In trading Bitcoin, it is no longer pegged to ordinary trading. With the increasing popularity of Bitcoin and its soaring bitcoin price, many companies have started to provide services and facilities related to these futures contracts.
This is done with the aim that traders expert traders can take advantage of this opportunity to own or buy bitcoins.
With a long time gap from Bitcoin being first created in 2009 until now, even with the ups and downs of Bitcoin prices, making Bitcoin value not only in terms of asset value but also social value, Bitcoin can be an alternative financial instrument.
The growing popularity of Bitcoin has led to an increase in the number of exchanges offering trading futures contracts on Bitcoin, commonly called Bitcoin Futures.
So far, platforms such as Binance, FTX, Bitfinex, Bybit, Kranken and others offer this transaction. The volume of these transactions is also increasing across the board, and retail traders seem increasingly interested in experimenting with this complex instrument.
There are several benefits to using this futures trading. Traders who use it can hedge and maintain peace of mind during periods of high volatility.
Futures contracts can also be used to reduce risk and increase the leverage of bets on the right strategy.
Professional traders often use these futures contracts to better position both sides of the market.
This article will introduce the basic mechanics behind these instruments, their hidden costs, and some common trading strategies that professional traders use to take advantage of this facility.
What are Bitcoin Futures?
Simply put, a futures contract on Bitcoin or Bitcoin Futures is an agreement to buy or sell an asset at a later date at a predetermined price. It is a derivative instrument because its value depends on the underlying asset.
These futures contracts were initially linked to commodities such as gold, oil and grains. These instruments enable producers (farmers and miners) to better manage their financial risk by creating the possibility of locking in up-front prices.
On the other hand, airlines can hedge fuel costs, which is a win-win solution for both parties.
Buyers, also known as longs, expect an increase in the price of their underlying asset. This is because they see long-term potential (long).
Meanwhile, the seller of a futures contract, or what is often called a short, bets on withdrawing the current price to get more profit.
Another allure of futures contracts is that they allow one to reduce their stock without holding stablecoins or fiat deposits on exchanges. Buyers can increase their positions during bank holidays or cash-restriction periods.
Crypto asset miners also benefit from using financial instruments by hedging future earnings and reducing cash flow uncertainty.
There are many cases for professionals trading these futures contracts, and even retail traders can benefit from using Bitcoin Futures.
Futures, Spots, and Margin
Each of these futures trades requires a buyer and seller of the same size and maturity. There is no short (or long) position which one is more important.
In these futures contracts, such a constant balance makes it different from margin trading, where traders need to borrow assets using leverage.
Different from the spot, where the buying and selling transactions are completed simultaneously as the trade.
This is because a spot is a trade where the buyer gets the cryptocurrency. At the same time, the seller receives the fiat or stablecoin (or digital currency) immediately after the trade takes place.
Meanwhile, in the futures market, both parties who transact will deposit their respective margins, so the parties receive nothing at the beginning. It is important to note that futures trading does not occur in the same order book as spot. Prices can be and will usually vary more than the spot. Futures, the cost of these futures contracts will fluctuate from the spot price Binance on the stock market of the exchange.
Reasons for Fluctuations between Spot and Futures Prices
As mentioned earlier, orders are settled immediately or even in real-time when selling through the spot.
By choosing to sell the contract in the future, the seller is delaying any settlement at that time and will sometimes demand more (or less) money depending on market conditions.
However, there is a limit to preventing market manipulation; this margin calculation does not consider the contract’s trading price.
Derivatives exchanges usually create indices, also known as “fair prices”, which are calculated based on the average spot.
It works based on exchanges offering futures contracts with reduced incentives for anyone trying to manipulate prices. The “fair price” of the asset will be used in determining whether a position is using too much margin and should be forcibly closed.
Understanding the Basic Mechanism of Future Contracts
With a futures contract, it is possible to sell (short) a futures contract and then repurchase it for the same amount later, capturing what is there. The key here is that the margin deposited has to be done by both parties for the trade to take place.
When the market moves up, the margin is transferred from sellers (short) to buyers (long). It happens automatically every second because it is calculated based on the “fair price” earlier.
For example, a trader deposits 100 USDT using Binance Futures in the Bitcoin market. Trader may be willing to buy a futures contract with a contract value of 1,000 Bitcoin (BTC) worth USDT using leverage 10x
To buy in such a case, the trader cannot withdraw his future contract or transfer it to the regular Binance exchange. This is because Bitcoin futures contracts differ from actual Bitcoins (original Bitcoins).
As shown in the example futures contract above, to buy an order amounting to 0.114 BTC or about $1,000 worth, the investor would only be charged about $49.87. This ‘fee’ refers to the initial margin required to hold the position. For Bitcoin, more excellent collateral will be needed if the underlying price (or fair price) starts to decrease.
Both parties making the trade must deposit a margin, although this will vary with each pending market condition.
There is an implied cost in executing such a perpetual contract. Most cryptocurrency trading futures contracts do not have an expiry date or deadline, so in theory, an investor might not need to close their chosen position.
Profits from Futures Over Spot Trading
Even if the buyer has $1,000 to spend, he can use the money in other short-term trades. For example, $200 is set as a margin on a position of 0.114 BTC, while another $800 is used to buy leveraged.
Some traders are not comfortable having large deposits on the exchange. Trading leveraged like this can reduce market exposure, allowing them to sell positions on the spot in smaller portions afterward.
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