Bitcoin futures is a contract to buy or sell an asset in the future at a specific price. After the conclusion of the contract, the parties are obliged to fulfill its conditions, regardless of the market price at the expiration date of the futures.
In futures transactions, you can open long and short positions. In the first case, the trader agrees to buy the asset at a certain price in the future, in the second – to sell the underlying asset on the day of expiry of the contract.
What are futures for?
These derivative financial instruments (derivatives) are used primarily for speculative profits. With futures, a trader can open both long and short positions using the effect of leverage. The latter implies a high yield of transactions, as well as increased risk.
However, futures were originally designed as a hedge against price risk. Thus, by futures it is also possible to reduce the risk of adverse price fluctuations on various assets.
For example, the main risk for Bitcoin-miners is the fall in the price of cryptocurrency to the level at which its mining becomes unprofitable, that is, the cost of electricity exceeds the income from the mined coins.
To secure your business, the miner can sell futures for the number of available bitcoins . If the cryptocurrency rate drops significantly, then the futures will provide an opportunity to level the losses from the decline in the price of an asset with the profit from a short transaction.
What are the types of futures?
Futures are deliverable and settlement . The first ones assume that at the expiration date of the contract the buyer must buy and the seller must sell the underlying asset in the amount specified in the specification to it.
As an example of deliverable futures, one can cite futures contracts for oil or wheat. However, here, overwhelmingly in most cases, transactions are conducted without actual delivery of the underlying asset, that is, they are purely speculative.
Also transactions with deliverable futures are often hedging, in other words, aimed at minimizing price risks. Thus, most deliverable futures are closed before the expiration date.
Settlement futures do not initially involve the delivery of the underlying asset, but only a cash settlement in the amount of the difference between the contract price and the value of the asset at the date of settlement. Such instruments are also mainly used for speculative purposes and for hedging price risks.
What is special about bitcoin futures?
Futures contracts can be on a variety of assets – securities, stock indexes, commodities and cryptocurrency . In general, Bitcoin futures are not much different from other futures contracts, they also allow you to bet on rising or decreasing prices in the future.
Note that it is possible to trade in futures contracts at BTC without having the cryptocurrency itself, but only speculating on its price. That is how, in particular, transactions take place on such well-known exchanges as CME and CBOE, focused mainly on large investors.
However, on the upcoming Bakkt trading platform, futures will be presented that involve the supply of physical Bitcoin after the expiration of the contract.
What is a futures specification?
This is an exchange-approved document in which all the conditions of the futures contract are fixed, including:
- name of the contract;
- its abbreviated name or ticker (for example, XBT on the CBOE or BTC – on the CME);
- contract size (for example, for a CBOE this is 1 BTC, for a CME – 5 BTC);
- type (delivery or settlement);
- the minimum price pitch (for example, on a CBOE is five points, which in USD / XBT pair corresponds to $ 5);
- date of delivery and terms of contract circulation, etc.
What is futures expiration?
This is the termination of the circulation of the contract on the exchange. On the expiration day, futures obligations are fulfilled – mutual settlements between the parties to the transaction are made by paying the price difference (variation margin), or the underlying asset is delivered.
Expiration date is prescribed in the specification for the futures.
What is initial, supporting and variation margin?
Deposit or initial margin is a refundable guarantee fee charged by the exchange when a futures position is opened. In other words, this is the amount required to open a position. Usually accounts for 2-10% of the current market value of the underlying asset.
However, in the case of futures for bitcoin, due to frequent periods of high volatility, the size of the initial margin is much higher compared to traditional financial instruments. So, at CME and CBOE it exceeds 40%.
The initial margin is charged to sellers and buyers and is designed to protect the broker from the risk of default on the transaction.
Supporting margin is the amount required on the account so that the position is kept open in order to avoid triggering the margin call (forced closing by broker, which results in the loss of a trader and a sharp decrease in its balance).
Brokers (for example, TD Ameritrade and Interactive Brokers) provide access to the CME and CBOE platforms. These companies can set their own margin requirements, which may be larger than the exchange. For example, the American broker E-Trade set margin requirements for bitcoin futures at 80%.
There is also the term variation margin . This is the amount of money that represents profit or loss from open or closed contracts. The total value of the variation margin is calculated based on the results of the trading session.
What is contango and backwardation?
Before the expiration date, the prices of the contract and the underlying asset are usually different. As the date of execution of the futures approaches, the difference in prices decreases.
Suppose that before execution, the futures price is higher than the value of the underlying asset. This situation is called contango (English Contango, which literally means "extra charge to the price"). In this case, market participants are confident that the asset price will rise in the future. Contango may occur, for example, before halving the reward for a block, on the eve of possible Bitcoin-ETF approval or launch of the Bakkt platform.
If the futures price is lower than the market value of the asset, this is backwardation (from English. Backwardation – “lagging”). This means that bearish sentiment prevails in the market.
Where else can you trade Bitcoin futures, if the funds for this are not so much?
In addition to the CME and CBOE sites, which are tightly regulated by US law, Bitcoin futures are also represented on platforms such as BitMEX, OKEx, Crypto Facilities, etc.
A feature of such exchanges are much less stringent KYC procedures and AML policy requirements. In addition, on such platforms, the threshold for entry is much lower, which means that they are available not only to large investors.
Also on these exchanges you can trade with a large leverage (for example, 50-fold leverage is available at Crypto Facilities).
How can futures affect the bitcoin rate and the crypto industry as a whole?
Many experts believe that the emergence of bitcoin futures in the traditional market contributes to the mass adoption and popularization of cryptocurrencies, since mainstream investors will become less skeptical about cryptocurrencies. This, in turn, can stimulate demand and positively influence the price and market capitalization in the long run.
The emergence of traditional financial instruments based on Bitcoin actually means its recognition by regulators as an object of investment. The fact that Bitcoin futures are gaining popularity in the highly regulated and the largest US market in the world can serve as an example for financial institutions from other countries. Among other things, in jurisdictions where cryptocurrency trading is prohibited, futures allow you to speculate on the price of the underlying digital assets.
On the other hand, large market participants have the opportunity to open short positions, a large amount of which can put pressure on the price of bitcoin . However, the top manager of the Chicago Mercantile Exchange (CME) Tim McCourt believes that futures do not affect the price of Bitcoin, since the BTC futures contracts currently represent only a small part of the market. The famous trader Peter Brandt agrees with him, who is convinced that one should not underestimate the impact on the market from the side of a huge number of small Bitcoin investors.
At the same time, Bakkt's delivery futures may serve as an additional factor for the demand for bitcoin. In addition, with the development of this market, the likelihood that the SEC will finally finally endorse bitcoin-futures-linked exchange funds (ETFs) will increase.
There is also an opinion that futures for bitcoin help to reduce the volatility of its price.
Be that as it may, the integration of a cryptocurrency market with a traditional one can potentially contribute to the massive acceptance of new assets, and hence their long-term growth.