U.Today presents a complete guide to Bitcoin futures trading. Here is an article that will help you to understand the nature of those contracts and how they work with Bitcoin.
What is futures
What are those financial contracts or derivatives? Features is a financial contract that allows to buy or to sell some basic asset within the established dates and for the previously established price, which is fixed in the agreement.
Futures are approved on the basis of standard conditions, established by the exchange. The conditions for every basic asset are established separately, which helps to sell them at a price, which is close to market quotes.
Futures are very “liquid” derivatives because of their conditions. Moreover, all the participants in the transaction are protected by the margin that the parties have to pay before the contract sets up.
Some novice traders and investors think that futures are a kind of speculative trading instruments helping them to gain more profit. However, those derivatives serve to decrease risks and to guarantee the delivery of underlying assets. It is to mention that nowadays almost all futures contracts do not require delivery of goods.
The history of futures
The futures market has a long history. Some think that those contracts appeared in Osaka (former Japanese capital). Rice was the main trading good at that time. Buyers and sellers wanted to protect themselves from price fluctuations and this was the main reason to create futures contracts.
However, some other traders underline that futures have appeared in the Netherlands during the “Tulip mania” period. The bulb cost so much that the buyer had no opportunity to buy it. Nobody could predict the price of the bulb. This was the main reason for those futures contracts to appear.
Let’s give an example. Imagine that there is a farmer who cultivates wheat. He has some spending as he needs to invest into fertilizers, seeds and his employees. In order to conduct his activities, a farmer needs to be assured that his investments will be paid off.
However, he cannot be sure in advance as the price of wheat may decrease significantly in case of high yield. To tell the truth, wheat buyers need to protect themselves from the higher prices in case of low yield.
Bitcoin futures: the main reasons for those contracts to appear
BTC futures are the result of this hype tendency. Bitcoin becomes more and more popular and Wall Street investors want to benefit from this trading instrument.
Nowadays there are futures for different types of underlying assets including weather. Everything that can be measured or calculated, may become the underlying asset for a futures contract. Bitcoin is a good “candidate” for such a mission.
However, this gives no clear understanding of why do these contracts appear? The main reason lies not only in this hype but also in the fact that serious investors do not have trust in those exchanges that we have currently.
Yes, there are already some regulated trading places, but they are not numerous. Bitcoin is an unregulated trading instrument at all and is traded on unregulated exchanges, which sometimes are unable to deal with a high number of traders.
Another great thing about futures contracts is that their number may be significantly higher, than the number of existing bitcoins. When you deal with futures, you buy a contract and not the underlying asset. It means that you just make a bet on growth or decline of this or that asset.
How do Bitcoin futures contract work
Bitcoin futures works the same way as any other futures contract. This is an obligation to sell or to buy some bitcoins in the future (the price is established in advance as well as the dates). The margin for such a contract is about 10-15 percent. The system works like a leverage in this case and participants may get some kind of credit. They invest less and may rely on higher profits in case of success.
Here is an example of how this works. Let’s say Bitcoin price is $6,000 currently. You expect the BTC price to increase in the future and to reach $7,000. So you buy let’s say 10 contracts expecting the price to grow. The expiry date is two months.
What do you have as the result of this deal? You have bought obligations to buy ten bitcoins at the market price at the moment of the expiry date of the contract.
If the price reaches your established level, you will sell the contract and get the profit. You may hold the contract until the expiry date if you think that the price will go even higher. However, if the price fails to reach the target within those two months, you lose meaning you have to give back your margin.
To tell the truth, you can buy and sell Bitcoin contracts anytime you want. The price of those contracts may significantly vary from the underlying asset’s price. Futures contracts allow you to earn on both uptrends and downtrends.
There is one more thing to mention. Huge exchanges like CME, establish a very high price for those who want to start Bitcoin futures trading, meaning you have to pay at least five BTC to buy BTC futures on CME for example. This amount is not affordable for many retail traders and they choose brokers, which offer more loyal conditions.
How do futures influence the Bitcoin market
There were many talks about Bitcoin’s price after futures launching. Some experts predicted its growth while the other urged the community to be cautious as the results would be unexpected. Anyway, we are now more than half a year after those contracts appeared and we can make some conclusions at this moment.
There is a common opinion that Bitcoin futures have a negative impact on the industry and cryptocurrency price as they allow traders to conduct bi-directional operations and to earn on both of them. This may lead to significant price fluctuations and downtrends.
So-called whales have large amounts of money and they can manipulate the price as they want. I would like to mention here the famous Soros trading operation against the Bank of England on Sept. 16, 1992. Soros is considered to be the man who has broken the Bank of England as he bet on GBP’s decline and earned billions of dollars.
Huge investors can be the reason of great panic on the cryptocurrency market. Cryptocurrency market’s capitalization is billions and even hundreds of billions of USD. However, daily Forex volumes are even higher. Speculative funds that penetrated the crypto market, were one of the reasons for this huge downtrend that we see in summer 2018.
Let’s see a simple example of how it works. Big money can invest millions of dollars in those contracts. When they see that market is hesitating to grow, they can “sell” BTC/USD using futures contracts and make the price decline significantly.
Another negative aspect is that you don’t need to buy Bitcoin in order to participate in those trades. This means that the number of adepts stays the same. Investors are cautious with the cryptocurrency at all. However, they are interested in speculative operations. This means that the number of those who want to benefit from Bitcoin’s price fluctuations but indifferent to this technology development will increase.
However, I also think that there are some positive moments. Bitcoin is officially adopted, which means that more participants may be involved in this network in the future. Moreover, I think that those futures contracts have already played their positive role.
Where can you buy Bitcoin futures? Those contracts are offered on CME. However, as I have already mentioned, the entrance amount is rather high. You can also buy and sell Bitcoin futures with different specialized broker companies.
Bitcoin futures– pros and cons
There are lots of positive and negative aspect that I would like to mention here. The advantages of Bitcoin futures trading are the following:
Instant trading. You lose time or money. All those who have experience in classic cryptocurrency exchanges know that it is hard sometimes to buy or sell a crypto on a desirable price especially when you need several units.
You don’t need to buy Bitcoin or other cryptocurrencies. All trades are conducted in fiat money. You need to deposit them into your account and you are ready to open positions.
Low funds requirements. I have told you already that you need to buy five BTC contract at CME at least in order to participate in trades. However, nowadays there are several brokers that allow to invest even lower amounts and earn more. Some brokers offer micro trading.
Huge leverage offers some great opportunities for traders. You don’t need to invest much in order to get higher profits.
High liquidity. This aspect allows you to sell contracts anytime you want. You don’t need to wait for a buyer to purchase it.
Low commissions. Several brokers take very small fees as compared to traditional cryptocurrency exchanges. You can increase your net profits due to this fact.
High-security level. When dealing with cryptocurrency exchanges, you need to be careful as those trading places are famous for their weak security measures. Yes, they are doing their best in order to increase the safety of funds, but hackers are still able to breach their security systems and take clients’ money away.
You can earn when the price goes both upwards and downwards. I mean traders have an opportunity to sell and to get profits even when Bitcoin declines. This is a great feature for speculative traders.
As for the disadvantages, here they are:
Futures are not suitable for long-term investments. Every contract is limited by several months’ expiry. Futures may be interesting for active speculators who conduct several short and midterm trades in order to get the maximum profit possible.
You need to have enough money on your trading account. Yes, I have told you above about the leverage, but you need money to maintain your margin. When you buy several contracts, you risk to “zero” your investments.
Bitcoin futures are risky. You need to calculate all your risks.
Knowledge required. When trading those contracts, you need the same knowledge that is required for exchanges’ speculative trades. I would say that you even need more skills in order to succeed.
Bitcoin futures are very popular nowadays among retail traders. They allow participating in Bitcoin trading without buying the very asset. Those contracts have both advantages and disadvantages, but I think they are worth your attention.