What is an Insurance Fund?
When the markets are highly volatile, it may be the case that liquidators are unable to liquidate positions before the value of some accounts go below zero. The insurance fund provides a safety net and maintains solvency by ensuring that profitable positions can be paid out in full and liquidated traders do not end up with bad debt.
A trader will only get liquidated when the margin ratio is below 6.25%. Based on the margin ratio of the trader, the insurance fund and liquidators are incentivized with a small fee for dealing with almost insolvent positions.
However, if the trader's remaining margin is insufficient to cover fees for insurance fund and liquidators, there is bad debt and assets are drawn from the insurance fund to fill the gap.
The insurance fund balance is shared across all markets on Perp v2, where 20% of the trading fees accrue to the insurance fund (passed via this governance vote). For successful collateral liquidations, a 5% fee is charged by the insurance fund.
How can I track the Insurance Fund balance for Perp v2?
You can track Perp v2’s insurance fund balance in real-time on Dune Analytics: https://dune.com/yenwen/perpetual-protocol_2
Insurance Fund Depletion
Causes
The insurance fund is designed to cover bad debt. Bad debt occurs when a position cannot be liquidated in time, and the position value falls below the value of the collateral backing it. This results in a debt, which typically must be covered by the insurance fund (the user can cover the debt if they deposit more funds into the exchange).
Normally, the insurance fund can easily handle these debts, and funds are replenished using trading fees.
A perpetual futures market (trading pair) that has become unstable or poses a risk to the health of the protocol may be shut down by the team or governance. A governance vote will be held to determine the final market close price so that all remaining positions can exit.
Complete Depletion
In the event one or more very large positions incur large debts, theoretically the insurance fund could be completely expended. If this happens, any associated markets may be closed as described above, and a governance process will begin to decide how any remaining debts should be settled. The governance process does not guarantee debt settlement.