What Crypto Exchanges Don't Want You to Know About Their Insurance Funds

Crypto exchanges often tout their 'insurance funds' as proof of security for user assets. However, the reality is more nuanced than meets the eye.

There are two types of funds being referred to here: the Derivatives Insurance Fund and the User Asset Fund.

The Derivatives Insurance Fund exists solely within the leveraged-trading engine and is designed to prevent 'clawbacks' when a liquidated trader's position goes underwater. This fund is funded by extra liquidation fees charged to users who get liquidated, and it covers only bankruptcy of individual leveraged positions during normal-to-elevated volatility.

The User Asset Fund, on the other hand, covers a portion of user losses in the event of a hack or security breach. This fund is typically funded by a percentage of trading fees set aside.