In the night of July 31st 2018, an unprecedentedly large Bitcoin long position got liquidated on Chinese cryptocurrency exchange OKEx. The position had a total value of a staggering $416,000,000 USD (four hundred sixteen million) on entry.

It is unknown what leverage was applied to this trade, but various findings point out that it must have been x20. This means the trader in question actually had a collateral of $20,800,000 in their trading account, and exchange OKEx lent the trader another $395,200,000 in Bitcoin to increase the position to a total value of $416,000,000.

Leverage of x400 on an invested amount of $200 makes $80,000.

What happened exactly?

The trader got liquidated when the Bitcoin price reached a level of $8,020.49. Assuming a leverage of x20 (will explain later why), this means the position was at a -5% loss here (-5% x 20 = -100% = liquidation). It also points out the average entrypoint of this long position must have been (8,020.49/95 = 84.42621, 84.42621 * 100 = 8442.62) $8442.62. If you now look at the Bitcoin charts during beforementioned timeframe, you might scratch your head for a while, because the Bitcoin price had not reached this level since May 21st earlier that year, and the position was not open back then. Yet it is speculated that his entrypoint was still $8442.62. This is because the position was not opened in a Bitcoin spot market, but on the Bitcoin future market. On OKEx, the exchange where these future contracts were traded, those contracts had been trading for a premium up to $8,600+ only a few days in prior to this liquidation. One of the reasons that the contracts were trading at such a high price is because the trader in question had to discretely build out their huge position by buying up bits and pieces over time, slowly pushing the price for the future contracts up because of the demand.

A screenshot of the liquidation at OKEx at a BTC price of $8,020.49. The volume was 4.16 million contracts and they were all worth $100.

What happens at liquidation?

The Bitcoin price dropped 5%, and the traders’ future contracts are now worth just $395,200,000 (95% of 416,000,000). The personal collateral from the trader’s account has now vaporized in value ($20,800,000), and so OKEx comes in to take over the position and sell everything that is left in order to secure the funds that they lended out. This is where a problem develops. OKEx wants to sell the remaining contracts worth $395,200,000, but the market is by far not liquid enough. There are simply not enough buyers at that price, and so OKEx is stuck with a really, really huge pile of Bitcoin long contracts at a Bitcoin price of $8,020.49. If the Bitcoin price continues to decline from here, OKEx is going to lose value on these contracts (a lot). And so OKEx puts all contracts up for sale at a price of $8,020.49. All these contracts are now sitting in the sell order book of the exchange, waiting for a buyer.

This is what a sell wall looks like in an order book. The sell wall is placed at approximately a price of 0.01208 for this token.

This is often referred to as a sell wall (a really big sell order). Only when all the contracts are sold, the price of a contract can surpass $8,020.49 again (why would anyone buy it for more if they are still being sold for 8,020.49?). But where do you find buyers liquid enough to buy an approximate value of $300,000,000 in Bitcoin long contracts? Right, nowhere. A large downward pressure on the Bitcoin price now evolves (price can easily go down but it can only go up if these contracts worth a total of $300,000,000 are sold first), making things for OKEx even worse. On Friday August 3rd, all contracts were settled at an approximate Bitcoin price of $7,400. At that time, the value of the remaining contracts would have been about 6–8% less. That is a loss of about 20 to 30 million dollar for OKEx.

Who covers the losses of the exchange?

The people that were short on the same exchange against all the contracts that were long (also the contracts that OKEx was still sitting on), were making pretty good profits as they made the right bet. But OKEx’s terms and conditions state that in a situation like this, where OKEx loses money because of an unfilled order after liquidation, all counterparties of the liquidated trade will have to cover for these losses by handing over a share of their profits. This is called clawback. In this case, that would have meant that all counterparties (the short positions) would have to hand over almost 50% of their profits. Clawback is not very uncommon, but a clawback of 50% is insane, and therefore unacceptable. OKEx eventually decided to inject 2,500 BTC from their private funds into their insurance fund to cover for a large part of the losses instead. The clients that were short still faced a significant clawback, but already much less severe.

What was the trick of the trade? Who would go long with 20,800,000 x20 on Bitcoin?

That is the question indeed. A $20,800,000 Bitcoin long with a leverage of x20 smells pretty fishy. Something is probably up because a position in size like this is very uncommon. The crypto community has been heavily speculating about what this trader was doing in the background. A good theory is this:

The same trader that got liquidated on his $20,800,000 collateral on OKEx was probably short on a different exchange for the exact same amount at the same price. This means that at the time of liquidation, he was 20,8 million USD in loss at OKEx, but 20,8 million USD in profit on another exchange. This is often referred to as a hedge. The trick is, that now that his long position is liquidated, a crazy large sell wall is left on OKEx, creating a lot of downward pressure on the Bitcoin price because it will be hard for the market to fully consume this sell wall so that prices can rise above liquidation price again. The Bitcoin price is therefore quite likely to drop from here. The same trader that got liquidated on OKEx, still owns his short position on the other exchange, and if prices continue to decline, this short position could become very profitable.

What is the risk of this trick?

The only risk is that the sell wall on OKEx (that he left himself) gets fully consumed (sold) and the price starts rising again above 8,020.49. At a price of 8,020.49 he is still at break-even, but once the price goes above that, the value of his short will start to decrease and this will result in a net loss. Therefore, all the trader has to do is keep a close eye on his sell wall on OKEx and close his short position on the other exchange as soon as he expects the sell wall to fully disappear.