenance rate Margin Model Analysis: Comparative Analysis Exchanges usually provide a variety of margin models to meet the risk management needs of different traders, there are three main types: Isolated Margin: In this model, traders allocate a specific amount of margin to each position. The risks of each position are isolated from each other, and in the event of a liquidation, the maximum loss that a trader has to bear is limited to the margin allocated for that position and will not affect other funds or other positions in the account. Cross Margin: In this model, all available balances in a trader's futures account are considered shared margin for all open positions. This means that the loss of a position can be offset by other available funds in the account or the unrealised profit of other profitable positions, reducing the risk of a single position being liquidated. But once a liquidation is triggered, traders may lose all the funds in their account, not just the margin for a single position. Portfolio Margin: This is a more complex margin calculation model designed for experienced institutional or professional traders. It assesses margin requirements based on the overall risk of the entire portfolio, including spot, futures, options, and multiple instruments. By identifying and calculating the hedging effect between different positions, the portfolio margin model can significantly reduce margin requirements for well-hedged and diversified portfolios, thereby greatly improving capital utilization. Tiered margin system (risk limit) In order to prevent a single trader from holding too large a position, and it may have a huge impact on market liquidity during strong liquidity, exchanges generally implement a tiered margin system, also known as risk limit. The core logic of the system is: the larger the position, the higher the risk, so stricter risk control measures are required. ...