Liquidation
In a liquidation, the provider forcibly closes your leveraged position because the collateral no longer covers it. That happens automatically, with no warning, usually at the worst possible moment.
Learning objective: After this lesson, you can explain when and why a leveraged position gets automatically force-closed.
Trading with leverage means posting collateral. If a position's value falls far enough that this collateral no longer covers the losses, the system closes the position automatically. That's a liquidation.
The automatic part is what matters. There's no phone call, no grace period, no chance to pause briefly. A move at three in the morning is enough, and you wake up to an empty account.
Cascades are especially nasty. When many leveraged positions get closed at once, that creates selling pressure that pushes the price down further and triggers the next wave. That's why crypto markets sometimes drop double digits within minutes.
The countermeasure is unspectacular: less leverage. Adding more collateral mid-loss just delays things and raises the potential damage. Anyone who repeatedly has to add collateral doesn't have bad luck, they have too large a position.
Common question: "I only had 3x leverage - how could I get liquidated?" Leverage only sets the distance to liquidation, not protection from it. Without a stop-loss, a position just keeps running until the posted collateral is used up. At 3x, that takes a price drop of roughly 30 percent - and individual crypto assets have done that more than once within a few days. On top of that, liquidations are based on a smoothed mark price, not the last price traded on your own platform. → Mark price and margin modes
The liquidation threshold follows from the maintenance margin, the share of the position that must permanently exist as collateral. Once collateral value falls below that mark, the position is closed out. The actual threshold sits closer to the entry price than the naive calculation of 1/L, since financing costs, fees, and the maintenance margin itself get factored in.
The execution price isn't guaranteed. During a price gap, closure can happen well below the threshold. With products carrying no margin-call liability, the provider bears the difference; with products that do carry it, the customer does, which can create claims beyond the original stake. Whether such liability exists is therefore the single most important product feature there is.
At the market level, clustered liquidations create a self-reinforcing mechanism: forced selling pushes the price down, which pushes further positions to their threshold. This feedback loop explains the characteristic sharp jumps in heavily leveraged market segments, and it's the same mechanism at work when credit-fueled bubbles burst.
Summary
- Liquidation runs automatically, with no warning and no grace period.
- The actual threshold sits closer to your entry than the simple calculation suggests.
- Whether margin-call liability exists is the single most important product question.
Did you get it?
Why does the actual liquidation threshold sit closer to entry than 1 divided by leverage?
Because financing costs, fees, and the maintenance margin get subtracted as well.
What does margin-call liability mean?
That claims can arise beyond the amount you originally staked.
How does a liquidation cascade form?
Forced selling pushes the price down, which pushes further positions to their own threshold and gets them closed too.
Check your understanding
Related
- Calculating position sizeStage 2
- Mark price and margin modesStage 2
- CFDs, and why regulators warn about themStage 2
- Leverage and liquidation simulatorCalculator
- Matching questions for this stageQuestions