When trading crypto assets with leverage, a "loss-cut" is a mechanism you absolutely need to understand.
A loss-cut is different from a simple stop-loss. It refers to a mechanism in which, once your margin maintenance ratio falls below a certain threshold, the exchange's system automatically and forcibly closes your position.
As a result, when the market moves sharply, your position can be closed regardless of your own intentions.
It is not uncommon for a loss to become final without any opportunity to assess the situation and decide for yourself. Because leveraged trading amplifies the impact of price swings, failing to understand the conditions and calculation method behind loss-cuts can lead to unexpected losses.
This article organizes the basic mechanics of loss-cuts, the process by which they are triggered, and the points that beginners tend to misunderstand.
What Is a Loss-Cut in Crypto Trading?
A loss-cut is a forced settlement that an exchange's system automatically executes when a loss on a crypto asset trade exceeds a set threshold.
The key point is that a loss-cut is not something you carry out by your own choice.
When the price moves against you and your margin buffer runs out, your open position (the trade you are holding) is forcibly closed in accordance with the rules set by the exchange.
Because crypto asset prices can be especially volatile, it is not uncommon to reach the loss-cut level within a short period of time. Cases do occur where a trader has taken no action at all, yet finds that their position has simply disappeared.
What Is the Difference Between a "Loss-Cut" and a "Stop-Loss"?
"Stop-loss" is a term that is often confused with "loss-cut."
Many beginners assume that a loss-cut and a stop-loss are the same thing, largely because the two terms tend to appear in similar contexts.
Strictly speaking, however, the two are different. A stop-loss refers to closing a trade based on your own judgment, when you decide that "the loss is likely to grow further."
A loss-cut, on the other hand, is a forced settlement carried out automatically under the exchange's rules, independent of your own intentions.
Stop-loss | You close the trade yourself to limit the loss |
|---|---|
Loss-cut | The trade is forcibly closed once the loss condition is met |
Not All Crypto Trades Are Subject to Loss-Cuts
Loss-cuts primarily apply to leveraged trading.
Leveraged trading is a mechanism that lets you trade an amount many times larger than the funds you put up as collateral (margin). While this allows you to make large trades with a small amount of capital, losses can also balloon quickly if the price moves against you.
Because losses can grow rapidly, leveraged trading includes a loss-cut mechanism. Before a loss exceeds a set threshold, the exchange forcibly ends the trade in order to prevent the loss from expanding any further.
Conversely, when you trade only with funds you actually hold (spot trading), there is no loss-cut.
Loss-Cuts Do Not Occur in Spot Trading
Spot trading means buying crypto assets using only your own funds.
For example, if you buy 100,000 yen (approx. USD 670) worth of Bitcoin, your loss will stay within that 100,000 yen no matter how far the price falls. In this case, the exchange has no reason to sell your holdings on its own just because the price has dropped.
This is because the decision to "keep holding" or "sell" always rests with you.
Leveraged trading, on the other hand, involves trading with an amount larger than your own funds, so the exchange needs to step in before the loss grows too large.
This difference is what determines whether a loss-cut applies.
How the Loss-Cut Mechanism Works
A loss-cut is triggered according to a predetermined set of rules.
Crypto assets are known for especially sharp price swings, and it is not uncommon for prices to move significantly within a short period.
As a result, there are cases where the loss-cut condition is met all at once.
The following section explains the specific process leading up to a loss-cut being triggered.
The Process Leading to a Loss-Cut
The starting point is the emergence of an unrealized loss.
In leveraged trading, when the price moves against your position, the loss on the open trade gradually grows.
The next stage is a decline in your margin buffer. As the unrealized loss increases, the "safety margin" needed to keep the trade open is progressively eaten away.
This buffer, expressed as a number, is the margin maintenance ratio. Once the price moves further and the margin maintenance ratio falls below the threshold set by the exchange, the loss-cut is triggered for the first time.
The system automatically closes the trade, and the loss at that point becomes final.
- Unrealized loss increases
- Margin buffer decreases
- Ratio falls below the threshold
- Immediate forced settlement
This entire process is handled mechanically, without human judgment.
So even if you feel the price might still recover, the loss-cut executes the instant the condition is met.
How Is the Loss-Cut Line Determined?
The loss-cut line is determined by a numerical threshold set in advance.
The margin maintenance ratio is the metric used as this threshold.
Put simply, the margin maintenance ratio is a gauge of "how safely the current trade can be maintained." In leveraged trading, the larger the unrealized loss becomes, the smaller the buffer relative to your margin.
The exchange continuously monitors this remaining buffer as a numerical value. The moment the margin maintenance ratio falls below the loss-cut threshold set by the exchange, the position is forcibly settled.
This is what is known as the loss-cut line.
What matters here is that the loss-cut line is not fixed.
- The leverage multiplier
- The currency pair being traded
- Rules that vary by exchange
The level at which a loss-cut is triggered varies depending on these conditions.
Why Loss-Cuts Cascade During Sharp Price Drops
When the market drops sharply, situations can arise in which loss-cuts are triggered all at once and large numbers of users are forcibly settled simultaneously.
This is due to a market structure in which loss-cuts tend to cascade.
First, when the price drops sharply, unrealized losses expand all at once. As a result, margin maintenance ratios fall rapidly, and a growing number of participants drop below the loss-cut level.
In addition, buyers thin out during a sharp drop, reducing market liquidity. As the order book thins, prices tend to move all at once rather than gradually, which can cause the price to overshoot the anticipated loss-cut line.
On top of that, during sharp price swings the spread (the gap between the bid and ask price) tends to widen and execution prices tend to become less favorable, making it easier for the loss-cut condition to be met.
In this way,
- Trades become harder to execute
- Prices jump sharply
- Execution prices end up less favorable than expected
When these conditions occur simultaneously, loss-cuts are executed one after another, and the resulting forced-liquidation selling pushes the price down even further.
That decline then triggers further loss-cuts, creating a cascading chain reaction.
Does a Loss-Cut Mean You End Up in Debt?
In short, a loss-cut does not necessarily mean you end up in debt.
Many Japan-based exchanges implement loss-cuts specifically as a mechanism to prevent users from falling into debt.
The purpose is to avoid a negative account balance by forcibly ending the trade.
As a result, in typical cases:
- The position is loss-cut
- The loss becomes final
- The account balance may come close to zero but does not go negative
This is the typical outcome.
However, if the market becomes extremely volatile and prices jump sharply or orders become difficult to execute, the loss-cut can end up being executed later than expected.
In such exceptional situations, there is a non-zero possibility that the loss-cut fails to keep pace and the loss ends up exceeding your margin.
That said, this is not something that happens on a day-to-day basis; it is a fairly exceptional case.
The following section explains when "additional margin calls" (追証, tsuishou), which are related to these exceptional cases, do and do not occur.
What Is an Additional Margin Call (Tsuishou)?
An additional margin call refers to being required to deposit extra funds in order to keep a trade open.
The first thing to note is that additional margin calls do not occur in every crypto asset trade.
Most Japan-based crypto exchanges currently use a system in which the loss-cut is executed before an additional margin call would ever arise.
As a result, in general:
- The unrealized loss increases
- The margin maintenance ratio falls
- The position is loss-cut at a set threshold
This is the typical sequence, and you will not be asked for additional funds.
On the other hand, an additional margin call can occur when the market moves suddenly and the loss-cut fails to work as intended.
For example:
- The price jumped sharply in an instant
- Trades became difficult to execute
- The loss-cut order was executed with a delay
In situations like these, the loss can end up exceeding your margin.
When this shortfall needs to be covered, an additional margin call may be issued.
That said, this is an exceptional case.
Under normal market conditions, the trade is closed by the loss-cut, and the loss becomes final at that point.
The Minimum Points to Keep in Mind to Avoid a Loss-Cut
There are two distinct types of loss-cuts.
One is the unavoidable loss-cut.
This refers to a loss-cut that occurs because the market suddenly changed and the price moved all at once.
No matter how careful you are, if the price blows through the loss-cut line in an instant, there is no way to prevent it.
For example, in situations like the following, a loss-cut can be executed before you even have time to think:
- A sudden news event
- Market-wide panic
- A situation where liquidity suddenly dries up
The other is the avoidable loss-cut.
This refers to cases that could plausibly have avoided a loss-cut altogether.
- Using too much leverage
- Not setting a stop-loss line in advance
- Leaving the position alone, thinking "it might come back"
This is the pattern where a combination of such behaviors ultimately leads to a loss-cut.
If you treat these two types as the same kind of mistake, you lose the ability to learn anything from the loss-cut.
Unavoidable loss-cut | Accept it as an inherent feature of the market |
|---|---|
Avoidable loss-cut | Treat it as material for improving next time |
Framing it this way turns the experience into material you can use to reduce your losses next time
Summary
To recap, a crypto loss-cut is a forced settlement that an exchange's system automatically executes once the margin maintenance ratio falls below a set threshold.
Loss-cuts are designed as a mechanism to prevent losses from continuing to grow.
However, because the threshold and calculation method differ from exchange to exchange, it is essential to check the loss-cut trigger conditions in advance.
In particular, it is important to keep the following points in mind:
- Do not use excessive leverage
- Set a stop-loss line in advance
- Manage your funds with the possibility of a loss-cut in mind
By consistently applying these practices, a loss-cut stops being an unexpected accident and instead becomes part of a deliberate risk-management approach.
Approaching leveraged trading with a clear understanding of this mechanism is the fundamental mindset every trader should adopt.
This article is for informational purposes only and does not constitute financial or investment advice. Please consult a qualified professional before making investment decisions.
