Loss budget

Every market has a loss budget: the most it may cost the LPs over its life. A market tracking a thin asset can be moved cheaply. Without a budget, moving a spot price would buy access to the whole pool.

Key figuresCopy Anchor Link

The remaining budgetCopy Anchor Link

remaining = loss_budget - net_loss       when net_loss > 0
remaining = loss_budget                  otherwise

net_loss is what the market has cost the LPs so far, realized. A gain unwinds earlier losses first. It never grows the budget past what was underwritten: a market cannot bank profit into a larger allowance.

How the budget movesCopy Anchor Link

Up. Only when someone posts backing, and only by what that deposit counts for, up to what stands behind the market:

cap    = backing behind the market + net_loss
budget = max(budget, min(budget + counted, cap))

Fee income credited to backers raises nothing. No key can raise a budget any other way, the authority included.

Down, by itself. The budget follows the backing down. When backing is withdrawn, or a token it is held in falls in price, the budget is held to cap. Adding back net_loss stops losses from counting twice: the budget is a lifetime figure and the backing is what is left after losses drew on it.

Down, by depth. derive_market_budget is permissionless and only cuts. It sets an observed market's budget to its budget depth, the cost of moving the pool 1%, when that is below the budget and the mark is seasoned. Budget depth is depth that has held:

1. The first reading sets it.
2. After that it moves toward each reading by 10% of the gap, at most once every 20 seconds.
3. A rise is also capped at 10% of where it stands.

One thin reading cuts nothing. One deep reading undoes nothing. If a pool drains to a tenth of its depth and stays there, budget depth falls halfway in about 3 minutes and to twice the new depth in about 7. The venue's keeper sends the cut whenever budget depth is below the budget.

Down, by the authority. set_market_budget lowers a budget, never raises it. It is a brake on a market the authority no longer trusts.

What the budget limitsCopy Anchor Link

The budget is enforced on what the pool takes on and what winners are paid, not on what traders open.

1. The pool's size. The pool fills at most 5% of the remaining budget per flow per batch. A spent budget means the pool stops quoting. Trades that bring the pool back toward flat are also taken, up to the long/short imbalance, so exits are not throttled.
2. Crossed trades. Traders who cross each other still trade when the budget is spent. That fill adds no net exposure for the pool.
3. Profit paid. A winning close is paid its collateral and its profit. When the market cannot cover every winner, profit is cut to a fair share. See Profit haircuts.
4. Liquidations. A liquidated position is paid at most its collateral plus the remaining budget.

Leverage and open interest are checked when an order enters the batch, not against the budget. A close is never shrunk by the budget: it fills what the auction gives it, and only the profit it is paid can be cut.

So every batch settles, a market with no budget left stays open for exits, and no market pays out more than it was underwritten for.

Who pays a lossCopy Anchor Link

A loss the market takes is paid in this order:

1. Backing, posted by the market's underwriters.
2. LP liquidity.
3. Insurance fund, only for what liquidity cannot cover.

All three only up to the remaining budget. A later gain repays backing first, up to what losses drew from it, then goes to the LPs.

Numerical exampleCopy Anchor Link

An observed market whose pool costs $40,000 to move 1%.

1. Backers post $50,000 USDC. The budget is $50,000.
2. Once budget depth has held at $40,000, anyone cuts the budget to $40,000. Posting $1 more raises it to $40,001, not back to $50,000.
3. The pool's size per batch is 5% of $40,000: $2,000.
4. Losses consume $30,000. Remaining budget: $10,000. Pool size: $500. Backing left: $20,000.
5. A backer withdraws $15,000, leaving $5,000. Cap: $5,000 + $30,000 = $35,000. Budget: $35,000. Remaining: $5,000.
6. Had they posted $10,000 instead: cap $60,000, budget $50,000, remaining $20,000.