Understanding Liquidation: Why Does High-Leverage Trading Lead to Instant Total Loss? A Beginner's Essential Risk Prevention Guide

Market fluctuations can be unpredictable, and a slight oversight may lead to account zeroing out or even owing debts—this is the dreaded “liquidation” that investors fear. What exactly does liquidation mean? Why can even experienced traders fall into this trap? This article will thoroughly analyze the risks of liquidation and teach you how to survive in the jungle of leveraged trading.

What is liquidation: The moment of forced position closure

Simply put, liquidation occurs when your losses exceed your margin, resulting in the broker automatically closing your positions. To explain more plainly:

When you engage in margin trading (whether futures, forex, or cryptocurrencies), your account will have a “margin” as a risk buffer. As the market moves against your position, your account equity will continuously decrease. Once your equity falls below the minimum margin threshold set by the broker, the system will unhesitatingly force close all your positions—giving you no chance to recover, and this moment is called “liquidation”.

The most frightening part is that liquidation not only wipes out your principal, but in some cases, it may also leave you in debt.

The trigger mechanisms behind liquidation

Three fundamental causes of liquidation

1. Wrong market direction prediction
The most basic logic of trading is to judge the market direction. If you buy long but the price falls, or sell short but the price rises, wrong predictions will directly eat into your margin.

2. Losses exceeding the margin amount
Suppose you invest 50,000 yuan as margin, but your losses reach 55,000 yuan. The margin is insufficient to cover the losses, and liquidation is triggered.

3. Maintenance margin rate falls below the warning line
Most platforms set a maintenance margin rate of 30% as the liquidation threshold. When your account equity drops below 30% of the margin, the system automatically closes your positions.

The five most common pitfalls that trigger liquidation

Using excessively high leverage ⚠️ Top cause of liquidation

Leverage is a double-edged sword; it amplifies gains but also risks. For example:

Scenario simulation: Using 100,000 yuan principal with 10x leverage controls a 1 million yuan position. If the market moves against you by just 1%, your principal loses 10%. If it moves 10%, not only is your margin wiped out, but you may also be pursued for repayment by the broker.

Many beginners start confidently, believing they can control risks, until a market punch surprises them with the power of leverage.

Holding onto losing positions, refusing to cut losses

This is a classic retail investor mistake: holding onto a position with the hope “it will rebound soon,” only to face a gap down or opening sell-off. Originally expecting a 5% loss, they end up losing 15%, and regret too late.

Poor cost calculation

Common situations include:

• Failing to close day trades, leaving positions overnight: Intended to close but didn’t, then the next day a gap down causes a margin call, leading to liquidation.
• Options seller traps: When volatility spikes (e.g., due to major political events), margin requirements may double, rapidly increasing the capital gap.
• Unaccounted costs: Overnight fees, management fees, and other hidden costs accumulate, eating into the principal.

Liquidity risk

Trading illiquid assets or during non-trading hours can cause bid-ask spreads to widen dramatically. Setting a stop-loss at 100 yuan but actually executing at 90 yuan results in a loss exceeding expectations. This is especially common in altcoin trading in the crypto space.

Black swan events

Extreme market events like the COVID-19 pandemic in 2020 or the Russia-Ukraine war in 2022 can cause continuous limit-downs. Even if brokers want to close positions, there may be no counterparties, leading to a situation where your margin is wiped out and you owe money—this is called “gap liquidation”—a worse scenario than regular liquidation.

Risk assessment of liquidation across different assets

Cryptocurrencies: High volatility, high risk zone

The crypto market is extremely volatile; a 15% fluctuation in Bitcoin is normal, and there have been cases of full liquidation of most investors in a short time.

Special warning: When crypto assets are liquidated, not only does your margin disappear, but the coins you hold are also forcibly sold off. Leveraged trading in extreme market conditions carries unlimited risk.

Forex trading: Playing with small money to make big money

Forex margin trading attracts many Taiwanese investors because of high leverage and low entry barriers. But beginners must first understand the basics.

Contract specifications:

• Standard lot: 1 lot (maximum position)
• Mini lot: 0.1 lot (medium practice)
• Micro lot: 0.01 lot (preferred for beginners)

Margin calculation formula: Margin = (Contract size × Number of lots) ÷ Leverage

Example: Using 20x leverage to trade 0.1 lot of EUR/USD (worth $10,000) → Required margin = 10,000 ÷ 20 = $500

When your account equity drops below the platform’s minimum ratio (usually 30%), the broker triggers liquidation. For example, if your account has $500 left but has lost $450, leaving only $50, the system will automatically close your position.

Stock trading: Varying risk levels

Spot stock trading ✓ is the safest
Buying stocks with 100% own funds, worst case is the stock price drops to zero, losing all principal but not owing money. No risk of liquidation.

Margin buying ⚠️ can lead to liquidation
Borrowing money from brokers to buy stocks, with a maintenance margin below 130%, will trigger a margin call. If not topped up, positions are forcibly closed.

Example:
Using 600,000 yuan of margin to buy stocks worth 1 million yuan, a 20% drop in stock price triggers a margin call, leading to forced liquidation.

Day trading failures ⚠️ hidden liquidation risks
Failing to close positions results in overnight positions, which may gap down the next day and be impossible to sell, leading brokers to forcibly close positions. Insufficient margin results in liquidation.

Three-tier risk defense lines every beginner must know

First line: Asset selection

✓ Prioritize spot trading (zero liquidation risk)
✓ Avoid high-leverage products (futures, contracts, etc.)
✓ Regular savings plans outperform all-in (risk diversification effect of 100x)

Second line: Leverage management

If attempting margin trading:

• Start with micro lots (0.01 lot)
• Keep leverage below 10x
• Always set stop-loss orders, don’t fight the market

Third line: Use of risk tools

Stop-loss and take-profit mechanisms

• Stop-loss (SL): set an automatic sell price to prevent larger losses
• Take-profit (TP): set an automatic profit target to lock gains

Risk-reward ratio calculation:
Risk-reward ratio = (Entry price - Stop-loss price) ÷ (Take-profit price - Entry price)

The lower the ratio, the better the trade. For example, risking 1 yuan to make 3 yuan is a very favorable trade.

Beginner setup method: Use percentage-based stops, e.g., 5% above and below the entry price, simple and no need to watch the screen constantly.

Negative balance protection: the last line of defense

Regulated platforms are required to provide negative balance protection. Simply put: You can lose all the money in your account, but you will never owe the broker a large debt.

After liquidation, any excess loss is borne by the exchange. Beginners have some room for mistakes. But this does not mean reckless trading—many brokers will proactively reduce leverage before major market moves to prevent huge losses caused by high leverage.

Final advice

Investing involves profits and losses. Before engaging in any leveraged trading, you must:

1. Fully understand the meaning and mechanism of liquidation — knowing yourself and your opponent leads to victory in every battle
2. Properly learn trading knowledge — don’t place orders blindly before understanding the fundamentals
3. Make good use of risk tools — stop-loss and take-profit are life-saving tools, not optional
4. Maintain a respectful attitude — the market is always smarter than you; humble traders last longer

Remember: liquidation is never a sudden accident but the result of a series of poor decisions. Good risk management is the key to long-term success in investing.