Mark price: Marking price: A tool to prevent unexpected liquidation

Every margin trader has encountered a situation where their position was closed not due to incorrect analysis, but because of a short-term price spike. To protect against such scenarios, a more reliable mechanism for tracking the asset’s value was needed. The mark price, or marking price, is a tool used by many exchanges as an alternative to the current bid/ask price when calculating margin levels and liquidation thresholds.

The Essence of the Mark Price Mechanism

The mark price is a reference quote based on the derivative’s index and is calculated as a weighted average of the spot prices across multiple trading platforms. The main goal of this approach is to eliminate the influence of manipulations on a single exchange and provide traders with a more objective view of the actual value of the financial instrument.

Unlike the simple last trade price, the mark price includes two key components: the spot index price and a moving average of the basis. This combination helps smooth out random price spikes and reduces the likelihood of unintended forced liquidations.

How the Mark Price Coefficient Is Calculated

The mathematical calculation of the mark price is based on the following principles:

Formula 1: Mark Price = Spot Index Price + EMA (Basis)

Formula 2: Mark Price = Spot Index Price + EMA [(Best Bid + Best Ask) / 2 – Spot Index Price]

To understand the components:

• Exponential Moving Average (EMA) — a technical indicator that tracks price changes over a specified period. EMA gives more weight to recent data compared to a simple moving average.
• Basis — the difference between the current spot price and the futures contract price. This reflects how the market values the future relative to the current price.
• Best Bid — the highest price a participant is willing to pay to buy the asset on the spot market at the moment.
• Best Ask — the lowest price a participant is willing to accept to sell the asset.
• Spot Index Price — the average price of the asset across multiple platforms, providing a more comprehensive view of its true market value.

Differences Between Mark Price and Last Trade Price

The mark price and the last trade price are two different indicators serving different purposes:

For example, if the bid/ask price sharply drops due to manipulation but the mark price remains stable, the position will not be liquidated. However, if the mark price reaches the liquidation threshold, a liquidation may be initiated.

How Leading Exchanges Use the Mark Price in Calculations

Most major trading platforms prefer the mark price system over the bid/ask price when determining margin ratios. This approach protects users from malicious trading activities and prevents forced liquidations caused by short-term manipulations.

The calculation of the forced liquidation price is also adjusted based on the mark price. When the mark coefficient reaches the liquidation level, the system initiates full or partial position closure.

Practical Applications in Trading

Setting Precise Liquidation Levels

Traders can rely on the mark price to determine exact liquidation prices when planning their trading strategies. This approach considers broader market trends and helps set levels to avoid liquidation due to short-term volatility spikes. Using the mark price instead of the bid/ask can increase the potential margin and allow longer position holding under favorable conditions.

Placing Stop-Loss Orders

Experienced traders often use the mark price as a reference for placing stop-loss orders. For long positions, the stop-loss is set slightly below the mark price liquidation level; for short positions, slightly above. This method provides an additional buffer against volatility and theoretically guarantees position closure before reaching the forced liquidation level.

Opening Positions at Optimal Times

Consider placing limit orders at levels corresponding to the mark price. This allows automatic position opening at favorable moments according to your technical analysis, without missing potentially profitable opportunities.

Limitations and Risks

Despite its advantages, the mark price does not eliminate all risks:

• Extreme Volatility: During intense market swings, the mark coefficient can change faster than expected, leaving little time to close a position before liquidation.
• Overreliance on a Single Tool: Using only the mark price without other risk management tools is insufficient. A comprehensive approach to managing positions is always preferable.
• Temporary Lag: Since EMA is calculated based on historical data, during sharp price jumps, the mark coefficient may lag slightly behind the actual situation.

Conclusion

The mark price is a key tool in modern crypto trading, providing a more objective valuation of derivatives and protecting traders from unnecessary liquidations. Understanding its calculation mechanism and applying it correctly when setting liquidation and stop-loss levels significantly enhances risk management.

However, it is important to remember that the mark price is part of a broader risk management strategy. Combining it with other analysis tools and positioning strategies allows traders of all levels to make more informed decisions and adapt to various market conditions.