Pitfalls to avoid when trading on margin on Binance
Why margin trade in the first place?
It can significantly enhance returns on a profitable spot trading system.
What are the pitfalls to avoid?
A single mistake or a black swan event (think 12 March 2020) can leave you with literally nothing.
Mitigant: Size your margin trading portfolio such that in a black swan event, your overall portfolio is sustained. Considering the uncorrelated nature of crypto markets to the traditional markets, it would be reasonable to not place more than 25% of investable funds into a margin trading account.
If your trading system becomes unprofitable, margin trading would compound losses fast.
Mitigant: Monitor the margin trading account daily. Shorten P&L reporting period to spot the unprofitable trend quicker.
Avoid liquidation due to asset volatility.
Margin accounts require the value of your margin portfolio to remain above a certain percentage (for most Binance users it’s 110%) of your borrowed funds at all time. This means that even if the overall direction of the trade has been chosen correctly, intra-day volatility can trigger an automatic position liquidation crystallising losses and preventing from reaping the benefit from the trade that is profitable in a longer term.
Mitigant: 1. Ensure availability of external funds to “top up” the margin account in case of a margin call. 2. Adjust the initial leverage ratio taking into account the volatility of the underlying asset. For example, a 3x leverage on Binance (requiring a maintenance ratio of 1.1) would only be liquidated after a c. 25% adverse change in price, while a 2x leverage would be able to sustain intra-day changes of c. 40%.
How is the margin level calculated?
Margin Level of a Cross Margin Account = Total Asset Value of a Cross Margin Account/(Total Liabilities + Outstanding Interest)
If you have 10,000 BUSD in your margin wallet, you can borrow 20,000 BUSD more. If you spend the combined 30,000 BUSD to buy 3 BTC at the price of 10,000 BUSD per 1 BTC, your margin level would be calculated as follows:
Margin level = (3 BTC * 10,000 BUSD) / (20,000 BUSD + outstanding interest) = 1.5 at the inception of the trade
Historically, there have been only 10 instances where the Bitcoin price has moved by over 25% within a day on Coinbase and no instances of moves significantly larger than 40% since the beginning of 2015, apart from a flash crash on 15 April 2017.
However, it is such out-of-the-ordinary events that can wipe out the entire margin trading account, reinforcing the importance of the first potential pitfall listed in this article.
Ensure that trading, slippage, and borrowing costs are taken into account and are acceptable
For example, Binance BTC-BUSD $100,000 market order slippage fee is less than 0.15% at the time of writing. The trading fee is 0.1% ignoring the discounts.
Borrowing costs on BTC, BUSD, or USDC are within a 0.030–0.035% per day or 10.95–12.77% per year. The interest is determined periodically by Binance and is paid hourly. It is important to note, that the interest is not repaid automatically and is instead added to the borrowed amount. Hence the interest is compounded. That means that if you were to borrow at 14.6% for a year, the actual interest due would amount to 15.7%. This difference is exacerbated when borrowing costs are higher. Borrowing BNB at 109.5% annual interest results in actual interest of 199%.
Conclusion
Binance represents a suitable platform for margin trading, facilitated by its leading traded volume and acceptable fee structure. However, much attention should be paid to the exact parameters chosen to execute trades and the margin trading account size should never exceed what you won’t be able to weather in a case of a flash crash wiping that account completely.
Update 1.
Margin trading or Futures trading or Leveraged token trading?
The funding rate can make trading perpetuals more expensive than other bitcoin derivatives when traders hold onto their positions for a longer period of time.
