Trading assets on the spot otherwise known as spot trading comes with high risk. For this reason, most people have developed strategies on how to correct trading losses and become better traders.
Unlike the traditional financial market, the crypto market is highly volatile and one can lose a fortune within seconds if not careful. Such is the risk of this booming market.
The solution to this extreme risk lies in Crypto Derivatives. With these, investors can diversify their portfolios and safeguard them from extreme price volatility and unexpected risks.
Trading of crypto derivatives is based on the price of an underlying asset, as such by speculating on the price of cryptocurrencies, portfolio risk can be minimized.
Further down this article, you get to know some of the crypto derivatives you should consider adding to your portfolio.
Key Takeaways
• The derivative market has grown rapidly, accounting for over 55% of the total crypto market cap.
• With crypto derivative trading, an investor can make use of Leverage and place orders beyond their available funds.
• The performance of the underlying assets does not matter when it comes to derivatives. Even when the underlying asset is performing poorly, a trader can make profit trading crypto derivatives.
What are Crypto Derivatives?
In a day-to-day term, a derivative refers to products or contacts that rely on an asset to determine its value.
Crypto Derivatives, in like manner, refer to those contracts or products that will require an underlying crypto asset to determine its value.
Trading derivatives comes down to an exchange of contracts between two parties targeting asset value at a future date.
Now that you know exactly what a crypto derivative is and what you can use it for.
As you begin to explore the art of investing in cryptocurrencies, becoming familiar with the different commodities on the crypto market will help you alleviate the risks posed on the market.
Let’s take a look at some crypto derivatives that are steaming in the market.
1. Futures
Futures refer to legal crypto derivative contracts binding two parties to either buy or sell an underlying asset at a stated price in the future.
The buyer is granted the right to purchase the asset in question at the end of the agreed period for the fixed price. The seller is obliged by the contract to sell to the buyer for the agreed price on the agreed date at the end of the contract maturity.
If the underlying asset is Ethereum, A buyer who believes the price of ETH will rise below the current value at the end of 5 weeks can make a profit with a Futures contract.
At the end of 5 weeks, if the buyer had purchased a futures contract maturing in 5 weeks, the seller will be obliged to sell Ethereum to the buyer at the agreed price regardless of the current value. The buyer stands to make a profit when the current value is higher than the agreed value.
A futures contract is found and executed on regulated exchanges.
2. Options
Options are similar to Futures except for the absence of an obligation to buy or sell. The underlying asset is still to be bought or sold at a set price at an agreed date, but it remains a choice of the trader.
Options only grant the trader the right to execute the purchase or sell with the agreed terms at the end of the maturity period.
Options come in two forms, a call option which gives the trader the right to purchase the said asset at the agreed terms, and a put option which grants the right of selling the asset in question at the agreed terms.
During vigorous fluctuations of the crypto market, options give the privilege to get an asset at a stated price.
Getting an options contract for $17,000 per BTC, will give you buying or selling the privilege of $17,000 per BTC at the said date even when the value might have risen to maybe $50,000 per BTC.
3. Perpetual contracts
Perpetual contacts are crypto derivatives that are very much like futures and options except for the indefinite maturity time. The trader has the privileged of purchasing or selling so long as certain agreed conditions are met.
Most of the time, the condition is about holding a specific amount of a specified asset. So long as the trader has up to the agreed amount at hand, trade is open for as long as it stays like that.
4. Forwards
Forwards are crypto derivative Futures contracts that are customizable. Unlike Futures which are handled on centralized exchanges, Forwards links to over-the-counter exchanges where the contract is customized by the buyer and seller.
Forwards pose a high risk but are very flexible.
5. Swaps
A swap is another over-the-counter contract that you won’t find exchanges. It is a contract binding two parties to perform an exchange of value at a future date based on agreed terms. The agreement tells how much the worth of one asset per unit of the other’s asset.
Frequently Asked Questions (FAQs)
Q1. Which exchanges are best for crypto derivatives?
Crypto derivatives have gained massive adoption over the past few years. As such they have been adopted by many exchanges. You can trade crypto derivatives on the following exchanges
- Bitfinex
- Huobi
- KuCoin
- Gate.io
- Deribit
There is however no one size fits all. Depending on what your target is, it is advisable to research the long list of exchanges out there to know what will be the best for you.
Q2. Is crypto price affected by crypto derivatives?
Yes, crypto derivatives affect the value of crypto. While Crypto derivatives draw their worth from underlying crypto assets, the law of supply and demand indirectly affects the value of an underlying asset when the derivative is in high demand or low demand.
Q3. Does Coinbase sell derivatives?
Coinbase, not long ago, bought a crypto futures exchange, FairX, and has plans to sell derivatives in the United States. It is looking to add crypto derivatives to the list of other products offered on the exchange.
The Crypto derivative market has gone beyond just portfolio management, to a major liquidity point of the crypto market, this having a major effect on the crypto market.
Trading volumes of crypto derivatives are estimated to average 15 times more than the market for spot trading.
With more and more platforms coming up for this purpose, and existing ones embracing derivative trading, you should start now and begin building a sustainable crypto portfolio.
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