Cryptocurrency futures shield investors from volatile markets and guarantee they can trade a specific crypto at a predetermined price.
On December 10, 2017, the Cboe Global Markets (Cboe) became the first American exchange to trade cryptocurrency futures contracts, but it shortly stopped doing so.
The Chicago Mercantile Exchange (CME) quickly followed up with futures contracts when the Cboe program was canceled. Since then, CME’s futures have grown significantly in the cryptocurrency trading sector.
10,105 bitcoin futures contracts were traded on average per day in 2021, up 13% from the previous year, according to CME.
What is Cryptocurrency futures trading?
Cryptocurrency futures trading is the use of futures contracts, which are binding arrangements to purchase or sell an asset at a future date and price.
It involves deciding to purchase a particular crypto asset at a particular price at a specific period in the future, regardless of the price at that time.
The agreed-upon period may range in length from a day to several years. Because the parties to the transaction typically base their trades on conjecture about how the asset price will behave in the future, hence the term “futures trading,”
Cryptocurrency futures is a way of speculating on the value of digital assets. With crypto futures, traders can wager on the future value of a particular digital currency. The most common kind of crypto futures contract right now is bitcoin futures.
What are futures contracts?
A futures contract is an agreement between two parties to acquire or sell a specific asset, such as digital money, at a specific price and date.
Any underlying asset’s futures contracts are derivatives of that asset. These contracts are bought and sold by two commodities investors who make predictions about the price of the item at a particular future time.
Investors must comply with the contracts’ conditions for unit quantity, price, margins, and settlement methods.
Where are cryptocurrency futures traded?
There are currently a variety of conventional and crypto-native platforms where you can start trading cryptocurrency futures as a result of the exponential growth in popularity of crypto-based futures products over the past five years.
The Chicago Mercantile Exchange (CME), which also launched Bitcoin futures contracts in December 2017, offers trading in cryptocurrency futures. You could also trade crypto futures on cryptocurrency exchanges like Binance, Bybit, FTX, OKX (Coinbase Inc.), and Kraken.
How does Cryptocurrency futures trading work?
Futures traders typically basically make wild predictions about how the price of a crypto asset will behave in the future. They may base their judgment that the asset will perform a certain way on a specific day on fundamental analysis utilizing specific metrics or technical analysis, or occasionally both.
For instance, a trader could start a futures short position on a contract to sell Bitcoin on October 23, 2022, at a specific price. An individual who wants to make the trade will open a long position on the contract.
If the current price is $23,000, the seller will sell at a profit if the price of bitcoin stays below $30,000 whereas the buyer will lose money if the agreed-upon price of bitcoin is $30,000.
On the other hand, the seller will suffer a loss and the buyer would profit if the price reaches $45,000 on October 23. Only entering the opposite transaction from the one you initially opened is the only way to cancel a futures contract before the specified date. As soon as the predetermined day arrives, the contract must be completed.
Additionally, futures contracts can be settled in one of two ways.
- Physically delivered: This means that the buyer buys and receives bitcoin upon settlement.
- Cash-settled: This refers to settlements in which the buyer and seller exchange cash, typically in US dollars.
Benefits of Cryptocurrency futures trading
Cryptocurrency futures have become very popular for excellent reasons. Here are some benefits of crypto futures:
- Easier and more convenient
- Higher potential profits
- Flexible trading strategies
- No funding rates
- Safer than owning crypto
Easier and more convenient
Compared to trading actual cryptocurrencies, which requires access to a liquid market and possession of a secure digital wallet, trading futures is easier and more convenient even for beginners.
Higher potential profits
The gains are often greater when trading cryptocurrency futures with leverage.
Flexible trading strategies
Trading crypto futures is a far better way to apply trading methods than trading actual cryptocurrencies, particularly for intraday trading. Additionally, you can go short without any obstacles with crypto futures. There are more opportunities for you to use various trading tactics to increase profits as a result.
No funding rate.
Futures prices are frequently in contango, which means they are higher than the current spot prices, and therefore lack a funding rate.
By combining a long position in the spot market and a short one in futures, cash and carry arbitrage, a market-neutral technique, can take advantage of the opportunity this offers. Regardless of the state or volatility of the market, the futures price converges with the spot market price on the day of settlement, producing relatively risk-free gains.
Safer than owning crypto
Because futures contracts contain position and price restrictions, which allow investors to reduce their risk exposure to the asset class, they are relatively safer for experimenting with bitcoin without being burned.
What are the risks of trading cryptocurrency futures?
Futures trading has a lot of advantages, but there are also some significant risks that investors should be aware of. They include:
- Huge loss potential
- Crypto price volatility
- High standards for investors
- Risks of price manipulation
Huge loss potential
Because of the potential for substantial losses, bitcoin futures are regarded as being extremely hazardous instruments.
Futures and options on cryptocurrency are margin instruments. Losses or gains are therefore accentuated. If you predict the price incorrectly, the trader who predicted it correctly will receive your money.
Investors may not be able to recover their whole investment, and potential losses may exceed the funds and equity invested in the account. In order to offset losses in Crypto Products, traders can be asked to provide Interactive Brokers with more funds.
The losses could be significant given leveraged trading and the extreme volatility of the cryptocurrency markets.
Crypto price Volatility
In the past, the price of cryptocurrencies, including Bitcoin and Ether, has fluctuated sharply in both the upward and negative directions. Trading in cryptocurrency products now carries higher risk.
High standards for investors
Although Bitcoin futures are meant to simplify cryptocurrency trading and draw new capital into the market, they are not easily accessible to anybody who might be interested. When compared to the 10% margin for traditional assets, the 50% margin required by CBOE and CME is quite significant.
Risks of price manipulation
Futures are a tool for price manipulation that can be used by large investors with significant financial assets.
As a result, by placing huge sell orders on futures, they foster a pessimistic mood and compel smaller investors to sell their holdings before it’s too late. Large players can purchase items for a discount as the price drops sharply.
What to consider before trading cryptocurrency futures
Despite certain similarities, futures trading is not exactly the same as traditional trading. Here are a few significant factors to consider before trading crypto futures:
- Leverage Trading
- Liquidity assessment
- Market volatility
- Expiration date
- Most Exchanges are unregulated
Leveraged trading
The key component of margin trading, which is now available on the majority of futures trading platforms, is leverage. Traders can increase possible earnings by using leverage, but the risks are equal to the leverage it involves.
Beginners should stay away from using large leverage while trading futures, however, a low degree of leverage might work.
Liquidity assessment
There are three major indicators to gauge liquidity while trading futures. asset, exchange, and market liquidity are all included.
The general condition of an asset and market, as well as the number of buyers, sellers, makers, and takers, should constantly be taken into account by traders.
Market volatility
The extreme volatility of trading cryptocurrencies and their associated futures is among the most crucial things to understand.
Although this is primarily portrayed as a risk, there are additional opportunities as well. This is especially true for short-term traders who prefer to make predictions about sudden market changes.
Expiration date
It is important to pay attention to the expiration date because it is then that the contract will be settled and you will receive your cash or stablecoin funds.
Even so, you have until the expiration date to sell any open futures contracts. Consequently, depending on how the spot price changes, register a profit or loss.
Most Exchanges are unregulated
The majority of crypto futures trading takes place on exchanges outside the reach of regulation, with the exception of a few trading platforms like CME. Only CME is subject to CFTC regulation among the main crypto futures exchanges in the world.
Conclusion
Cryptocurrency futures are used to speculate on price fluctuations in the future, either to protect positions on the spot market or to profit from both upward and downward market trends without actually owning the underlying commodity.
If the price of crypto is higher than the price specified in your futures contract, you can cash in on the difference. However, if the value of crypto declines, you will suffer significant losses because you will be compelled to make up the difference and keep the collateral at the needed level.
Due to their ease and lesser danger of cyber assaults than the spot market, bitcoin futures are preferred by the majority of traders.
Cryptocurrency assets carry a high risk of losing money very fast. So, never trade or invest money that you can’t afford to lose. Before choosing to trade, it is imperative that you have a complete understanding of the risks involved.