In the evolving world of cryptocurrency, one troubling trend often goes unaddressed: the alarming frequency of exchange failures. High-profile collapses like GotX and FTX are typically viewed as isolated incidents, yet these events highlight a recurring theme in the sector. With more than 500 exchange failures reported since 2014, researchers have even created academic frameworks to identify exchanges that may be less prone to such disasters, aiming to guide traders in their choices. A resource like CryptoWiser’s Exchange Graveyard chronicles these unfortunate closures.
<p>In contrast to traditional public markets, which are regulated and subject to strict oversight, the crypto landscape often lacks comparable stability. For example, the Chicago Mercantile Exchange (CME) faced potential failure during the 1987 stock market crash. Despite various risk mechanisms, including central counterparties deemed "too big to fail," vulnerabilities still exist. Nasdaq Clearing faced a crisis in 2018 when customer losses surpassed reserves, compelling other members to contribute €107 million to balance the default fund (you can find more details in a related article from the Bank of International Settlements).</p>
<p>A moment of levity can be found in the absurdity of crypto enthusiasts' experiences during recent market downturns:</p>
<blockquote class="twitter-tweet">
<p lang="en" dir="ltr">My plan was to make $100k trading crypto this year.</p>
<p>$150k to go <a href="https://t.co/b8o10cTf2T" target="_blank" rel="nofollow">pic.twitter.com/b8o10cTf2T</a></p>
<p>— Not Jerome Powell (@alifarhat79) <a href="https://twitter.com/alifarhat79/status/1977355259463762301?ref_src=twsrc%5Etfw" target="_blank" rel="nofollow">October 12, 2025</a></p>
</blockquote>
<blockquote class="twitter-tweet">
<p lang="en" dir="ltr">“So you put $5,000 on a credit card to trade crypto, and in five years you turned it into $9 million?”</p>
<p>“Yes Dave”</p>
<p>“And you then lost it all in twenty minutes, and in those five years you never paid off the credit card which now has a $28,600 balance?”</p>
<p>“That’s correct Dave” <a href="https://t.co/1sUlolwRPY" target="_blank" rel="nofollow">pic.twitter.com/1sUlolwRPY</a></p>
<p>— Michael McQuaid (@michaelgmcquaid) <a href="https://twitter.com/michaelgmcquaid/status/1977174545246437721?ref_src=twsrc%5Etfw" target="_blank" rel="nofollow">October 12, 2025</a></p>
</blockquote>
<blockquote class="twitter-tweet">
<p lang="en" dir="ltr">I made $1,500,000 in one year </p>
<p>Lost $2,000,000 in one hour </p>
<p>Welcome to crypto <a href="https://t.co/h256FyqPTo" target="_blank" rel="nofollow">pic.twitter.com/h256FyqPTo</a></p>
<p>— 🇦🇪 Rami Al-Hashimi رامي الهاشمي (@rami_hashimi) <a href="https://twitter.com/rami_hashimi/status/1976789553525772414?ref_src=twsrc%5Etfw" target="_blank" rel="nofollow">October 10, 2025</a></p>
</blockquote>
<p>The recent downturn not only closed out significant positions for leveraged traders, but it also affected those who were in profitable positions, compelling exchanges to siphon funds to cover losses. This practice bears a striking resemblance to the “haircuts” experienced by depositors during the bail-ins in Cyprus (2013), Greece (2015), and Spain (2017).</p>
<p>It's amusing yet concerning to witness publications like CoinDesk downplaying the exchanges' near failures that led to these issues. They refer to auto-deleveraging (ADL) as a "last-resort backstop" activated only when liquidations and remaining buffers fail:</p>
<blockquote>
<p>ADL is a last-resort backstop that activates only after liquidations and remaining buffers fail.</p>
</blockquote>
<p>The reality of ADL is that it allows exchanges to raid customer accounts with assets, ostensibly adhering to established rules. However, these rules are often poorly communicated, leaving traders in the dark.</p>
<p>U.S. crypto users may find themselves subjected to forced liquidations. U.S. regulations prevent leverage on “spot” holdings, but one type of contract, “crypto perpetuals,” was recently permitted under CFTC guidelines with 10x leverage. Unsurprisingly, many international platforms welcome U.S. customers willing to misrepresent their location via VPNs, resulting in precarious situations if exchanges decide to act against these violations.</p>
<p><a href="https://www.coindesk.com/markets/2025/10/11/how-adl-on-crypto-perp-trading-platforms-can-shock-and-anger-even-advanced-traders" rel="nofollow" target="_blank">According to CoinDesk</a>:</p>
<blockquote>
<p>Auto-deleveraging is the emergency brake in crypto perpetuals that cuts part of winning positions when bankrupt liquidations overwhelm market depth and a venue’s remaining buffers, as Ambient Finance Founder Doug Colkitt explains.</p>
<p>Perpetual futures — “perps” in trading shorthand — are cash-settled contracts with no expiry that mirror spot via funding payments, not delivery. Profits and losses net against a shared margin pool rather than shipped coins, which is why, in stress, venues may need to reallocate exposure quickly to keep books balanced.</p>
</blockquote>
<p>The bottom line is clear: if you do not store cryptocurrency in your own wallet, you ultimately do not own it. Even with a wallet, ownership details can be murky—it's essential to fully understand the terms of your agreement regarding your assets.</p>
<p>Returning to CoinDesk:</p>
<blockquote>
<p>In normal conditions, a blown-up account is liquidated into the order book near its bankruptcy price. If slippage is too severe, venues lean on whatever buffers they maintain — insurance funds, programmatic liquidity, or vaults dedicated to absorbing distressed flow.</p>
</blockquote>
<p>The language used can be off-putting. From the same article:</p>
<blockquote>
<p>Colkitt notes that such vaults can be lucrative during turmoil because they buy at deep discounts and sell into sharp rebounds; he points to an hour during Friday’s crypto meltdown when Hyperliquid’s vault booked about $40 million.</p>
<p>The point, he stresses, is that a vault is not magic. It follows the same rules as any participant and has finite risk capacity. When those defenses are exhausted and a shortfall still remains, the mechanism that preserves solvency is ADL.</p>
<p>He likens the process to an overbooked flight: the airline raises incentives to find volunteers, but if nobody volunteers, “someone has to be kicked off the plane.”</p>
<p>In perps, when bids and buffers cannot absorb the loss, ADL “bumps” part of profitable positions so the market can depart on time and settle obligations.</p>
</blockquote>
<p>This raises a crucial question: why should customers be the ones to subsidize the exchange? In the U.S., regulatory frameworks ensure that passengers are compensated reasonably when kicked off a flight.</p>
<p>As CoinDesk elaborates:</p>
<blockquote>
<p>He also reaches for the card room. A player on a hot streak can win table after table until the room effectively runs out of chips; trimming the winner is not punishment, it is how the house keeps the game running when the other side cannot pay.</p>
<p><strong>How the queue works</strong></p>
<p>When ADL triggers, exchanges apply a rule to decide who gets reduced first. Colkitt describes a queue that blends three factors: unrealized profit, effective leverage, and position size. That math typically pushes large, highly profitable, highly leveraged accounts to the front of the line—“the biggest, most profitable whales get sent home first,” as he puts it.</p>
</blockquote>
<p>In this light, it appears that many crypto enthusiasts have unwittingly embraced a form of socialism: “From each according to his abilities?”</p>
<p>We consulted with derivatives expert Satyajit Das, who reiterated these concerns:</p>
<blockquote>
<p>• As you know, crypto makes Enron and Lehman look like the Vatican of governance, so nothing is surprising.</p>
<p>• I have not delved deeply into this, but I’m unclear about ownership issues with bitcoin and similar assets. Does the wallet act as a custodian or does it hold title with you as a beneficiary? Many exchanges offer leverage on what appears to be derivatives of bitcoin—it is difficult to decode the legal rights involved.</p>
<p>• Providing leverage against an asset with such high volatility is a reckless risk!</p>
<p>• The complexities of exchange operations are often opaque, and they are not needed as the prices always increase!</p>
<p>• It appears that auto-deleveraging is a margining process devised to protect lenders. However, if you are a fully funded owner, sharp price drops shouldn’t matter to you; your investment stands as is.</p>
<p>• Regulatory attempts come across as the blind leading the deaf and dumb. It will be intriguing to see if moral hazard leads to socializing losses, especially since the U.S. administration insiders heavily invest in this sector and have become major contributors.</p>
<p>• It’s concerning when any industry takes out expensive Super Bowl ads.</p>
</blockquote>
<p>The fact that even knowledgeable individuals like Das struggle to comprehend the intricacies of exchange operations and the prioritization of losses makes it clear that claims of exhaustive disclosure may be overstated. Those surprised by losses likely did not conduct adequate research.</p>
<p>Regrettably, it appears that the extent of crypto losses has yet to dampen attempts to draw more participants into this precarious market, further perpetuating the risks involved.</p>
<p>____</p>
<p><sup>1</sup> The largest portion of these failures was simply halting operations, which raises questions about the fate of customer assets.</p>
<p><sup>2</sup> <a href="https://www.nakedcapitalism.com/2011/02/is-the-proposed-nyse-deutsche-borse-merger-all-its-cracked-up-to-be.html">From a 2011 post</a>:</p>
<blockquote>
<p>The failure of exchanges, contrary to popular perceptions, is not impossible. We almost witnessed the Chicago Merc and likely the NYSE fail during the 1987 crash. A customer's *inability* to pay $400 million could have led to a similar shortfall for the Merc, which was primarily where S&P index futures traded. Fortunately, key decisions made just in time allowed the Merc to open, preventing a disastrous chain reaction.</p>
</blockquote>