Who it's for — Anyone trading with Leverage without a Stop Loss. It's the nightmare of every trader and the main source of income for many exchanges.
Liquidation occurs when the losses on your leveraged position consume almost all of your collateral Margin. At that point, the broker realizes you might not be able to repay the loan, and before the balance turns negative, forcibly closes your trade, selling it at the market price.
You are ejected from the trade, and the broker takes your remaining Margin to cover the debt.
In simple terms — You have $1,000 and use 100x leverage to buy $100,000 of Bitcoin. If Bitcoin drops by a mere 1%, your position loses $1,000. At this point, your real money ($1,000) is gone. If the broker left the position open and Bitcoin dropped 2%, who would pay the other $1,000 loss? The broker. And the broker doesn't want to lose, so as soon as you are down 1%, it liquidates you, takes your $1,000, and kicks you out.
The chain effect (Cascade Liquidation)
In crypto markets, Liquidation is executed by launching a colossal Market Order onto the market. If many Long traders are liquidated simultaneously, the system generates a massive wave of Sell Market Orders. This causes the price to collapse further, triggering the liquidation of traders positioned slightly lower down, in a catastrophic domino effect that generates classic "flash crash" candles.
How to avoid it?
There is only one intelligent way to avoid liquidation:
- Always strictly use a Stop Loss.
- Place the Stop Loss far away (well before) the Liquidation Price.
If you get liquidated, it means you lost control of risk and ignored the plan. In professional trading, the option "I got liquidated" does not exist, there is only "I got stopped out (Stop Loss)".
Summary Sheet
- Event: Forced automatic closure due to imminent insolvency.
- Result: Total loss of allocated Isolated Margin.
- Prevention: Preventive Stop Loss.
Links
- margin — The money that gets expropriated from you.
- leverage — The multiplier that brings account death closer.
- bronze-path
Module: Module 3 — Orders and Operations
Know what happens when you click buy or sell.
