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Crypto liquidation is the forced reduction or closure of a leveraged position—or, in DeFi lending, the sale of pledged collateral—after a risk threshold is breached. Unlike a voluntary sale, liquidation is triggered by an exchange’s risk system or a protocol’s rules because collateral or account equity is no longer sufficient. The trigger, process and possible backstops depend on the specific venue, contract and margin mode.
How leverage and margin lead to liquidation
Leverage gives a trader market exposure larger than the collateral they put up. Binance Academy illustrates the relationship with a hypothetical $1,000 ETH position at 10x leverage: it requires $100 in initial margin. That is an educational example, not a current contract quote. Initial margin is what is required to open a leveraged position; maintenance margin is the minimum required to keep it open. Binance Academy explains leverage and margin.
For a long position, a price decline creates an unrealized loss that reduces account equity. If equity falls below the venue’s maintenance requirement, the venue may issue a margin call, reduce the position, or close it. A short position faces the analogous risk if the price rises. Higher leverage leaves less room for an adverse move, but there is no universal liquidation formula: position size, collateral, fees, funding, maintenance requirements, margin mode and venue rules all affect the result.
Liquidation price and margin mode
A displayed liquidation price is not always a fixed, decisive threshold for an entire account. Under Bybit’s documented system, isolated margin allocates collateral to a position, and liquidation occurs when the mark price reaches that position’s liquidation price. With cross or portfolio margin, the account’s overall equity and maintenance-margin requirements matter; Bybit describes displayed liquidation prices in those modes as dynamic references because account equity and margin use can change. Other venues may use different rules, so check the applicable contract documentation. Bybit Help Center’s order execution and liquidation FAQ provides its rules.
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The price reference used to trigger liquidation may differ from the last traded price shown on a chart. Bybit says its described liquidation process uses mark price. If a stop-loss is set to trigger on last traded price, the mark price could reach the liquidation threshold first.
Bybit illustrates this with a hypothetical long position: last traded price is 12,050 USDT, liquidation price is 12,000 USDT, and a stop-loss is set to trigger at a last traded price of 12,030 USDT. If mark price reaches 12,000 while last traded price remains 12,050, liquidation can occur before the stop triggers. Those figures are Bybit’s example, not a live-market quote.
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What an exchange may do after a liquidation trigger
The response varies by platform. Coinbase Global Exchange describes a sequence tied to current margin, initial margin, maintenance margin and close-out margin. Below initial margin, it places the account in reduce-only mode. Below maintenance margin, positions may be partially liquidated to move the account toward a safer margin level. Below close-out margin, its described process can draw on other available funds and liquidity support providers, then use auto-deleveraging if needed. Coinbase calls this sequence “a series of automated safety measures the exchange uses to manage high-risk positions.” These are Coinbase Global Exchange procedures, not a universal industry template. Coinbase’s liquidation-waterfall explanation describes its approach.
Exchanges also define how they handle losses that remain after liquidating a position. Binance describes insurance funds and auto-deleveraging, which can select opposing traders based on leverage and profitability. Coinbase describes its own insurance fund and says opposing-side funds may be clawed back to cover negative balances if that fund is depleted in a large-scale event. These platform-specific mechanisms are not identical or guaranteed to work the same way for every user. Binance Support’s futures liquidation explainer describes Binance’s example and backstops.
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How liquidation in DeFi lending differs
In collateralized DeFi lending, a borrower pledges assets against a loan. If the collateral’s value falls too far relative to the debt, protocol rules can allow liquidators to sell some collateral to repay the loan, sometimes with an incentive or discount. This is distinct from an exchange risk engine closing a futures position: execution follows smart-contract rules and may involve third-party liquidators.
A 2020 study, Liquidations: DeFi on a Knife-edge, examined Compound lending markets using an empirical sample ending September 6, 2020. The authors reported that a 3% asset-price variation could make more than $10 million liquidable, and that over 70% of liquidable positions in their sample were immediately liquidated. These are historical findings from that study’s sample and method, not current estimates for DeFi as a whole or current parameters for any protocol. The 2020 study record provides its context.
Independent reader supportYour contribution helps us test, update, and keep practical guides available for everyone.What to check before using a leveraged product
- Margin mode: Find out whether the position uses isolated, cross or portfolio margin, and which account assets can be counted as collateral.
- Trigger reference: Check whether liquidation uses mark price or another reference, and whether your stop-loss uses the same trigger basis.
- Margin requirements: Review initial and maintenance margin, position-size risk tiers, and any fees or funding that can affect available equity.
- Liquidation procedure: Confirm whether the venue reduces positions gradually or closes them, and what happens if losses exceed the position’s collateral.
- Backstops: Read the venue’s rules for insurance funds, liquidity support, auto-deleveraging or clawbacks; these protections differ by platform.
Leverage magnifies losses as well as gains, and perpetual products can carry funding costs. A stop-loss may reduce exposure if it triggers and executes as intended, but it does not guarantee protection from liquidation when the stop and liquidation use different price references. Review the current terms for the specific contract and platform before trading.
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