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1. What are crypto futures?
Understanding “what are crypto futures” may initially seem complex, but once grasped, they offer an accessible and powerful tool to enhance your trading strategy and portfolio.
1.1. Definition
What are crypto futures? Crypto futures are contracts between two investors who bet on a cryptocurrency’s future price, giving them exposure to cryptocurrencies without purchasing them.
Futures contracts of any underlying asset are derivatives of that asset. These contracts are bought and sold between two investors who speculate about that asset’s price at a specific date in the future. These contracts come with specific details such as unit quantity, pricing, margin requirements, and settlement methods that participants must be adhered to.
1.2. How does it works?
To understand what are crypto futures and how they function, it’s important to know that crypto futures trading is a zero-sum game where one party’s profit comes at another’s expense. Trading platforms do not act as counterparties but facilitate matching buyers with sellers for each futures contract.
For example, if you predict Bitcoin’s price will rise, you might take a long position by buying a Bitcoin futures contract. A trader who buys a futures contract profits when the cryptocurrency price rises.
If you foresee a price decline, you might go short by selling a Bitcoin futures contract with plans to buy it back at a lower price. A trader who sells a futures contract profits when the cryptocurrency price falls.
As futures contracts are agreements between traders, both parties must agree on the contract’s terms before it is finalized.
2. Crypto Futures Key Components
A crypto futures contract consists of three key components:
2.1. Expiration Date
The expiration date is when a contract will close and the value will be transacted at the previously agreed price. Some platforms offer perpetual futures contracts, which have no expiration date. Instead, these contracts use a funding rate to keep the futures price in line with the spot market value of the asset.
2.2. Contract Lot Size
To understand what are crypto futures, traders should familiarize themselves with these valuation methods. Contract lot size specifies the quantity of the underlying asset represented in a futures contract. Contracts can be valued based on the asset itself (1 contract = 1 BTC) or by its currency value (1 contract = $1 worth of BTC).
Futures traders can also engage in fractional trading, allowing them to buy or sell a lot size as small as 0.001 BTC, even if the contract’s unit size is 1 BTC.
2.3. Leverage
Futures contracts often involve leverage, enabling traders to control a large contract with a small deposit. For instance, a Bitcoin futures contract worth 5 BTC ($200,000) may require only a 10% deposit ($20,000), providing a 10x trade size increase. Leverage is a crucial element when considering what are crypto futures, and the leverage rates vary with asset and trade amount.
Settlement methods include cash settlement, where the loser pays the winner in fiat currency like USD, and physical delivery, where the seller transfers digital currency to the buyer at the settlement price. The profit for the winner is determined by the difference between the settlement price and the current spot price.
3. Main Types of Crypto Futures Contracts
When exploring what are crypto futures, you’ll find a variety of options suitable for every type of trader, whether you’re new to trading or experienced in the market. The diverse range of derivatives trading contracts offers plenty of opportunities to meet your investment goals.
3.1. Bitcoin and Ethereum Futures
Bitcoin (BTC) and Ethereum (ETH) futures are among the most significant crypto derivatives in the futures market. Bitcoin futures contracts allow traders to speculate on future BTC prices without needing to own the currency. Whether you anticipate price increases or decreases, futures trading enables you to capitalize on market movements.
3.2. Altcoin Futures
It’s not just Bitcoin (BTC) and Ethereum (ETH) that dominate the futures market; numerous futures contracts are available for various cryptocurrencies, known as altcoins.
Many popular altcoins like Litecoin (LTC), Ripple (XRP), Solana (SOL),… have high trading volumes, making them excellent choices for trading cryptocurrency futures. Altcoin futures provide an opportunity to explore the broader crypto market beyond the major players, offering diverse options and potential for growth.
3.3. Perpetual Futures
If you have gasped what is a crypto future, then you should also check for perpetual futures. This is a unique type of futures contract with no expiration date, allowing you to hold your position indefinitely. This flexibility makes them an attractive option for long-term strategies, as you can adjust your holdings according to market conditions.
4. Differences between crypto futures & spot trading
So, what are crypto futures’s differences from spot trading? Let’s delve into the details:
- Timing: In spot trading, assets are exchanged at current market prices with immediate delivery, giving direct ownership. In contrast, crypto futures involve contracts that settle at a future date, allowing speculation on future prices without owning the asset.
- Exposure: Spot trading provides direct exposure to cryptocurrencies by holding them in a wallet, while crypto futures offer indirect exposure to price movements without owning the assets.
- Benefit & Risk: Crypto futures offer leverage, allowing larger positions with smaller deposits. This can amplify both gains and losses, making futures riskier than spot trading, especially for beginners.
Read more: Spot Trading vs Futures Trading: Which Fits You Most?
5. Differences between crypto futures & traditional futures contracts
Although futures contracts originated in traditional financial markets, crypto futures have their own unique characteristics. So, what are crypto futures’ unique features compared to traditional futures contracts?
Underlying Assets
Traditional futures contracts typically involve commodities like crude oil or copper. Originally designed by banks to help farmers lock in future prices for their produce, these contracts are based on physical assets. In contrast, crypto futures track the prices of digital assets such as Bitcoin (BTC) or Solana (SOL), reflecting the growing importance of cryptocurrencies in the financial markets.
Leverage Levels
Leverage in traditional futures is generally lower compared to crypto futures. For example, CME Group offers 10x leverage on their Micro WTI crude oil futures contract. On the other hand, crypto futures have historically featured much higher leverage, with some platforms offering up to 100x.
This high leverage allows traders to manage larger positions with a smaller initial deposit but also introduces significant risk, as a minor price movement can lead to significant gains or losses. That’s why many crypto platforms have reduced leverage levels in recent years.
Read more:
6. Are Crypto Futures a Good Investment?
Understanding what are crypto futures is essential for navigating this investment landscape. They offer investors the chance to gain flexibility, leverage, and hedging potential in the volatile cryptocurrency market. While these contracts can be beneficial, they also come with risks. Leverage can amplify gains but also lead to rapid losses if the market turns against you.
Futures traders may face margin calls, potentially resulting in forced liquidation of their positions if they fail to maintain the required margin levels. Furthermore, exchange fees can impact overall trading profits.
Ryan Cullen, CEO of Cullen Cioffi Capital Management, advises that while futures trading can be a powerful tool for crypto traders, it’s crucial to fully understand the risks. He also mentions that futures allow traders to exploit short-term market fluctuations, but the speculative nature and leverage involved can lead to significant losses if positions are not carefully managed.
Conclusion
Cryptocurrency futures trading presents a unique opportunity for traders to engage with the cryptocurrency market without needing to physically acquire the underlying asset. Understanding what are crypto futures can help you capitalize on even small price fluctuations, allowing for strategic investment and portfolio diversification.
Whether you are new to trading or aiming to expand your strategies beyond spot trading, crypto futures offer a versatile and evolving landscape for exploration and growth. Grasping what are crypto futures and their mechanics, benefits, and risks enables market participants to approach this dynamic field with confidence.
Stay tuned and learn more about cryptocurrency with additional articles from FMCPAY!