CRYPTO INDUSTRY SECRETS: Non-Liquidating Accounts

CRYPTO INDUSTRY SECRETS: Non-Liquidating Accounts

Cryptocurrency & Blockchain

Hidden in the bankruptcy documents of the crypto exchange FTX, was a statement that Alameda Research managed to rack up a negative balance of several billion! Most people would be shocked by the concept of an exchange allowing such large losses since the everyday experience of trading is very different – once a trader’s losses exceed collateral, his position is sold & trading stops. The secret exemption allowing such scenarios is the existence of non-liquidating accounts, one of crypto industry’s most harmful secrets.

Liquidation is a normal process executed by exchange or prime broker to reduce risk of a trader’s position. In addition prevent the situation of balance at a trading account to go negative when the losses exceed the posted collateral.

Non-liquidating accounts have the liquidation feature turned off, and a trader does not need to settle losses. Furthermore, allowed to hold onto a position for extended time, typically until he chooses to close the trade. A trader with a non-liquidating account who does not manage his position correctly can end up in a situation where losses exceed available collateral, hence owing a massive negative balance to the exchange. For instance, a trader can deposit $1’000’000 of collateral, but due to bad trading or poor risk management, ends up having a loss of $10’000’000, hence a negative balance of $9’000’000, effectively owing the exchange.

The exchange would never give a non-liquidating account to a normal user!

Non-liquidating accounts become reserved for the world’s largest market makers and traders. Market maker gets a non-liquidating account to have a lot of freedom to provide liquidity since providing liquidity for innovative products requires a large amount of capital & development of trading infrastructure. Crypto exchanges, in their never-ending pursuit for volume, give non-liquidating accounts to the world’s crypto whales, since they are large source of trading activity & volume, which results in revenues for the exchange.

There’s a subtle way of discovering exchanges with non-liquidating accounts gone wrong, by observing a steep drop in Open Interest after(!) a large price move. The derivatives exchange would approach the trader with a large negative balance, and as well the trader(s) with profits – since such situations are zero-sum – and asked them to net-out the positions off the market. The traders with profits would then become shocked to find out their profits are not what they thought. Since the negative balance from non-liquidating account is the gap! If the exchange cannot net-out the massive negative balance. The rumors of insolvency start. As a result, effectively a bank-run happens and withdrawals become stopped…

The crypto industry is myriad of secrets known only to insiders – my goal is to shed light forward to strengthen our industry which will be the backbone of infrastructure for the world’s growth in the coming decades. More to come soon!

CRYPTO INDUSTRY SECRETS: Non-Liquidating Accounts

Written by Anton Golub

Anton is a Strategic Advisor & Co-founder of Pazar, decentralized OTC marketplace. Anton founded & served as CEO of flovtec. Swiss market-maker providing liquidity solutions to digital asset exchanges, token issuers & protocols and offering investment products for professional & institutional investors. Furthermore, Anton is also a co-founder of Trust Square AG, a pre-eminent blockchain technology hub located in Zurich’s financial district. Anton co-founded Lykke Corp. A blockchain-powered exchange to trade all assets with zero fees, where he served as a Chief Science Officer. Prior to Lykke, he worked as a quantitative researcher at Olsen Ltd (successor to Olsen & Associates, founded in 1985). A boutique investment firm that pioneered the field of high-frequency trading. As a Marie Curie Research Fellow at the Alliance Manchester Business School. Anton worked on high-frequency trading, market microstructure and flash crashes. In 2011, he was invited to participate in the Foresight Project. The Future of Computer Trading in Financial Markets. An international project on algorithmic trading funded by HM Treasury in the UK. Anton became involved in several research projects backed by the European Union (EU). And served on the Supervisory Board for the BigDataFinance project. Funded through Horizon 2020. Lastly, he has co-authored 13 academic papers and two books.

CRYPTO INDUSTRY SECRETS: Non-Liquidating Accounts

Cryptocurrency & Blockchain