The default auction

When a clearing member defaults, the clearing house does not simply absorb the position and hope. It auctions it. The surviving members bid to take on the defaulter's portfolio, and the results of that auction decide how the loss is shared.

The auction is where the incentives live. A member that bids sensibly helps the clearing house dispose of the risk at a fair price. A member that bids poorly, or refuses to bid, can find its own default fund contribution used first among the survivors, juniorised, in the language of the rulebook. LCH's rulebook does exactly this. Members that fail to bid have their contributions consumed first, and losing bidders are ordered by the quality of their bids. The mechanism rewards the members who help resolve the default and penalises the ones who stand back. Everyone has a reason to make the auction work, because the alternative is worse for all of them.

Crypto has no equivalent of this. When a liquidation cascade exhausts the insurance fund, auto-deleveraging closes the most profitable positions on the opposite side. There is no auction, no bidding, no price discovery, and no incentive alignment. The traders whose positions are closed did nothing wrong and had no say. The loss is allocated by who happened to be winning, not by who was best placed to absorb the risk.

That is the deeper reason the auction matters. It is not only a disposal method. It is a way of allocating a default loss that the participants agreed to in advance and have a reason to support in the moment. Auto-deleveraging allocates the same loss by accident of position. One is a mechanism. The other is a fallback.
We have gone a different way at DCN. There is no mutualised default fund in our design, so there is nothing to juniorise. The auction still has a place, but participation has to be worth winning: a priced transfer of risk that survivors have an economic reason to bid for. Juniorisation was the best answer available once a clearing model starts from a pooled fund. Remove the fund and the incentive question changes shape.

This first appeared on LinkedIn on 22 July 2026. If you want to comment or discuss, that's the place.