Futures Contracts Explained
In the traditional financial world, traders and investors have a wide array of choices when it comes to derivative products. These derivatives include futures and options, among many others.
Many of these mainstream products are beginning to make their way into the crypto space. Futures trading is one of the more common trading products that have entered the crypto industry over the past two years.
What Is A Derivative?
A derivative is a trading product based on the price activity of an underlying asset. Bitcoin (BTC) futures trading, for example, is based on the price activity of spot Bitcoin.
Spot assets are the actual assets themselves. Spot Bitcoin is physical Bitcoin, tradeable and transferable to various wallets and exchanges. If you buy one spot Bitcoin, you own that Bitcoin and can sell it at the current market rate on any exchange that is open to you.
Bitcoin futures, on the other hand, are not transferable to other exchanges. In the case of BTSE, you cannot transfer Bitcoin futures positions to other exchanges.
What Is Bitcoin Futures Trading?
Futures trading involves speculating on the future price of an underlying spot asset. Bitcoin futures trading involves speculating on the future price of spot market Bitcoin.
BTSE offers multiple futures trading products for multiple assets, including Bitcoin (BTC), Monero (XMR), and Litecoin (LTC).
On the BTSE exchange, futures are traded via contracts that represent a fractional amount of the underlying asset’s USD price. For example, one Bitcoin futures contract on BTSE is worth 0.001 of Bitcoin’s spot price. Therefore, 1,000 BTSE Bitcoin futures contracts equate to the price action of one whole Bitcoin.
What Is Expiration?
Some futures products on BTSE, such as its monthly and quarterly futures, have expiration dates.
If you are trading Bitcoin monthly futures, for example, you are speculating on what Bitcoin’s spot price will be by the end of each month.
If you go long 1,000 Bitcoin monthly futures contracts (BTCX19) at a price of $9,000 on the first day of the month and hold that position through expiration at the end of the month, you are paid out according to Bitcoin’s spot price at expiration. If spot BTC is at $10,000, then you receive $10,000, a profit of $1,000. If spot BTC is at $8,000, then you receive $8,000, a loss of $1,000.
You do not, however, need to hold these positions until expiration. You can buy and sell these contracts as much as you desire until the date of expiration at the end of the designated period, based on Bitcoin’s fluctuating price and the supply and demand for these futures contracts at the time of trading.
After expiration, existing positions settle and a new period begins, repeating the cycle. It is not uncommon for futures prices to trade higher than their associated assets’ spot prices near the beginning of futures periods and narrow the gap between spot prices and futures prices as expiration draws closer.
On BTSE, you also have the option to trade perpetual swap futures. These are futures products without expiration. Instead, they have a funding rate to keep underlying spot prices close to their perpetual futures prices. The funding rate is paid by traders holding long or short positions, depending on each underlying asset’s spot price relative to its futures price.
As a result, perpetual futures trading product prices often trade very close to their underlying spot assets’ prices.