Trading Bitcoin vs. BTC futures: which one is best for you?
A growing number of cryptocurrency exchanges offers futures trading for Bitcoin and altcoins, can retail investors capitalize on this powerful instrument?
There is a growing number of exchanges offering futures contract trading. So far there are Binance, FTX, Bitfinex, Bybit, and Kraken, to name just a few. Volumes are also increasing across the board and it appears that retail traders are increasingly interested in experimenting with these complex instruments.
As Cointelegraph recently reported, using futures trading offers multiple benefits. Traders who use them can protect themselves and remain calm during periods of high volatility. Futures contracts can be used to reduce risk and take advantage of betting when appropriate strategies are implemented.
Professional traders frequently use futures contracts for better positioning on both sides of the market. In this article, we will introduce the basic mechanics behind the instrument, its hidden costs, and some of the trading strategies that professional traders regularly use to capitalize on their profits.
What is a futures contract?
Simply put, a futures contract is an agreement to buy or sell an asset at a later date for a predetermined price. It is known as a derivative instrument because its value depends on an underlying asset. Futures contracts were initially associated with commodities such as gold, oil, and seeds. These instruments enabled producers (farmers and miners) to better manage their financial risk by creating the possibility of setting prices in advance.
On the other hand, an airline can cover its fuel cost, which is beneficial for both parties. The buyer, also known as ‘long’, expects a price increase in the underlying asset. The seller of futures contracts, or ‘short’, is betting on a price retraction for profit.
Another attraction of the futures contract is that it allows one to decrease his participation without having stable currencies or fiduciary deposits in the bags. A buyer could increase their position during bank holidays or a period of cash restriction.
Cryptocurrency miners also benefit from using the instrument by covering future earnings and reducing uncertainties in cash flow. There are countless cases for professionals to trade futures contracts, and even retail traders can benefit from their use.
Futures compared to spot and margin trading
Every futures trade needs a buyer and seller of the same size and maturity. There is simply no way there is a more substantial short (or long) position. Such constant equilibrium is a big difference with margin trading, where traders need to borrow the asset to use leverage.
Spot (spot) means that settlement occurs at the same time as the trade, as the buyer gets cryptocurrencies, while the seller receives fiat money or stablecoins (or other asset) as soon as the trade is done. In the futures markets, both parties will deposit a certain margin, so initially no one receives anything from it.
It is important to note that futures trading does not occur in the same order book as spot trading. Its price can, and generally will, vary from spot bags. Even if trading on Binance Futures, the futures price will fluctuate relative to the spot prices on the exchange’s regular market.
Reasons for fluctuation between spot and future prices
As mentioned above, when sold through the spot market, the order is settled immediately. By choosing to sell future contracts, the seller postpones this agreement and will sometimes demand more (or less) money depending on market conditions. But there is a catch. To avoid market manipulation, the margin calculation does not take into account the trading price of a contract. Derivative exchanges generally create indices, also known as “fair prices,” which are calculated by the average price of spot exchanges.
By doing this, exchanges offering futures contracts reduce the incentives for anyone trying to manipulate their price. The underlying fair price of the asset will be used to determine if a position is using too much margin and therefore needs to be forcibly closed.
Understanding the basic mechanics of a futures contract
It is possible to sell (short) a futures contract and buy back the same amount later, generating a net exposure. The trick here is the margin deposited by both parties for trade to occur. When the market goes up, the margin moves from the seller (short) to the buyer (long). This is automatic and occurs every second, since it is calculated based on the “fair price”.
Let’s consider a scenario where one deposits 100 USDT in Binance Futures. This investor may be willing to buy 1,000 USDT Bitcoin (BTC) (long) futures using 10x leverage. Such buyer cannot withdraw future contracts, nor transfer them to a regular Binance exchange. This is because a Bitcoin futures contract is not the same as a real Bitcoin.
As an example, an order of 0.114 BTC, valued at $ 1,000, would only cost this investor $ 49.87. This “cost” refers to the initial margin required to maintain that position. A larger guarantee will be necessary if the underlying Bitcoin price (fair price) starts to go down.
Both parties must deposit margin, although it will be different for each pending market condition. There is an implicit cost to carry those perpetual contracts. Most traded cryptocurrency futures contracts never expire, so in theory an investor might never need to close the position.
The advantage futures have over spot trading
Even if the buyer has $ 1,000 to spend, one could still use their own money for other businesses in the short term. For example, $ 200 could be allocated as margin for the 0.114 BTC position, while the remaining $ 800 buys leveraged positions in altcoins. Some traders do not feel comfortable depositing large sums on exchanges. Leveraging can reduce market exposure, giving you the ability to sell your spot market position in smaller tranches later.
Risky players can also benefit by making small deposits every day or week. This strategy places a strict limit on your losses while providing a decent edge for amounts as low as $ 50.
Disclaimer: This press release is for informational purposes information does not constitute investment advice or an offer to invest. The views expressed in this article are those of the author and do not necessarily represent the views of infocoin, and should not be attributed to, Infocoin.