Winning Positions Can Be Closed Without Warning: Understanding Auto-Deleveraging

Auto-deleveraging is a mechanism used by leveraged crypto venues to close profitable positions when a liquidation cannot be settled in the market and the venue's buffers are exhausted. This ensures that the exchange's books balance.

The mechanism exists because perpetual futures markets are zero-sum instruments backed by finite collateral, making it necessary for every long position to have a corresponding short position. When a losing side runs out of money, the accounting must still close somewhere.

Auto-deleveraging is the final step in a chain that includes margin call, liquidation into the market, backstop absorption by an insurance fund or protocol vault, and then deleveraging of the winning side. Selection for auto-deleveraging is not random; venues rank candidates based on unrealized profit, effective leverage, and position size.

The architecture of a venue determines how likely it is to encounter auto-deleveraging. Venues with deep, well-capitalized backstops absorb losses that thinner venues push directly onto winners.