Are crypto derivatives becoming the dominant force in the crypto trading space?
Derivatives are financial securities that are based or tied into another asset, and take the form of a contract between two parties. The price of the derivative depends on the price of the base asset. The advantages of trading derivatives, as opposed to actual cryptocurrencies, are becoming increasingly clear. So, what are the advantages of trading derivatives instead of popularly traded cryptocurrencies?
By John Jansen, CEO of Deribit
Apparently, crypto derivatives are making a name for themselves as a better, safer investment than bitcoin or any altcoin available on the market. Regardless, it remains critical for investors to keep in mind their investment goals and unique situation before investing in financial securities of any sort, but if we’d have to take our chances on anything - it would be the newly crowned crypto king, derivatives. The derivatives market has grown 1.5x larger than the spot market in terms of daily traded volume, but still possesses a huge upward potential. This potential is made all the more clear when taking the equity market into account, where the derivatives market is much bigger than the equity market itself.
So, what are derivatives? Derivatives are financial securities that are based or tied into another asset, and take the form of a contract between two parties. The price of the derivative depends on the price of the base asset. The advantages of trading derivatives, as opposed to actual cryptocurrencies, are becoming increasingly clear. So, what are the advantages of trading derivatives instead of popularly traded cryptocurrencies?
Precise risk management
Risk management is an appealing characteristic for any investor, seasoned or rookie, participating in the crypto trading game. When trading within a market that has the stability of an “on again, off again” high school relationship, it’s essential to minimize any financial risks when the opportunity or strategy presents itself to do so. Derivatives are top choice when it comes to greater risk management, as they allow investors to effectively assess and gauge a risk at hand, diving into an investment only when at optimal comfort levels. For example, an investor holding a bitcoin might feel secure in the event that they forgo some future upside, but can only do so comfortably after bitcoin rises above USD 10,000 before the end of December. In this particular instance, the investor holding the bitcoin could sell a December call option, receiving a premium in return.
Derivatives don’t just manage projected risks, they can also be used to reduce them. For example, an investor could choose to purchase a put option, which is an option to sell assets at an agreed price on or before a particular date. They would pay a premium, but they’ll also receiving money if the Bitcoin price should unexpectedly drop below the agreed price.
Improved market efficiency
Trading derivatives within the fluctuating crypto market, comes with lower transaction costs than trading cryptos directly on a spot exchange. This is one thing that derivatives in the traditional financial market have in common with crypto derivatives. Buying or selling a bitcoin on average costs anywhere in between 0.1-0.2% per trade, while transaction costs associated with crypto derivative contracts are around 0.05%.
A more controversial upside to using derivatives within the crypto space has blockchain enthusiasts and old school “purists” at odds. Why? Because the introduction of derivatives means that there just might be a newfound place for government regulation in a technology that prides itself on peer to peer trust and transparency.
Larger trading volumes
Overall, the benefits of derivatives accumulate into a high trading volume, ensuring that all traders and investors can execute large transactions at efficient prices. This enhanced liquidity then attracts more traders to exchange platforms within the market, simultaneously acting as self-reinforcement where bid-ask spreads are becoming increasingly tighter.
Trading with high leverage welcomes an ample opportunity for traders in the space, as several crypto derivative exchange platforms are now offering up to 100x leverage; this means, that traders and investors can take a 100 Bitcoin position with only 1 BTC in their trading account. In return, investors, traders, and coin holders can all achieve high returns from the smallest change in prices of underlying assets or sources. Trading with high leverage is associated with great risk, even with derivatives, so all involved must be cautious and transact carefully.
Crypto derivatives are making a splash in the current market, persuading traders and investors that they’re the right (and only!) tools to position themselves in the most profitable means possible. To put it simply, derivatives have the potential to restore growth within an industry that is currently struggling, by developing and producing new products that enable traders to generate a profit regardless of market direction. Derivative traders are multiplying, as they aggressively enter the crypto space, and as trading strategies become more and more easy to implement. Crypto derivatives are here to stay and they’ll bring the masses with them.
Disclaimer: This article represents the guest author's opinion and should not be construed as investment advice from Cointelligence.
About the author:
John Janson is the architect of the Deribit exchange platform, driven by perfection and a “good is not enough” mindset. Heard about Bitcoin for the first time in the summer of 2012 and was immediately hooked. He started out by buying some Bitcoin and trading them on several exchanges. Not much later in early 2014 he had the idea to create a cryptocurrency futures and options trading platform, that developed into a futures and options exchange called Deribit.