How to avoid the repeat of the 1011 market crash? Construction of the circuit breaker mechanism and algorithm design under low liquidity.

This article takes the big dump of USDe on CEX to $0.65, while the on-chain price is 0.99, as a starting point to analyze the local liquidation cascade risk caused by liquidity isolation in the crypto market, and reveals the destructive power of indiscriminate liquidation by liquidation Bots and the bottleneck of deposit and withdrawal channels in a liquidity vacuum.

This article intends to propose a circuit breaker mechanism algorithm based on composite quantitative indicators, utilizing price deviation, order depth, and large-scale settlement exposure as trigger reference conditions. The circuit breaker mechanism aims to provide the market with an n-minute adjustment window, allowing market makers to overcome operational frictions such as large withdrawals/deposits and on-chain congestion, injecting external liquidity. Ultimately, trading is restarted through orderly collective bidding to prevent a vicious cycle of liquidation, ensure market structure stability, and alleviate and reduce the misfortune of positions that do not need to be liquidated from being exempted from liquidation.

1. The fragmented structure of liquidity in the crypto market

1.1. Crypto market liquidity map: CeFi, DeFi, and cross-chain isolation

The unique liquidity structure of the crypto asset market is the root of its inherent risks. Liquidity is highly fragmented, spanning across CEX, DEX, and various DeFi. This liquidity isolation creates a disjointed ecosystem, and the friction between different liquidity pools (such as high on-chain transaction fees, complicated cross-chain bridging times, and CEX's scrutiny or locking mechanisms for large deposits and withdrawals) greatly hinders the free and rapid movement of capital. This structural friction is a significant reason why localized liquidity crises can quickly worsen and cannot be promptly corrected by arbitrage activities.

1.2. Market Maker Behavior and Risk Spillover in Extreme Market Events

When the market experiences severe volatility, liquidity providers (Market Makers) will quickly withdraw limit orders, resulting in an expanded bid-ask spread and a sharp depletion of market depth.

When a liquidation cascade occurs, the liquidation engine and liquidation Bots will trigger forced liquidations. These forced liquidations often manifest as large market orders that indiscriminately sell on the order book with thin liquidity, further driving down prices. The failure of this market mechanism causes the price discovery process to detach from fundamentals, entering a self-reinforcing liquidation feedback loop.

1.3. Positioning of the Circuit Breaker Mechanism: From Passive Suspension to Active Liquidity Management

The core value of the Circuit Breaker mechanism lies in providing an active risk isolation and liquidity redistribution event window during times of market liquidity vacuum. The essence of the circuit breaker is to temporarily suspend trading activities to prevent the further deterioration of flash crashes driven by automated trading systems and panic emotions during liquidity vacuums.

The circuit breaker mechanism is triggered by precise algorithms, quickly isolating risks and establishing a set of operational protocols to ensure that external capital can flow back into the market quickly and smoothly, thereby rebuilding liquidity depth when trading resumes.

2. October 11, 2025 USDe Event: Analysis of Partial Liquidity Failure in CEX

2.1 USDe Price Discrepancy Between CEX and DEX: Chain Reaction Caused by Local Failures

From October 10 to 11, 2025, the crypto market experienced the largest de-leveraging event in history, with over $19 billion in leveraged positions liquidated in less than 24 hours. The destructive power of this sharp market correction mainly stemmed from the high leverage in the market and the failure of the interaction between exchange risk mitigation mechanisms.

According to public data, the market fall sequence is as follows:

• 20:50 UTC, Oct 10: External shocks (such as tariff threats) have caused market turmoil, and liquidity is thinning.
• 21:20 – 21:21 UTC, Oct 10: BTC and ETH prices fell to intraday lows, and systemic selling peaked.
• 21:20 – 21:42 UTC, Oct 10: Ethena's USDe started to fall below $1 in the Binance spot market.
• After 21:36 UTC: A serious decoupling event occurred, and the liquidation cascade began to intensify.
• 21:42 – 21:51 UTC, Oct 10: The price of USDe fell to a low of $0.65 on Binance, while other assets such as wBETH and BNSOL also showed a significant price gap with ETH and SOL.

Serious disconnection in cross-platform price discovery

In the Binance spot market, USDe briefly fell to $0.65, and Bybit also dropped to $0.92. However, during the same period, in the on-chain liquidity pools, such as those on Curve, the price of USDe remained around $0.99. In addition, the minting and redemption functions of the Ethena protocol have been operating normally.

The huge price gap (nearly 35%) between this CEX and DEX reveals the essence of the problem: it is not a disconnection from the fundamentals of the USDe asset itself, but rather a partial failure of the internal pricing mechanism of the CEX. When the liquidation cascade is triggered, liquidity in the order book is rapidly withdrawn. Exchanges like Binance rely on their internal spot market prices to estimate the value of collateral. When the depth of the internal spot market is insufficient, even a slight trading impact can lead to severe price distortion, causing the liquidation engine to incorrectly assess the value of USDe (and other pegged assets like wBETH) as collateral. This mispricing has led to unnecessary forced liquidations, and the liquidation engine's 'pouring oil on the fire' behavior further depressed the price to $0.65.

2.2 What hinders liquidity: time, network, and operational barriers

During periods of extreme volatility, arbitrage activities face multiple “channel bottlenecks,” making it difficult for liquidity to be promptly moved from outside to the inside.

Settlement time and network congestion: During extreme market activity, blockchain networks usually experience high transaction volumes, leading to network congestion. This results in longer transaction confirmation times and skyrocketing Gas fees.

CEX operation lock: CEX's restrictions and audits on large deposits and withdrawals prevent market makers from injecting this external liquidity into the market within the minute-level response window.

The circuit breaker mechanism is designed to provide a sufficiently long time window in extreme market environments to address these technical, operational, and risk control barriers - providing a breathing channel for liquidity.

This is like temporarily inserting a catheter into a patient with a pneumothorax (liquidity vacuum), clearing out excess air (liquidation energy), allowing the patient to get through.

3. Design of the circuit breaker trigger algorithm: Composite quantitative indicators

In order to cope with the unique high frequency and decentralization characteristics of the crypto market, the circuit breaker trigger mechanism must go beyond the single index decline threshold found in traditional finance. A single, linear price trigger mechanism is easily predictable and manipulatable by high-frequency traders, leading to the “Magnet Effect” when approaching the threshold, where traders accelerate their trading to avoid being suspended, which in turn exacerbates market volatility before the trigger.

This article proposes a circuit breaker algorithm for a composite quantitative indicator, which includes three core dimensions: price deviation, Liquidity impact, and trading speed. The system will only activate the circuit breaker alert when these three indicators simultaneously or within a very short time trigger the preset threshold.

3.1. Indicator 1: Cross-platform Reference Price Deviation (CVD) and Its Index Construction

Introduce a multi-source weighted aggregation price index based on multiple high liquidity sources as a reference price to resist pricing failures within a single CEX.

CVD = |Price_CEX - Price_Index| / Price_Index * 100%

The first condition for a circuit breaker is an unsustainable deviation between the on-site spot price and the reference price index:

• Quantitative threshold: Considering that assets pegged to USDe should normally be closely anchored (within a deviation of <0.1%), a circuit breaker alert should be issued when the price difference exceeds the range that can be explained by arbitrage costs, trading delays, and on-chain liquidity pools.
• Suggested threshold: Set cross-platform reference price deviation CVD > 3%.
• Empirical significance: During the event on October 11, when USDe fell below $0.97 on Binance, the circuit breaker alert was triggered, well before it dropped to its bottom of $0.65, effectively isolating the risk.

3.2. Indicator 2: Order Book Depth and Liquidity Shock (DOM/Slippage Shock)

Price fluctuations are the result, and the exhaustion of liquidity is the cause of structural failure. Therefore, the circuit breaker mechanism must directly monitor the health of the order book.

Order Book Depth Ratio R_L: Measures the ratio of the cumulative tradable quantity Q_Current within a specific price range (for example, deviating from the current price delta = 1%) to the benchmark quantity Q_Benchmark of that asset during past calm periods (for example, the median depth over the past 30 days).

R_L = Q_Current / Q_Benchmark

Trigger threshold: R_L < 20%, which means that the order book depth is exhausted more than 80% compared to normal levels.

Slippage Impact (Slippage Impact S_I): This is a more intuitive liquidity vacuum indicator. It is defined as the expected price slippage percentage resulting from executing a market order with a preset nominal value V (e.g., V=$1M USD).

S_I = (P_Executed - P_Mid) / P_Mid * 100%

Where P_Mid is the twap market transaction price, and P_Executed is the final price after executing the V order. When liquidity is sufficient, S_I is very low; when the order book is drained, S_I will increase sharply.

• Trigger threshold: Set S_I > 5%, which indicates that during the execution of medium-sized trades, the market will immediately experience severe slippage, reflecting that liquidity is in a vacuum.

3.3. Indicator 3: Transaction Speed and Settlement Risk Exposure

In addition to the structural indicators mentioned above, the circuit breaker mechanism must also include an indicator for large-scale liquidation exposure.

Price Speed V_P: Monitors the rapid fluctuation rate of asset prices within a very short time window (e.g., 5 minutes).

• Trigger threshold: Similar to the circuit breaker design in the securities market, for example, a fall of V_P > 10%.
• Liquidation risk exposure (LCE): Combines price speed V_P with open interest OI data to estimate the distance to the next large-scale liquidation cluster. When LCE exceeds the preset critical value, indicating that the market is on the edge of a liquidation cascade, a circuit breaker should be triggered to prevent system collapse, even if price deviation and depth exhaustion have not yet reached extreme values.

Trigger conditions for circuit breaker:

The circuit breaker will only be triggered when both the cross-platform reference price deviation and the order book depth ratio meet the warning conditions, or when the price speed, slippage impact, and liquidation risk exposure simultaneously reach the threshold.

4. Operations during the circuit breaker phase: Liquidity injection and risk isolation

Once the circuit breaker algorithm is triggered, the market enters a pause state for N minutes. The success of this phase depends entirely on whether the exchange and market makers can eliminate the bottleneck of liquidity replenishment channels and risk control measures during this period.

4.1. Dynamic Calibration Model of Circuit Breaker Window N

The setting of the circuit breaker window N must meet the demand to overcome the longest and most critical liquidity transfer friction.

N = max (T_DLP, T_On-chain_Priority) + T_Buffer

Among them:

Tl_DLP: The longest time required for market makers to transfer funds from their own OTC liquidity pool to CEX internal accounts (which may involve cross-CEX or fiat withdrawal lock processes).

T_On-chain_Priority: The fastest confirmation time required for on-chain transfers (e.g., transferring stablecoins from DEX to CEX addresses) achieved by paying high-priority gas fees during congestion.

T_Buffer: Additional buffer time for information digestion and recalibration of the MM risk control system.

The circuit breaker mechanism must rely on two emergency funding channels:

• Pre-custodied external cold wallet funds: The fuse N must cover the time for CEX to transfer from cold wallet to hot wallet and allocate to MM account.
• High-speed, high-priority on-chain transfers: The fuse N must cover fast confirmation times under extremely high Gas fees (usually from a few minutes to over ten minutes).
• Actual Calibration: Considering that emergency funding requires manual intervention from the MM team, decision-making time, as well as network congestion and internal processing queues, it is recommended to set N in the range of 5 to 10 minutes to ensure that market makers have a reasonable time window to execute their emergency funding process.

4.2. Designated Liquidity Provider (DLP) Priority Funding Agreement

During the circuit breaker period, the exchange must initiate an Out-of-Band Capital Protocol (Out-of-Band Capital Protocol, OBCP), exclusively for designated liquidity providers (Designated Liquidity Providers, DLPs) to use.

• DLP certification and qualification: Exchanges must pre-screen and certify institutions with sufficient off-chain emergency liquidity as DLP.
• OBCP Channel: Establish a dedicated, high-priority API interface or internal clearing process that allows DLP to submit large stablecoin deposits during a circuit breaker. These deposits must be credited immediately to DLP's internal trading account, bypassing the withdrawal locks, queuing, and review processes that standard users face.
• Circuit breaker order pre-submission: During the circuit breaker trading suspension, all market orders are canceled. However, DLP and other authorized participants are allowed to submit new limit orders. These orders will not be executed during the suspension, but will instead serve as a willingness and basis for liquidity return, entering the order book when trading resumes. This ensures that when the market restarts, the order book can immediately restore depth and avoid price gaps.

4.3. Risk Isolation and Clearing Suspension Mechanism

After the circuit breaker is triggered, the following risk isolation measures must be implemented immediately:

Comprehensive suspension of liquidation: All margin calls and the forced liquidation operations of the liquidation engine must be stopped immediately. The fundamental goal of the circuit breaker is to prevent the self-reinforcing cycle of cascading liquidations.

Collateral value lock: During the suspension period, the collateral price used to calculate the margin position (e.g., USDe in the 10.11 event) must be locked at the last valid reference price before the circuit breaker is triggered. This can prevent the collateral value from further big dump due to market microstructure failure, thereby protecting users from unnecessary liquidation risks.

Five, Trading Recovery Mechanism: Quantitative Security Standards and Orderly Restart

The end of the circuit breaker should not depend on a predetermined time, but rather on whether liquidity has returned to normal levels. If the market restarts recklessly while liquidity has not yet recovered, it may lead to larger price gaps and secondary panic.

5.1. Prerequisites for Resuming Trading

The prerequisite for lifting the circuit breaker is for the order book depth and cross-platform price discovery mechanism to return to a healthy level. The system needs to continuously monitor the following indicators after the N-minute circuit breaker window ends, until they meet the recovery criteria:

a. Price spread convergence (CVD): Cross-platform price spreads must converge to levels close to the arbitrage limit.

Standard recovery 1: CVD < 1%. This indicates that the on-site price has highly aligned with the external reference index, and the local pricing distortion issue has been resolved.

b. Deep Recovery (R_L): The order book depth must be sufficient to absorb large-scale trades to prevent slippage immediately after recovery.

Restoration Standard 2: R_L > 50%. This means that the cumulative depth of the order book within a ±1% range must return to at least half of the median level during normal periods. Below this threshold, the restoration of trading will face significant execution risks.

c. Reduction of liquidation risk: Assess whether the liquidation risk exposure LCE has been reduced to a safe level, indicating that leverage has been effectively deleveraged.

5.2. Phased and Orderly Restart Process: Quiet Period and Collective Auction

To prevent chaos and price gaps during the resumption of trading, exchanges should adopt an orderly, phased restart mechanism, similar to the call auction process in traditional financial markets.

Phase I: Cool-down Period

Duration: 2-5 minutes.

Action: Cancel all remaining market orders. Allow market participants, especially market makers, to submit new limit orders or modify limit orders that were submitted before the suspension. Market information (such as total depth of unfilled orders and the latest reference price) should be widely disseminated, but orders will not be executed.

Phase II: Auction Period

Duration: 2-5 minutes.

Action: The system collects all orders submitted during the silent period and circuit breaker period. Utilizing a balanced price discovery algorithm, it calculates a single equilibrium price that maximizes trading volume during this collection period. All orders executed at the optimal price will be matched and executed at this equilibrium price. The collection auction ensures transparency in price discovery and uses the liquidity injected during the pause through DLP to establish a stable initial price.

Stage III: Continuous Trading

Action: Normal trading has resumed. All remaining limit orders (that have not been executed in the bidding) enter the order book, and the market returns to continuous matching mode.

Just like a brain surgery, suturing the open wound is only a temporary end, and there will be subsequent rehabilitation, check-ups, and rest.

Chapter Six: Some Ramblings

The circuit breaker mechanism actively compensates for the systemic vulnerability of the crypto market caused by liquidity isolation and operational friction during extreme volatility by introducing a time isolation window (N minutes). The USDe incident on October 11, 2025, clearly demonstrated that when the cascading liquidation overlaps with an on-chain liquidity vacuum, even assets with a sound on-chain redemption mechanism may trigger catastrophic consequences due to local mispricing in CEX.

The core design of this mechanism is:

• Composite Trigger Algorithm: To avoid the “magnet effect” caused by single price triggers, it employs a composite indicator of price deviation, order book depth, and slippage impact to accurately capture the collapse of the market's microstructure.
• The duration of dynamic circuit breaker: The setting of N must aim to overcome the “channel bottleneck” of market makers' capital injection, especially in response to operational/technical obstacles such as CEX deposit and withdrawal restrictions, risk control strategy optimization, and on-chain network congestion.
• Orderly Recovery Protocol: Introduce a silent period and batch auction, and use quantitative indicators of liquidity return as necessary conditions for resuming trading, ensuring that the market restart is stable and deep.

As the DeFi ecosystem matures, the systemic risks of cross-chain and decentralized protocols are also increasing. The concept of a circuit breaker can be extended to the DeFi space, for example:

In an automated market maker (AMM) pool, when the depth sharply declines, causing the expected slippage for executing a specific size trade to exceed the critical threshold, a protocol-level trading pause can be triggered.

DeFi protocols can utilize their governance mechanisms to adjust parameters during a circuit breaker period, such as temporarily raising lending rates, adjusting liquidation thresholds, or allowing liquidity providers (LPs) to inject or withdraw liquidity within a safe price range, thereby optimizing their liquidity provision strategies under random control. (Currently, some lending protocols also have similar operations.)

The circuit breaker mechanism is not a panacea; at best, it is just a pulse defibrillation, a shot of adrenaline, an intubation, all just to buy you time to hold on until you reach the emergency room.

Postscript

The cover image is of Singapore's former Prime Minister Lee Hsien Loong announcing the stay-at-home quarantine policy during the COVID period in 2020, also known as “Circuit Breaker” (cb, breaker).

Ironically, we use cb to block the spread of the virus, and we also use cb to ensure sufficient liquidity in the market.

I refer to the overall “lack of liquidity” as a “disease”; many ailments actually do not affect the positions, it's just a pity that one can't hold on until the moment of a transfusion.