What are Insurance Funds?
Insurance funds are safety nets that protect bankrupt traders from adverse losses and ensure that the profits of winning traders are paid out in full. The primary purpose of an insurance fund is to decrease the possibility of Auto-Deleveraging (ADL). In counterparty liquidations, positions of opposing traders are automatically liquidated to cover for a bankrupt trader’s position. In these situations, opposing profitable positions with high leverage are likely to receive counterparty liquidations. Insurance Funds solve this issue by using the collateral from non-bankrupt users’ fees to cover the losses of bankrupt users (negative balance accounts). If the insurance fund is insufficient, ADL will be triggered.
How do Insurance Funds work?
During liquidation, the balance of the insurance fund will increase/decrease depends on the price difference between the final executed price and its bankruptcy price of that liquidated position.
- When liquidations can be executed in the market at a price better than the bankruptcy price, the remaining margin will be added to the insurance fund.
- Vice versa, when the final executed price is worse than the bankruptcy price, the contract losses will be covered by the insurance fund.
For Example
Trader A has a long position on BTCUSDT with the liquidation price at USD 7,000 and bankruptcy price at 6,950 USD. Once Mark Price hits 7,000 USD, this position will be liquidated.
If this position can be liquidated at any price higher than USD 6,950, for example, USD 6,990, the remaining margin in BTC will be contributed to the insurance fund.
Reciprocally, if the final execution price is lower than USD 6,950, for example, USD 6,930, the insurance fund will be used to cover the contract losses.
The balance of the Insurance Fund.
Traders can always refer to the insurance fund on our official website. Anyone can view it at any time, ensuring a very transparent system.
Depleted Insurance Fund.
If the insurance fund is insufficient to cover the gap between the final execution price and bankruptcy price, the contract losses will be taken over by the ADL system and absorbed by the traders on the platform.