Understanding the importance of liquidation price is very important for developing a well-optimised crypto trading strategy.
The liquidation price in a futures contract varies and is dependent on the contract size, the leverage used, market conditions and even the order type. Sounds too much? Don’t worry. In this article, we will look at how it can be used to optimise your trading strategy.
What Is Liquidation Price In Crypto Trading?
When you enter into a trade, a liquidation price of the trade contract is automatically set based on the margin amount, the leverage you take for the contract, the entry price and the market performance. In a scenario where the contract’s value drops to the maintenance margin, then the contract is liquidated.
How Does Liquidation Price Work In Crypto Trading?
In leveraged trading like futures and perpetuals, you essentially place a trade with a margin (money required to enter into a trade) and leverage to make the trade contract size bigger. The liquidation price will vary depending on the margin amount and the leverage you take for your trade. This price is set to ensure that the exchange (lender) does not lose the borrowed funds (the leverage you take) making the entire trading system fair for all.
The calculation depends on the initial margin (the amount of collateral the trader puts up), the leverage used, and the current market price.
What Factors Influence The Liquidation Price In Crypto Trading?
Several factors can influence the liquidation price, including:
- Leverage Level: Higher leverage lowers the liquidation price for long positions and raises it for short positions.
- Initial Margin: A higher initial margin can provide a buffer, lowering the liquidation risk.
- Market Volatility: In highly volatile markets, the liquidation price can be hit more quickly, increasing risk.
How To Use Liquidation Price In Creating Your Crypto Trading Strategy?
Strategic Entry and Exit Points: You can use it to strategically plan their entry and exit points. By understanding where the liquidation point lies, you can make informed entry points to avoid prices that are too close to this level, thereby reducing the risk of forced liquidation.
Creating risk management strategy : Knowing your liquidation price allows you to manage risk effectively by setting stop-loss orders above the liquidation price to prevent automatic liquidation and potentially worse losses. It also helps in deciding the appropriate leverage and position size.
Diversifying trade positions: You can utilise the liquidation price in diversifying your positions and appropriately sizing them to ensure that no single position is at high risk of liquidation.
How To Avoid Forced Liquidation In Crypto Trading?
Avoiding liquidation in crypto trading, especially when using leverage, is crucial for preserving your capital and maintaining a profitable trading strategy.
Implement Stop-Loss Orders
Strategic Placement: Set stop-loss orders at a level above the liquidation price to ensure positions are closed before significant losses occur.
Dynamic Adjustment: Regularly update stop-loss levels in response to market movements to lock in profits and minimize risk.
How To Set Stop-Loss On Bitunix?
Use Lower Leverage
- Reduced Risk: Opt for lower leverage ratios to decrease the likelihood of hitting the liquidation price.
- Manageable Movements: Lower leverage requires larger adverse price movements to trigger liquidation, providing a greater safety margin.
Maintain Adequate Margin
Sufficient Funds: Keep enough funds in your account to meet margin requirements and avoid falling below the maintenance margin.
Regular Monitoring: Continuously monitor margin levels and add funds when necessary to maintain a buffer against liquidation.
Diversify Your Trades
Spread Risk: Invest in various assets and positions to reduce the impact of a single position being liquidated. Hedge Positions: Balance your portfolio with both long and short positions to mitigate risks from market movements in either direction.
Stay Informed and Monitor Markets
Market Trends: Keep abreast of market trends, news, and technical indicators to anticipate price movements.
Volatility Awareness: Be aware of market volatility and adjust your strategy accordingly to prevent rapid price changes from affecting your positions.
Wrapping Up
To summarize, understanding and using liquidation price effectively can be a game-changer in your trading strategy. By incorporating this knowledge into risk management, strategic planning, and using advanced tools, you can enhance your chances of succeeding in futures trading and safeguard your assets against losses.
