How to calculate the liquidation price of perpetual contracts

The liquidation price for a long position of 10 ETH perpetual contracts entered at $1,500 with a maintenance margin of 20% and a current market price of $1,600 would be $1,540, which is the entry price plus the product of the position size and maintenance margin divided by the market price.

Nov 02, 2024 at 12:52 am

How to Calculate the Liquidation Price of Perpetual Contracts

1. Understand Liquidation

In perpetual contracts trading, liquidation occurs when a trader's margin balance falls below the required maintenance margin. The liquidation price is the market price at which the trader's position is forcibly closed to cover potential losses.

2. Formula for Liquidation Price

The liquidation price (LP) is calculated as follows:

LP = Entry Price ± (Position Size * Maintenance Margin / Market Price)

where:

Entry Price is the price at which the position was opened.
Position Size is the number of contracts traded.
Maintenance Margin is the minimum margin required to maintain the position.
Market Price is the current market price of the underlying asset.

3. Applying the Formula

Let's say you have a long position of 10 ETH perpetual contracts with an entry price of $1,500. The maintenance margin is 20%. Given a current market price of $1,600, your liquidation price would be:

LP = $1,500 + (10 * 0.20 * $1,600 / $1,600) = **$1,540**

4. Example of Liquidation

If the market price drops to $1,530, your margin balance will fall below the required maintenance margin of $3,200 (10 0.20 $1,600). At this point, your position will be liquidated at $1,540, resulting in a loss of $600 (10 * ($1,540 - $1,500)).

5. Monitoring Liquidation Price

Traders should constantly monitor their liquidation price to manage their risk effectively. Exchanges typically provide real-time information on liquidation prices and margin balances.

6. Reducing Liquidation Risk

To reduce the risk of liquidation:

Use leverage responsibly.
Maintain sufficient margin to cover potential market fluctuations.
Consider using stop-loss orders to limit potential losses.
Monitor your positions regularly and adjust them as necessary.

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