After the wild success of the 100x leverage Bitcoin perpetual swap on BitMEX, other major Bitcoin Futures exchanges quickly matched the same offering.

Today, most of the big crypto futures exchanges offer 100x leverage: Deribit, Bybit, and FTX, just to name a few.

However, is this truly in the best interest of exchange’s users?

For most new traders, the idea of 100x leverage sounds extremely alluring. After all, who wouldn’t want to trade with $100,000, while only having a $1,000 account.

Little do they know that 100x leverage DESTROYS any trading edge that they may actually have.

The goal of this article is to outline why, in simple terms.

KEY POINTS

When using more than 25x leverage, the exchange’s maintenance margin is destroying your trading edge.

Fees are charged on the entire leveraged position, and not just your margin. Hence, fees are extremely destructive to your margin when using high leverage.

Big traders are incentivized to liquidate overleveraged positions and, indeed, do so regularly.

I’d like to give credit to BambouClub for most of the ideas discussed throughout the article. His excellent Medium articles about Bitcoin Derivatives are a must read for every cryptocurrency trader.

Finally, it’s important to note that this article is in no way a criticism of BitMEX. In fact, I do most of my trading there. But it’s important that traders know what they’re getting into when using the exchange.

Maintenance margin destroys your edge

BitMEX works unlike traditional futures exchanges, like the CME, where losses are technically unlimited. At BitMEX, your maximal loss is the margin that you are using in a particular position.

Hence, BitMEX needed a mechanism to ensure that losses never exceed a trader’s margin.

The exchange’s solution to the problem is rather elegant. BitMEX forcefully liquidates a trader’s position BEFORE the margin is worth zero (also called the “bankruptcy price”).

If a trader is long, BitMEX sets a liquidation price slightly above the bankruptcy price.

If a trader is short, BitMEX sets a liquidation price slightly below the bankruptcy price.

If the market moves against the trader’s position and reaches the liquidation price, the position of the trader is automatically liquidated at market.

This difference between the liquidation price and the bankruptcy price is referred to as the Margin Maintenance Requirement (MMR).

This is great for BitMEX, because the MMR serves as a cushion protecting the exchange from liabilities.

But it’s highly destructive for traders.

And most people underestimate how destructive it REALLY is.

Theoretically, if a trader is 100x long, his margin is worth zero after a 1% price drop.

HOWEVER, BitMEX already liquidates the position after a 0.44% adverse move to satisfy it’s maintenance margin requirements.

So, as you hopefully realized by now, the maintenance margin requirement when using more than 25x leverage is absurdly high.

This significantly erodes a trader’s edge, since it liquidates a position before it would be “fair” to do so.

To avoid falling victim to high maintenance margin requirements, do not trade with extremely high leverage. This effect is barely noticeable when using less than 10x leverage.

Fees eat away your margin

Fees on BitMEX are comparatively much higher than on spot exchanges, since the fee applies to the entire leveraged position, and not just the margin used.

So, if you have $1,000 in your BitMEX account (your margin) and use it to open a $100,000 position by using 100x leverage, you’re paying the 0.075% fee on the entire $100,000 position and NOT just on the $1,000.

This means that you’re effectively paying a 7.5% taker fee on your margin (0.075% x 100x).

Now, if you use a taker order to get into the position and a taker order to get out of the position, you will have paid a 15% fee on your margin of $1,000, which is $150.

Crazy, right?

Let’s now plot this on a chart to make it more visual.

The chart below displays the percent of your margin that gets eaten away, when using market orders to get in and out of a position, based on how much leverage you are using.

We can clearly see that fees paid when using very high leverage (over 25x), is extremely destructive to your margin.

Volatility that’s designed to liquidate

At the time of writing, the 30-day rolling average Bitcoin volatility is 2.39%. This is the standard deviation of daily returns in the past 30 days.

For reference, here’s the adverse price move that would liquidate a long:

So, if a trader is using more than 50x leverage and doesn’t PERFECTLY nail the trade, odds are that he’ll get liquidated after just a day.

BUT that’s not all.

There are days where even if the trader is right and price ends up trending in the predicted direction, the position gets liquidated first, as big traders run the market sharply up and down to shake out overleveraged traders.

This price action has been informally termed as a “Darth Maul” candle, in reference to the Star Wars character known for using a double lightsaber.

In January 2020 alone, there were 5 occasions where in a single day Bitcoin moved 3%+ from high to low only for the price to close near the daily open.

Overleveraged traders get slaughtered in price action like that.

To conclude:

DON’T trade with 100x leverage, and avoid using more than 25x leverage.

If you do, know that odds are stacked against you.

Safe trading.