Auto-Deleveraging (ADL)

When an investor is forced to close a position, their surplus will be taken over by MEME's Forced Close Out system. If a forced liquidation position is not able to close in the market and when the marker price reaches the breakeven price, the automatic position reduction system will reduce the positions of investors holding positions in the opposite direction. The order of position reduction will be determined by the leverage and profitability ratio. The Auto-Deleveraging will be based on the breakeven price of the forced position.

What is a loss on a position closeout

Suppose a large trader has a long position worth 100 times the leverage and one day, due to a significant drop in the market price, the trader's position is forcibly liquidated, resulting in a large loss on the closeout. A closeout loss is when a position loses more than the margin used on the position after a forced liquidation is executed. In order to cover a shortfall, most trading platforms use a shared loss mechanism, where the total loss of the contract is distributed proportionally to all traders who took profits.

Disadvantages of Shared Loss Mechanisms

Shared loss mechanism is the practice of allocating the total loss of a contract to all profitable traders in proportion to the total loss of the contract in order to cover the loss of the open position. In this model, a single high-risk trader can cause significant losses to all profitable traders (including low-risk traders). Obviously, this is unfair to all market participants; why should the other traders bear the huge losses caused by the high-risk traders? If there is a large scale liquidation event, it means that a lot of traders will be affected.

What is Auto-Deleveraging

Auto Deleveraging means that when a trader is forced to close a position, if the position cannot be closed at a price better than the closeout price and the balance of the insurance fund is not sufficient to cover the loss of the position, the Auto Deleveraging system will reduce the position of the trader holding the position in the opposite direction to ensure that the forced liquidation order can be executed in time so to avoid further losses.

Procedure of the Auto-Deleveraging mechanism

a) The trader with the highest ranking in the Auto-Deleveraging system will be selected by the system first.

b) The ranking is based on the profit and loss of the position and the effective leverage used, i.e. the more profit and the more leverage used, the higher the ranking.

c) Selected positions will be closed at the breakeven price of that forced order.

d) The liquidity provider's reward will be given back to the selected trader and the liquidity extractor's fee will be charged to the account of the trader who triggered the forced liquidation.

e) The trader experiencing Auto-Deleveraging will be notified by email/phone and all active orders will be cancelled and the trader will be free to re-enter the market to trade.

Advantages of the Auto-Deleveraging system

Unlike other trading platforms, MEME uses an ADL system that automatically selects traders holding positions in the opposite direction to reduce their positions based on the percentage of profit and loss of the position and the effective leverage used. This means that the smaller the percentage of profit a trader holds and the less leverage he uses, the smaller the chance of having his position automatically reduced.

Comparison of the Auto-Deleveraging mechanism with the Shared Losses mechanism

a) Unlike the Shared Losses mechanism, which calculates the total loss of a contract and distributes it proportionally to all profitable traders, in an Auto-Deleveraging system, positions are ranked according to the profitability of the position and the effective leverage used, and positions are automatically reduced according to the order of ranking. Therefore, low-risk traders have a lower chance of having their positions automatically reduced, which is a fair protection for low-risk traders.

b) The Shared Losses mechanism requires that realized profits be locked in until the settlement date of the contract. This mechanism is inflexible and inconvenient for traders. Traders can make trading decisions immediately after an Auto-Deleveraging event rather than waiting until the settlement date.

c) Traders can reduce the risk of Auto-Deleveraging by reducing leverage or closing out part of their profitable positions, addressing the uncertainty of the Shared Losses mechanism.

How to reduce the risk of Auto-Deleveraging

Traders can reduce the risk of Auto-Deleveraging by reducing leverage or closing out some of their profitable positions.

a) Reduce the leverage level of the position to reduce the ranking of the Auto-Deleveraging position in a timely manner.

b) Closing out partially profitable positions will not reduce the Auto-Deleveraging queue, but will reduce the number of contracts exposed to the risk of automatic position reduction.

Auto-Deleveraging queue

The position of a trader in the ADL queue is based on the profit and loss of the position and the effective leverage used, i.e. the more profit and the more leverage used the higher the ranking will be, the highest ranking in the ADL system will be selected by the system first.

Calculation of Auto-Deleveraging queue ranking factor

The order of Auto-Deleveraging is determined by the automatic position reduction queue ranking factor.

The sorting factor is calculated as follows:

Ranking Factor = Profit Percentage * Effective Leverage (if the contract is profitable) = Profit Percentage / Effective Leverage (if the contract is losing money)

Where % profit = (marker value - average open value) / abs(average open value)

Effective leverage = ABS (marker value) / (spot value - bust value)

Spot value = value of the position at the spot price

Average open value = value of position at average open price

Note: The Auto-Deleveraging system sorts the long and short positions from highest to lowest.

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When an investor is forced to close a position, their surplus will be taken over by MEME's Forced Close Out system. If a forced liquidation position is not able to close in the market and when the marker price reaches the breakeven price, the automatic position reduction system will reduce the positions of investors holding positions in the opposite direction. The order of position reduction will be determined by the leverage and profitability ratio. The Auto-Deleveraging will be based on the breakeven price of the forced position.
What is a loss on a position closeout
Disadvantages of Shared Loss Mechanisms
What is Auto-Deleveraging
Procedure of the Auto-Deleveraging mechanism
Advantages of the Auto-Deleveraging system
Comparison of the Auto-Deleveraging mechanism with the Shared Losses mechanism
How to reduce the risk of Auto-Deleveraging
Traders can reduce the risk of Auto-Deleveraging by reducing leverage or closing out some of their profitable positions.
Auto-Deleveraging queue
Calculation of Auto-Deleveraging queue ranking factor
The sorting factor is calculated as follows:
Note: The Auto-Deleveraging system sorts the long and short positions from highest to lowest.