Insurance Fund is a fundamental role in cryptocurrency exchanges and derivatives protocols. Its main function is as a bulwark against contract losses in leveraged trading.
In addition, there is also a function to be used to pay traders in the event of liquidation, especially for those who fail to take action to prevent open positions from going bankrupt. Insurance funds are usually topped up through exchange fees, liquidation fines, or other funding sources.
Main Function of Insurance Fund
Leveraged Trading
In leveraged trading, each position has a liquidation price and a bankruptcy price. If the liquidation price of a position is higher than the bankruptcy price, the position will be closed and liquidated.
A portion of the remaining margin will be added to the insurance fund. Conversely, if the liquidation price is lower than the bankruptcy price, the insurance fund will cover the loss.
Important Considerations
Exchange operators and protocol designers must pay close attention to insurance fund health when designing, building, and operating exchanges that offer leveraged trading. This aims to ensure the financial sustainability of the exchange and protect traders from potential losses that could occur during liquidation.
Insurance funds play a key role in the leveraged crypto trading ecosystem. Its existence as a defense against contract risk and a source of liquidation financing makes it an important element in maintaining exchange stability and protecting the interests of traders.
Therefore, special attention to the management and health of the insurance fund is key to ensuring the continuity of exchange operations and the security of users' assets.
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DISCLAIMER: This article is informational in nature and is not an offer or solicitation to sell or buy any crypto assets. Trading crypto assets is a high-risk activity. Crypto asset prices are volatile, where prices can change significantly from time to time and Bittime is not responsible for changes in fluctuations in crypto asset exchange rates.
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