Many traders frequently express relatively large misconceptions about trading cryptocurrency futures on derivatives exchanges, especially outside the realm of traditional finance. The most common mistakes relate to futures market price segregation, fees, and the effect of liquidation on derivative products.
Let’s explore three simple mistakes and misconceptions traders should avoid when trading cryptocurrency futures.
Derivative contracts differ from spot contracts in pricing and trading
Currently, the total amount of futures open interest in the cryptocurrency market exceeds $25 billion, and retail traders and experienced fund managers use these instruments to leverage their cryptocurrency positions.
futures contract and other derivatives are often used to reduce risk or increase exposure, and despite this popular interpretation, are actually intended to be used for corrupt gambling. not.
A few differences in pricing and trading are usually overlooked in crypto derivative contracts. For this reason, traders should at least consider these differences when entering the futures market. Even savvy derivatives investors in traditional assets are prone to making mistakes, so it is important to understand the existing characteristics before using leverage.
Most cryptocurrency trading services do not use US dollars, even though they display US dollar quotes. This is a big untold secret and one of the pitfalls faced by derivatives traders, which introduces additional risks and distortions when trading and analyzing futures markets.
The immediate issue is the lack of transparency and clients don’t really know if a contract is priced in a stablecoin. All things considered, this is not a big concern.
Discount futures can come with surprises
September 9, Ether (ethereum) Futures expiring December 30 are trading at $22 or 1.3% below current prices on physical exchanges such as Coinbase and Kraken. The difference comes from the expectation of merge fork coins that may occur during an Ethereum merge. Purchasers of derivative contracts will not be granted any free coins that Ether holders may receive.
Airdrops can also cause discounted futures prices as the holders of the derivative contract do not receive any rewards, but each exchange has its own pricing mechanisms and risks, so the only This is not the case with Binance and OKX’s Polkadot Quarterly futures, for example, trading at a discount to the spot exchange’s DOT price.
Note that futures contracts traded at discounts of 1.5% to 4% from May to August. This backwardation indicates a lack of demand from leveraged buyers. However, given the long-term trend and the fact that Polkadot rose 40% from his July 26th to August 12th, external factors may be in play.
Futures contract prices are decoupled from spot exchanges, requiring traders to adjust their targets and entry levels each time they use the quarterly market.
Higher fees and price decoupling should be considered
The main advantage of futures contracts is leverage, i.e. the ability to trade larger amounts than your initial deposit (collateral or margin).
Consider a scenario where an investor deposits $100 and buys $2,000 worth of Bitcoin (long) (Bitcoin) futures using 20x leverage.
Derivative contracts generally have lower trading fees than spot markers, but a 0.05% fee applies to trades of $2,000. Therefore, it costs $4 to enter and exit a position once. This corresponds to his 4% of the initial deposit amount. It may not sound like much, but as sales grow, these burdens add up.
Even if traders understand the additional costs and benefits of using futures commodities, the unknown element tends to emerge only in volatile market conditions. The separation between derivatives contracts and regular spot exchanges is usually caused by liquidations.
Derivatives exchanges have built-in mechanisms to close positions once the trader’s collateral becomes insufficient to cover the risk. This liquidation mechanism can lead to dramatic price action and consequently decoupling from the index price.
These distortions do not cause further liquidation, but uninformed investors may react to price movements that occur only in derivative contracts. To clarify, derivatives exchanges rely on external pricing sources, usually from the regular spot market, to calculate reference index prices.
There is nothing wrong with these proprietary processes, but every trader should consider the implications before using leverage. When trading in the futures market, you should analyze the impact of price decoupling, rising fees, and liquidation.
The views and opinions expressed herein are solely author They do not necessarily reflect the views of Cointelegraph. All investment and trading movements involve risk. You should do your own research when making a decision.