Huobi Talks About Lessons Learned from Socialized Losses

Following the July 10 DDOS and CC attacks at OKCoin, the topic of socialized losses and the negative impact they have on trader’s accounts has come to light again. On Friday, OKCoin announced a 55% socialized loss on the futures contract for Litecoin.

“Above all kinds of attacks, the toughest challenge is defending DDoS attacks.” 

— Zhou Minghao, Huobi Director of Security

Last year BitVC suffered losses of 47% — and quite a backlash as a result. Generally these incidents occur because of the massive speed and volatility of the price dump. A “system loss” results, caused by high leverage and low liquidity.

It’s important to note liquidations are not market orders. So when the price moves excessively and the DDOS attacks occur, many traders do not have access to the website. Their positions get margin-called as limit orders and it causes severe losses which are exacerbated by a selling stampede.

What Happened

The sequence of events went like this

  1. A user opened a large long position.
  2. When the price goes down, this position will lose money.
  3. Eventually the position gets margin-called, so the system needs to liquidate the position by placing a short order in the market.
  4. Usually the closing order is filled in the market and everything is fine. However, in a volatile market where there isn’t a lot of liquidity (due to DDOS and CC attacks, among other reasons), there’s no one to buy at certain prices and the order doesn’t get filled.
  5. Since this order doesn’t get filled, the long position is still open and will experience a huge loss.
  6. Since the accounts aren’t liquidated successfully due to no counterparty, the price keeps going down, and the losses pile up, to a point where traders owe more than their trade was worth. 
  7. All the trades together become “the system loss,” including the traders who profit.
  8. The exchange then has to ask the person who profited to share the loss with everyone else on the settlement day at a certain percentage.
  9. In this case it turned out to be a 55% loss, leaving even those who profited to be margin-called.

2

As a result, OKCoin has agreed to partly compensate users who couldn’t access the website during the DDOS attack. This, however, does not cover the 54% share of the socialized losses. The first 1,000 BTC of OKCoin’s compensation comes from their fund of risk provisions. The other 1,000 is coming from the clawback — in other words, the remaining assets in customers accounts after liquidation.

The chart below shows the event that occurred.

1

Lessons Learned

Cointelegraph spoke with two senior executives at Huobi — Wang Huaiqiang, Senior Operating Director of Trading, and Zhou Minghao, Huobi’s Director of Security — as well as another representative from the international team. We discussed lessons learned from their own problems with socialized losses on BitVC last year, new enhancements they’ve added to BitVC, and their risk-control methodology.

“First, we established a risk reserve system, of which Huobi is the first company in the business to do so.”

— Wang Huaiqiang

Huobi logo

Cointelegraph: What did Huobi learn after the incident last year?

Wang Huaiqiang: In terms of BTC futures, BitVC came up with three steps for improvement.

Firstly, an exchange platform should be responsible for its users. According to our analysis, a large amount of system loss is caused by highly leveraged trading and lack of liquidity. Compared to bitcoin, litecoin futures trading has higher risks. Under that circumstance, we adjust the maximum leverage level of bitcoin futures trading season contract from X20 down to X10. Then, because of high price volatility of LTC futures trading, BitVC decided not to provide LTC futures trading service any more. Moreover,BitVC reduced the liquidation risks from 90% to 85% and introduced a leading system of automatic counterparty deleveraging to manage forced liquidations.

First, we established a risk reserve system,