Comment by toomuchtodo
3 years ago
When you get margin called in traditional/centralized finance, humans intervene and liquidation is not immediate (except Interactive Brokers, who are closer to how crypto manages margin, and will liquidate you without a margin call). Maybe you put up more collateral, maybe you borrow from a line of credit, there is a buffer. As an individual, you work with your broker. As a larger participant, you work with the clearinghouse (of meme stock fame).
In crypto, there is no buffer. Auto liquidation of undercollateralized positions occurs. All of those humans in the loop, “unfair rules”, and settlement delays crypto proponents complain about are the very things that make traditional finance stable. This is why traditional finance doesn’t take seriously the idea of immediate settlement, and why end of day settlement is as good as it’ll get.
> In crypto, there is no buffer. Auto liquidation of undercollateralized positions occurs. All of those humans in the loop, “unfair rules”, and settlement delays crypto proponents complain about are the very things that make traditional finance stable.
Is auto-liquidation a bad thing? It leads to more volatility in the short-term, but it seems that there might be long-term benefits of ensuring that players with unresponsible business practices will be forced out of the market.
"Traditional" crypto holders will be affected too (the value of their investment goes down while people are forced to sell), but this looks more like a temporary impact. As long as they don't trade on margin they won't be forced to sell and as long as they hold their own keys they are unaffected if exchanges are crashing.
From a "price" perspective the current events might be bad for the crypto ecosystem, but from a "health" perspective I think that they could be positive, as only the responsible players with healthy business practices are going to survive.
The concern is propagation. If margin calls blow up individual organizations or institutions, that's bad but not a fundamental threat. The issue is that things are connected.
But it's only an issues for other connected entities when they are using risky business practices themselves.
A stablecoin that backs its assets in the currency that the stablecoin issues (for example a USD-based stablecoin that is backed by US treasuries) won't be affected by any disruption in the market. An exchange that is fully backed and does not allow margin trading won't be affected either. Regular holders who hold their own coins or use responsible exchanges also aren't affected.
Yes - there's quite a bit of propagation. But all entities affected by that propagation didn't seem to have proper risk management and used business practices that work well when the market does well, but that fall apart in case of high volatility. Maybe I'm just biased because I'm not a fan of margin trading (and similar practices), but I don't consider it a disadvantage if an ecosystem is hostile to those types of business practices.
2 replies →
> Is auto-liquidation a bad thing?
Not if you pretend everyone is an island and economies aren't interconnected.