How Does the Leverage Ratio in Derivatives Trading Determine the Trigger Point for a Liquidation Cascade?
The leverage ratio directly determines the sensitivity of a position to price movements. A higher leverage ratio (e.g.
100x) means a smaller percentage price move is needed to wipe out a trader's margin and trigger a liquidation. For example, with 100x leverage, just a 1% adverse price move can trigger a forced liquidation.
In a market with many high-leverage traders, a small downturn can simultaneously trigger a massive wave of these liquidations, instantly creating a cascade as the forced selling pushes the price down further, hitting the liquidation points of the next tier of leveraged traders.
Glossar
Derivatives Trading
Leverage ⎊ Derivatives trading, within cryptocurrency, options, and financial markets, fundamentally represents a contractual agreement where value is derived from an underlying asset, enabling amplified exposure without necessitating outright ownership.
Isolated Margin
Segregation ⎊ Isolated Margin is an account setting where the margin allocated to a specific derivative position is strictly segregated from the collateral supporting other positions, preventing losses in one trade from impacting the maintenance margin of another.
Cross Margin
Structure ⎊ Cross Margin is an account configuration where the entire portfolio equity, comprising collateral across all open positions ⎊ futures, options, and spot holdings ⎊ is pooled to serve as a unified margin base to support all positions simultaneously.
Leverage Ratio
Amplification ⎊ ⎊ Leverage ratio, within cryptocurrency and derivatives markets, represents the use of borrowed capital to increase potential exposure to an underlying asset, magnifying both prospective gains and potential losses.