Several key points you must know about trading contracts in the cryptocurrency space:
What is leveraged trading?
Before introducing isolated margin and cross margin, let's briefly discuss leveraged trading. Leveraged trading refers to investors using borrowed funds from trading platforms or brokers to buy and sell assets beyond their own capacity. They use their own assets in the account as collateral to borrow and invest more funds in hopes of earning greater returns.
Suppose you have $5,000 and believe that the price of Bitcoin will rise. You can either buy $5,000 worth of Bitcoin directly or borrow funds using your existing positions to trade. If the price of Bitcoin rises by 20%, and you invested $5,000 without leverage, your current investment value will rise to $6,000 ($5,000 principal + $1,000 profit). That is, the return is 20% of the principal.
However, if you used 5:1 leverage when investing $5,000, you would be borrowing four times your own funds, giving you an investment principal of $25,000 ($5,000 of your own funds + $20,000 of loaned funds). If the price of Bitcoin rises by 20%, the value of your $25,000 investment principal would now rise to $30,000 ($25,000 investment principal + $5,000 profit). After repaying the $20,000 loan, you would have $10,000 left. Therefore, the return is 100% of your own funds ($5,000).
Please remember that leveraged trading is extremely risky. Let's look at the opposite scenario where the price of Bitcoin drops by 20%. At this point, if you had not used leverage, the value of your $5,000 investment principal would fall to $4,000 ($5,000 principal - $1,000 loss), resulting in a 20% loss. However, if you had used 5:1 leverage, the value of your $25,000 investment principal would drop to $20,000 ($25,000 investment principal - $5,000 loss). Once you repay the $20,000 loan, you would be left with nothing, resulting in a 100% loss.
The above simplified example does not include trading fees or interest that may arise from borrowed funds, and in real trading scenarios, these expenses can reduce your returns. Please remember that due to the fast fluctuations in the market, potential losses may even exceed your investment principal.
What is isolated margin?
Isolated margin and cross margin are two different types of margin that many cryptocurrency trading platforms offer. Both modes have their own utility and risks. The following will delve into the concepts and workings of these two modes.
In isolated margin mode, the margin amount for specific positions is limited. This means that users can decide how much money to allocate as collateral for specific positions while the remaining funds are not affected by that trade.
Suppose your total account balance is 10 BTC. You believe that the price of Ethereum (ETH) will rise, so you decide to open a leveraged long position in ETH. You allocate 2 BTC as isolated margin for this specific trade, with a leverage ratio of 5:1. This means you are effectively trading with ETH worth 10 BTC (2 BTC of your own funds + 8 BTC leveraged position).
If the ETH price rises and you decide to close your position, all the profits you earn will count against the initial margin of 2 BTC allocated to that trade. However, if the price of ETH drops sharply, your maximum potential loss would be the 2 BTC isolated margin. Even if your position is forcibly liquidated, the remaining 8 BTC in your account would not be affected. This is why this mode is referred to as 'isolated' margin.
What is cross margin?
Cross margin uses all available funds in your account as collateral for all trades. If one position incurs a loss but another position makes a profit, the profit from that position can be used to offset the loss, thereby extending your holding time.
We illustrate how this works with an example. Suppose your total account balance is 10 BTC. You decide to open a leveraged long position in ETH and a leveraged short position in another cryptocurrency Z under the cross margin mode. You actually trade with ETH worth 4 BTC and Z worth 6 BTC, both with a leverage ratio of 2:1. Your total account balance of 10 BTC will be used as collateral for these two positions.
Suppose the ETH price falls, causing potential losses, but at the same time, the price of Z also falls, resulting in profits from your short position. In this case, the profits from the Z trade can be used to offset the losses from the ETH trade, allowing both positions to maintain their status.
However, if the ETH price falls while Z's price rises, you may face losses on both positions. If the losses exceed your total account balance, both positions may be forcibly liquidated, and you could lose your entire account balance of 10 BTC. This is very different from isolated margin, where your maximum loss does not exceed the 2 BTC allocated to the respective trade.
Please remember that the above simplified example does not include trading fees and other costs. In addition, real trading scenarios are usually much more complex.
The main differences between isolated margin and cross margin
From the above examples, we can clearly see the similarities and differences between isolated leveraged trading and cross leveraged trading. We can summarize their main differences as follows:
Collateral and liquidation mechanisms
In isolated margin mode, only part of the funds is reserved for a specific trade, and only that portion of funds faces the risk of loss. This means that if you are trading with 2 BTC in isolated margin mode, only that 2 BTC is at risk of being forcibly liquidated.
But in cross margin mode, all the funds in your account are used as collateral for trading. If one position incurs a loss, the system can utilize your entire account balance to prevent that position from being forcibly liquidated. However, if multiple trades incur significant losses, you may lose your entire balance.
Risk management
Isolated margin allows for more refined risk management. You can allocate a specific amount that you are willing to lose for each trade without affecting the remaining account balance. In contrast, cross margin aggregates the risks of all open positions. This mode can be useful when managing multiple positions that may offset each other, but aggregating all positions' risks may also mean that potential losses could be higher.
Flexibility
In isolated leveraged trading, if you wish to increase your margin, you must manually add more funds to that isolated margin position. In contrast, cross margin automatically utilizes all available balances in your account, avoiding any positions being forcibly closed, thus eliminating the need to frequently meet maintenance margin requirements.
Use cases
Isolated margin is suitable for traders who want to manage risk on a per-trade basis, especially when they are highly confident in a specific trade and wish to manage risk separately. Cross margin, on the other hand, is more suitable for traders holding multiple positions that may hedge against each other, or those who wish to utilize their entire account balance without frequently meeting maintenance margin requirements.
Pros and cons of isolated margin
The pros and cons of isolated margin are as follows:
Advantages of isolated margin
Controlled risk: You can decide how much money to allocate and lose for specific positions. Only that portion of funds is at risk of loss, and the remaining funds in your account are not affected by the potential losses of that specific trade.
Clearer profit and loss: When you know the exact amount of funds allocated to each position, it becomes easier to calculate the profit and loss of that position.
Predictability: By isolating funds, traders can predict the maximum loss they may face in the worst-case scenario, which helps in better risk management.
Disadvantages of isolated margin
Requires close monitoring: Since only a portion of the funds is used as collateral for positions, you may need to monitor trades more closely to avoid forced liquidation.
Limited leverage: If a trade starts to incur losses and approaches forced liquidation, you cannot automatically use the remaining account funds to prevent this. You must manually add more funds to the isolated margin position.
Higher management costs: Managing multiple isolated margins for different trades can be quite complex, especially for beginners or traders managing a large number of positions.
In summary, while isolated margin provides a controlled environment for managing leverage trading risks, this mode requires more active management and, if used improperly, may limit profit potential.
Pros and cons of isolated margin
The pros and cons of cross margin are as follows:
Advantages of cross margin
More flexible margin allocation: Cross margin automatically utilizes all available balances in the account, avoiding any open positions being forcibly closed, and provides higher liquidity compared to isolated margin.
Offsetting positions: The profits and losses between positions can offset each other, which may be favorable for hedging strategies.
Reduced liquidation risk: Cross margin lowers the risk of any single position being prematurely liquidated by pooling all balances, as the fund pool of this mode is larger and can meet margin requirements.
Easier management of multiple trades: Since you do not need to adjust the margin for each trade individually, you can simplify the process of managing multiple trades at the same time.
Disadvantages of cross margin
Higher overall liquidation risk: If all positions incur losses and the total losses exceed the account balance, there is a risk of losing the entire account balance.
Weaker control over individual trades: In cross margin mode, since the margin is shared across all trades, it is difficult to set specific risk-reward ratios for individual trades.
There is a possibility of excessive leverage: Since cross margin mode supports the use of the entire balance, traders may be inclined to open larger positions than in isolated margin mode, which could lead to larger losses.
Unclear risk exposure: Traders may find it difficult to clearly measure their overall risk exposure, especially when there are multiple open positions with varying degrees of profit and loss.
An example of using both isolated margin and cross margin simultaneously
In cryptocurrency trading, combining isolated margin and cross margin strategies is a subtle way to maximize returns while minimizing risks. We illustrate how this works with an example.
Let's assume that due to an upcoming upgrade of Ethereum, you believe the price of ETH will rise, but you also want to hedge against the potential risks from overall market volatility. You suspect that while ETH may rise, BTC may fall.
In this case, you might consider using isolated margin mode for a portion of the portfolio (for example, 30%) to open a leveraged long position in ETH. This way, you can limit potential losses to within 30% in case ETH does not perform as expected. But if the price of ETH rises, you will gain considerable profits from this part of the portfolio.
For the remaining 70% of the funds in this portfolio, you can use the cross-margin mode to allocate that portion of funds for opening a BTC short position and a long position in another competitive coin Z. You believe that this trade will perform well regardless of BTC's movements.
This way, you are using the potential profits from one position to offset the potential losses from another position. If BTC falls as you predicted, the resulting profit can be used to offset the loss from Z, and vice versa.
Once you have set up these positions, you need to continuously monitor both strategies. If ETH starts to decline, you might consider reducing the isolated margin position to limit losses. Likewise, if the performance of Z in the cross margin strategy starts to deteriorate significantly, you may also consider adjusting the position.
By combining isolated and cross margin, you can actively attempt to profit from market predictions while also hedging risks. However, while combining these two strategies helps with risk management, it does not guarantee profits or avoid losses.
Conclusion
Leveraged trading has the potential to increase returns, but it also carries equal or even higher levels of risk. Users should choose between isolated margin and cross margin based on their trading strategy, risk tolerance, and desired level of active position management.
Pi coin is about to launch, be careful not to fall into the big pit of 'lock-up period'!
Pi coin will land on many exchanges on February 20! However, despite the excitement, there is considerable controversy, with some people believing Pi coin is a scam.
Today I want to talk about a pit that many people have overlooked. Remember when Pi coin conducted KYC verification, there was a lock-up mechanism, and many people didn't understand what was going on. Without realizing it, they locked their mining acceleration rates, some for a year, and some even for three years!
Now, those who have transferred Pi coins to their wallets must let them sit in the wallet for the entire lock-up period and cannot move them. During this time, these Pi coins cannot be traded or exchanged; they are essentially 'frozen'.
This situation is quite frustrating. I think everyone needs to research thoroughly before investing in Pi coin, rather than rushing in blindly. After all, true value must rely on our own judgment and understanding. Don't end up losing money and falling into a big pit!
If you currently feel helpless and confused about trading, and want to learn more about the cryptocurrency space and the latest information, follow me, and you won't get lost in this round of bull market!
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