Cryptocurrency market volatility has brought about many money-making opportunities for savvy traders. One of these opportunities is futures trading, an easy way to make a quick buck and manage price volatility.
Unfortunately, many crypto traders are unaware of this opportunity, but this article aims to change all that. With this article, you’ll get a comprehensive introduction to how the futures trading market operates and things to take note of.
Understanding Futures Trading
Futures trading is like a contract or an agreement to buy or sell some digital assets at a future date. This means that whatever the price that buyer or seller sets, they’ll have to sell or buy those assets at the agreed date. The digital asset in question can be securities, commodities like precious metals, or financial instruments.
With futures trading, people in volatile markets, like the cryptocurrency market, can hedge (or protect themselves) against unexpected price changes. So, they can set up a contract to purchase a particular cryptocurrency at an agreed-upon price in the future. This hedging allows them to acquire that particular digital asset at the set date, regardless of how its market price changes.
Of course, if the price of that asset increased before the agreed purchase date, the buyer would have made a profit. If it instead goes down, the buyer would have to accept they’ve made a loss.
Types of Futures Trading Contracts
There are two futures trading contracts in crypto:
- Physically settled crypto futures
- Cash-settled crypto futures
Physically Settled Crypto Futures
This is a futures trading contract where cryptocurrencies are delivered when the contract expires. Keep in mind that we don’t mean physical deliveries here.
Rather, when the contract ends, one party sends cryptocurrencies to the other party. Of course, the cryptocurrency would be sent from one person to the other at an agreed-upon price.
Cash-Settled Crypto Futures
In this case, the contract is settled with cash instead of transferring any cryptocurrency. So, when the contract ends, one party sends the equivalent of that cryptocurrency at that point in time to the other party.
If the digital coin in question is 20 Ethereum tokens, one person sends the US dollar equivalent at that point to the other. Of course, the US dollar is not the only currency with which cash-settled crypto futures work. It’s just one of the popular options.
Unlike the physically settled option, the cash-settled crypto futures option won’t see you owning cryptocurrency in the end. Apart from that little disadvantage, most people see cash-settled future contracts as a less risky option.
Benefits of Crypto Futures Trading
Price Discovery
The crypto futures trading market is based on one concept: speculation. One party in the trade is trying to accurately predict what the market will be on a particular date and profit from it. In other words, a futures trading platform helps to reveal market sentiments and expectations.
These market sentiments and expectations provide a fair trading ground in the cryptocurrency market. So, while the crypto market will always be volatile, this volatility won’t catch traders unaware. That’s because a futures trading platform will reveal what the possible future price changes in a digital coin will be.
Risk Management
Crypto futures trading allows traders to reduce the risks involved in crypto trading. When people trade futures, they use popular strategies like stop-loss orders and diversifying their trading portfolios. All these strategies were created to reduce the risk that people face when trading.
So, when these traders employ proper risk management techniques, it’ll allow them to make better-informed decisions and avoid risk.
Increased Market Liquidity
Market liquidity is a concept that indicates the degree to which an asset can be purchased and sold without affecting its overall price. Well, the crypto futures trading industry contributes to the market liquidity in the cryptocurrency industry.
That’s because there are always new futures contracts being introduced into the market. These futures contracts attract more investors to the market. It also makes investors more confident in their actions and boosts trading volume.
Increased market liquidity decreases the volatility of the cryptocurrency market and allows for more stable prices. It also improves market participation, as many traders would have been scared away by rapidly fluctuating prices in a market.
Risks in Crypto Futures Trading
Market Volatility
Trading in the cryptocurrency industry means that you’re battling with price volatility. Most traders can’t handle how rapidly the price changes in this industry and, as such, deem it too risky. Hence, anyone who wants to get into crypto futures trading must understand how market sentiments work to handle price volatility.
Margin Requirements
One of the perks that futures trading can offer is trading with leverage. Trading with leverage means that you’re trading with capital you borrowed from that crypto exchange. Depending on the exchange in question, you can borrow up to 100x your account balance or enjoy 100x leverage.
Naturally, there’s no free lunch anywhere. Exchanges won’t give out perks like these without insurance that you’ll pay them back even when you lose.
So, you’ll have to provide a margin, or collateral, before you can open a future position. The margin isn’t fixed; it can go from 1% of the leverage to 100% of the leverage depending on the crypto exchange.
Simply put, you’ll have to provide a lot of funds before you can participate in most futures trading. The presence of leverage also means that you can get amplified gains or amplified losses.
Regulatory Issues
Unlike other commodities markets, the cryptocurrency market is lacking in the area of regulation. There is no regulatory authority to control the trading market for crypto assets that aren’t already securities. Neither is there any overall regulatory commission over the cryptocurrency trading market as a whole.
This means that no one can stop certain traders from affecting the price market with indiscriminate purchases. But hey, it’s a small price to pay for freedom, right? Go cryptocurrency!
Market Participants
There are a variety of traders involved in the crypto futures trading market, but they can be classified as follows:
- Speculators: These are the traders who bet on the possibility of a price movement. Since price movements occur regularly, these people don’t trade for long. They can enter and exit the market within a day in most cases.
- Futures Arbitrageurs: These are people who try to capture the price difference of the same asset in different markets. Basically, they buy assets in the cash market and find overpriced futures contracts to sell them, allowing them to make quick profits.
- Margin Traders: Unlike speculators, margin traders are in the market for the long run. They are not only willing to take on a long contract, but they are also willing to invest heavily in it.
- Price Hedgers: These are traders who use futures contracts to protect their investments against market volatility. Simply put, hedging means taking an opposing stand on your main investment to protect against losses. This way, regardless of whether the value of that contract goes up or down, the hedger still gains.
Basic Strategies
There are many strategies that you can use in the crypto futures trading market to come out on top. Nonetheless, the most popular strategies include:
- Hedging: This is a simple strategy where you also take the opposite side of your contract. With this, you can stay safe even when there are unfavorable price changes and reduce your losses.
- Speculation: In this strategy, traders anticipate the price changes in the market and take futures contracts based on that. Confident traders can also leverage their capital for maximum profits.
- Arbitrage: This is a strategy where traders take advantage of price differences between contracts to earn profit. A simple example is when a trader purchases a futures contract cheaply on Kraken and sells it higher on Bybit.
Conclusion
Futures trading is another avenue to earn from the price movements of the cryptocurrency industry. The futures contracts market presents an easy way to trade cryptocurrency without going through the hassle of purchasing it from exchanges. It also presents many ways to earn with little risk attached to it, compared to regular cryptocurrency trading.
More Info:
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So, futures trading is the option you go for when you’re sure you need training wheels in the crypto trading industry.
Disclaimer: All materials on this site are for informational purposes only. None of the material should be interpreted as investment advice. Please note that despite the nature of much of the material created and hosted on this website, HODL FM is not a financial reference resource and the opinions of authors and other contributors are their own and should not be taken as financial advice. If you require advice of this sort, HODL FM strongly recommends contacting a qualified industry professional.
