Since the crypto market’s historic bull run towards the end of 2017, 2018 has been dominated by the Bear Market. With many cryptocurrencies down over 90% from all-time highs and BTC/USD currently trading around $4.5k compared to its peak north of $20k, the patience of traders is being put to the test while the world waits for the return of the Bull.
On November 19, we saw some pretty rough volatility in BTC/USD prices, with BTC/USD dropping down as low as $4,260. This large crash in Bitcoin really began on November 14, when the former 2018 lows got swept around the $6K mark. Bitcoin has lost nearly 30% of its value since then, and the other Altcoins also suffered, with ETH dropping to $130. The total crypto market cap has taken massive hits: nearly $50 billion has left the market.
(Yes, it hurts.)
It’s anyone’s guess as to when the markets will once again pick back up (if ever). But despite being known as a painful period for the majority of traders, there is an opportunity to lock in profits during the current Bear Market. Experienced and new traders alike are using crypto futures to hedge their risk, diversify their investments, and potentially see greater returns by using leverage.
Here are a few reasons why it might be wise to incorporate futures into your current investing strategy. Though trading always involves risk, futures represent a potentially lucrative financial opportunity.
Diversify Your Crypto Portfolio
Whether you’re trading in the stock market, crypto, or any another commodity, successful traders know that diversification is crucial for long-term portfolio growth. Given that the crypto markets trade 24/7, and manipulation is rampant, diversification of your assets into other markets is an absolute must.
While many traders choose to put all their assets solely in crypto, having the option to enter into both crypto and traditional markets within a single platform gives our users an easy and accessible way to diversify.
The crypto markets are only one small part of the global financial system as a whole, and being able to invest across multiple high-volume markets gives you the ability to make more strategic trading decisions. The diagram on the left below shows you all the different types of traditional derivatives markets — and their volumes.
Source: FIA MarketVoice (2017)
For example, when using EMX, you can short a position in a U.S. equity futures market while using your crypto assets as collateral. Though the degrees of diversification vary depending on specific trading styles and strategies, we aim to give our users as many options as possible. Diversification allows you to navigate the ups and downs of the volatile crypto market while leveraging assets in more traditional, liquid financial investments.
Hedging Your Investments
A futures contract is essentially an agreement between two parties to purchase or sell an asset, at a specific time in the future for an agreed upon price. These contracts can then be traded on the open market to help reduce risk in times of extreme volatility.
Let’s take a look at a real-world example:
Imagine you are in the business of growing and selling wheat. As a wheat producer, you can take the standard approach and simply grow your wheat then sell it. However, by offering a futures contract on your wheat supply, you can agree to sell your wheat in the future for a specific price, regardless of what the price of wheat is in the future. If the prices of wheat fall in the future, you would come out on top with your transaction.
If there is a wheat shortage in the future and the prices of wheat increase dramatically, you would still be obligated to sell at the originally agreed upon price and as a result lose out on potential gains.
Using futures to hedge your risk is widely considered a healthy part of any investment strategy as it helps ensure you minimize your losses while protecting your profits over a specific period.
Let’s look at another example of risk management using hedging.
Consider the game of Blackjack in which you are battling the dealer to have the closest two card hand to 21. If you’re up big in profit for the evening and the dealer’s current hand shows an Ace, you can purchase “insurance.”
To purchase insurance you place half of the original wager on a separate side bet. If the dealer has 21, you would then collect your insurance bet. Essentially, buying insurance helps you mitigate your risk in case the dealer does have 21.
Compared to Bitcoin, the majority of altcoins are considered to be extremely volatile given the much smaller market caps and trading volumes. One method in which traders can hedge their investments is by taking advantage of the altcoin futures products that we offer at EMX.
Futures Trading Basic Strategies
Incorporating futures into your trading strategy opens a wide range of possibilities which can be used to maximize your profits. When trading futures there are three main strategies to consider.
Shorting: When shorting futures, you’re essentially speculating that the market will continue to fall for a specific period of time. With this type of trade, you will continue to realize the profit as long as the asset price continues to fall. While you can theoretically see unlimited gains, this type of trade can also technically result in an unlimited loss unless a stop-loss is used.
Going Long: When going long on futures, you are speculating that the price of a particular asset will continue to increase in price. Like a short futures position, this trade has unlimited upside, but can also cause catastrophic loss if the asset continues to fall in price.
Spread Trading: Spread trading involves purchasing both short and long futures contracts in hopes of profiting between the two future contracts, while also hedging risk against the volatility of a specific asset. Spread trading reduces your overall risk as it involves both a short and long position, as opposed to a single futures contract.
(Investopedia has a fantastic primer we highly recommend you read.)
While there is often a significant amount of complicated math involved in many other investment strategies, hedging your investments is a simple way to help you reduce your risk and increase your chances of realizing profits.
Leverage: Potential For Greater Returns With Futures
During a Bear Market, profit can often be hard to come by. However, when trading futures using leverage, the gains (and losses) are multiplied depending on the amount of leverage you use.
If your required margin is 10% for a specific futures trade and the market trends upward, you could then see a 10x return on your profitable trade. Of course, with leverage it goes both ways, if the market were to downtrend, you would lose your initial investment completely. While not recommended for beginner traders, taking advantage of high leverage trades can significantly increase your overall profit at the cost of increased risk.
Ultimately, while investing in crypto can return incredible profits, doing everything you can to diversify, hedge, and using leverage to the best of your ability can help you become a profitable and successful trader.
If you’re looking for the best all in one exchange to trade and invest in futures, be sure to sign up for early access now on EMX.