Types of cryptocurrency derivatives: futures, swaps, options, CFD, ETF

The cryptocurrency market can be divided into spot trading and trading in derivatives, or derivative financial instruments. Today we will tell you what cryptocurrency derivatives are and how they can be used.

What are derivatives?

A derivative or derivative financial instrument is defined as a financial contract between two or more parties that want to buy or sell an underlying asset at a set price in the future.

The value of the contract will be determined by changes in the price of the underlying asset. Derivative contracts can have anything as their underlying asset: ordinary currencies, cryptocurrencies, goods, bonds, stocks, market indices, and interest rates.

Derivatives can be sold in two ways: through exchanges or the consumer-to-consumer (C2C) system. The latter method has its own differences related to legal regulation and trade.

In the crypto industry, derivative financial instruments are becoming increasingly popular, especially bitcoin futures contracts .

Types of Cryptocurrency Derivatives

Cryptocurrencies are an extremely speculative market with large price fluctuations occurring daily. Naturally, traders seek to capitalize on these fluctuations. Using crypto derivatives, traders can speculate the future price of bitcoin or other altcoins and make a profit if their forecasts turn out to be correct.

There are various types of crypto derivatives that can be sold either on traditional exchanges or on regulated crypto exchanges.

Futures contracts

A futures contract is a financial contract concluded between two or more parties in which the underlying asset, in our case cryptocurrency, is sold or bought on a certain day in the future, but at a price set in the present time.

A futures contract allows investors to hedge positions and reduce the risk of unpredictable market fluctuations, which is quite appropriate given the volatility of cryptocurrencies. Thus, by signing a contract in which the price of the base cryptocurrency is directly set, traders can reduce the risk by trading bitcoin and altcoin futures .

The first Bitcoin futures were offered by the Chicago Mercantile Exchange (CME) and the Chicago Options Exchange (CBOE) in December 2017. The Chicago Mercantile Exchange (CME) is currently the largest derivatives exchange in the world, managing more than 20% of all derivatives trading globally.

The traditional exchange that currently offers bitcoin futures is the CME Group, since CBOE has not added new contracts since March this year.

The Bakkt institutional crypto platform has several times been planning to start trading in bitcoin futures, finally, the opening is scheduled for September 2019.

CFD (price difference contracts)

CFD is an agreement based on the underlying cryptocurrency that enters into an agreement to pay the owner the difference between the price of the underlying asset at the beginning of the contract and the price at the end of the contract.

When you open CFDs, you speculate on whether the price of cryptocurrency will rise or fall. When the contract is liquidated, and your price forecasts turn out to be incorrect, you will have to incur higher losses, since this is a product with a leverage.

Trading platforms offering cryptocurrency CFD contracts – Plus500 and IG Option.

ETF (stock exchange investment funds)

An ETF is a derivative contract that tracks the price change of a particular cryptocurrency or group of cryptocurrencies. Traders can diversify their portfolio with ETFs without actually buying or owning assets that are tracked by a specified ETF.

Exchanges that offer crypto ETFs :

Swaps

Swaps are a type of crypto derivative that allows parties involved to exchange cash flows (cash flows) from two different financial assets.

For example, at some point in time, one side can switch an indefinite cash flow (cash flow), for example, a floating interest rate, to a certain movement – a fixed interest rate. Swaps can be made with interest rates, and with the base currency.

Swap contracts are not traded on the exchange, as they are usually concluded between the two parties privately and through the intermediary of an investment banker.

The first regulated institutional exchange to introduce bitcoin swaps was LedgerX, which added derivatives contracts back in October 2017. Access to the LedgerX trading platform is only open to accredited investors and institutional clients.

There are also many other institutional exchanges that provide these types of contracts.

OKEx Cryptocurrency Exchange also offers futures and perpetual swap trading, that is, contracts without an expiration date, with a 100-fold leverage. Contracts can be made with several cryptocurrencies, including Bitcoin, Ethereum, EOS, and even the new stablecoin USDK.

Options

An option contract is an asymmetric derivative that imposes obligations on one side, while the other side makes a decision later, that is, when the option expires. This means that one side must either buy or sell later, while the other side has the opportunity to make its choice. Obviously, the one who makes the choice must pay a bonus for the privilege.

These types of contracts come in two forms: option call and option put. An option call gives you the right, but not an obligation to buy cryptocurrency at a later date at a given price, while an option put gives you a right, but not an obligation to sell something at a later date at a given price. Therefore, the contract has 4 options, and the contract owner can choose the long or short position of the put-option or call-option.

Options are also traded on exchanges, including the LedgerX exchange.

Disadvantages of trading crypto derivatives

All trading strategies based on price fluctuations carry a certain degree of risk. As with spot trading, volatility is the main factor affecting the outcome of cryptocurrency derivatives.

Cryptocurrency prices can rise or fall sharply, and whenever someone decides to trade with margin using a high leverage, losses in the event of a loss are multiple.

Another issue for crypto derivatives is the regulatory aspect. When it comes to cryptocurrency futures and other types of derivatives based on cryptocurrencies, we see that legislation and regulations in different countries approach this issue differently.

Conclusion

Crypto derivatives can be a very profitable way to gain access to the digital asset market, but novice traders should first get an idea of trading and investing before entering into any of these financial contracts.

Publication date 08/21/2019
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