Insurance Fund (Exchange)
A pool of funds an exchange maintains to cover losses when a liquidated position's collateral isn't enough to cover its full loss.
An exchange's insurance fund is a pool of funds maintained specifically to cover losses when a liquidated leveraged position's remaining collateral isn't sufficient to cover its full loss — a scenario that can occur during extremely fast or volatile price moves, where a liquidation (see Kaavon's "Liquidation" glossary definition) can't be executed quickly enough to fully cover the position's debt.
Without an adequately-funded insurance fund, an exchange would need to cover this shortfall some other way — commonly through "auto-deleveraging," which forcibly reduces profitable traders' opposite positions to cover the gap, a less desirable outcome for those traders than the insurance fund absorbing the loss instead.
Examples
- An exchange's insurance fund absorbs the shortfall when a liquidated position's collateral falls short of covering its actual loss, protecting other traders from that gap.
- A depleted insurance fund can force an exchange into auto-deleveraging, reducing profitable traders' positions to cover a shortfall the fund can no longer absorb.