Let’s Talk Leverage
I was derivatives trader 13 years trading commodities, stocks, interest rates and more. I traded 100s of billions of dollars of notional value. Think about that for a second… that’s billions. It sounds like a huge ridiculous number and the only reason it was possible was with leverage.
I get it. Who doesn’t want to make more money with less money? I’m all for the efficient use of capital. Let’s talk briefly about leverage and why it makes sense.
Let’s say I want to buy 1 bitcoin (BTC) for $9,000. I go on Coinbase and deposit $9,000 and buy 1 BTC. Now in this example, I’ve posted the full value of my position and have no leverage.
Looking above, do you think it’s equally likely BTC will go from $9,000 to $8,000 as it is to go from $2,000 to $1,000? It’s not. We haven’t seen sub $2,000 Bitcoin in years. So why does it make sense to post the exact same amount of collateral for that move?
Perhaps it’s so unlikely we go from $2,000 to $1,000 that it may make sense to post only $100. But $9,000 to $8,000 is fairly likely so that move may require $900 of collateral. The exact numbers don’t matter but realize that $9,000 is too much.
Leverage makes sense. It’s an efficient use of capital. But leverage gets a tough shake because it’s often associated with blowouts and extra risk. When used incorrectly leverage creates flash crashes, socialized losses and systemic danger.
We’ve designed a system that allows traders to safely deploy large amounts of leverage. A few weeks ago, I highlighted some of the best trades we saw on MPX. In that article, I talked about how leverage works on MARKET PROTOCOL. The trades were put on with ~35x leverage and were always fully collateralized and guaranteed solvent.
Today, I want to spend more time going through a few of the pricing and leverage dynamics at play with our sBTC and LBTC Position Tokens. Let’s use SBTC for this example.
Recall from our pricing and trading posts that the price of a Position Token represents the maximum downside of that position.
Here are few rules of thumb
1.) As the price of bitcoin goes up we get closer to the Price Cap.
2.) As we get closer to the price cap, the maximum loss of a short position decreases.
3.) As the maximum loss decreases, so does the price of sBTC.
4.) As the price of sBTC decreases, leverage increases (and vice versa).
TLDR: There is an inverse relationship between the price of sBTC and the amount of leverage.
Looking above, you can see this play out in practice. As we get closer to the Price Cap ($14,000) the price of sBTC goes toward $0.
What does this all mean?
The main takeaway here is that leverage in a position changes as the price moves and it goes up for SBTC (down for LBTC) as we approach the Price Cap and up for LBTC (down for SBTC) as we approach the Price Floor. There is always a minimum amount of leverage and in the current framework, it's around 2x. Please check out MP Tools for an interactive way to view these dynamics.
Leverage is a great way to be more efficient with capital. MARKET Protocol has created a framework to safely manage the risks typically associated with leverage.
We can use decentralized leverage to safely allow users to get the same exposure with less capital.
We would love to get you trading.
Are you hodling Bitcoin? Use LBTC to get 3x the exposure with the same collateral. Think we’re going down from here? Now you can profit or hedge a decline in price buying SBTC.
With LBTC, someone who has $1,000 in crypto assets can take those assets and get $3,000 in price exposure with the same collateral. Or take $650 off the table and still make the same amount of money if Bitcoin moves their way.
We are offering to help with leverage, trading or anything else. All we ask for it a little feedback! Tell us how we can make MARKET Protocol better. Reach out on Discord, Telegram or Google Hangouts. Please grab 15 minutes here.
