Crypto Future Trading Explained
An Overview of Crypto Future Trading: Everything Pro-Traders Must Know
In 2024, the global cryptocurrency market size surpassed a whopping $2.8 trillion and crypto futures trading made up an important part of that volume. Knowing crypto futures will be necessary as more traders look for tools to navigate this volatile market.
It goes into the nuts and bolts of crypto futures trading, which will also offer a deeper understanding of this powerful financial derivative.
Explanation of Crypto Future Trading
A crypto futures contract is set at an agreed price to buy or sell some asset like Bitcoin or Ethereum at a future date. When you trade cryptocurrency, these contracts help you to hedge the risk of sudden price changes in cryptocurrencies for both the traders and investors. Institutions, cryptocurrency fans, and organizations that wish to hedge price volatility account for most of the capital use cases.
Historically, futures have been used in traditional markets, such as commodities (e.g., farmers locking in prices for their crops many months before the harvest) to provide liquidity and price discovery. Now, this idea is extended to a financial market as well, in our case, the crypto world is established by the similar idea.
Such as a bitcoin futures contract can help a trader ensure today that they buy something in several months and pay the price of today, not the future one. That is an approach that was necessary for risk management from the time when futures contracts were first created (in agricultural markets, like corn or wheat).
How Crypto Future Trading Works?
Bitcoin futures trading, allows the traders to speculate on the future price of BTC without owning the crypto asset. A futures contract is a contract to purchase or sell a specified amount of Bitcoin on a fixed date in the future at an agreed price. Summary: You can trade Bitcoin futures and choose to take a long (up) position or short (down) position.
There are two types of positions, a trader can be able to take:
1. Long Position (Buy)
2. Short Position (Sell)
Long Position Example (Betting Price Goes Up)
Let’s assume the following:
- Current Bitcoin Price: $50,000 USD per BTC
- Contract Size: 1 BTC
- Leverage: 10x (you can trade with 10 times your capital)
- Margin (your initial capital): $5,000 USD (with 10x leverage, you control 1 BTC, worth $50,000)
Scenario:
You believe the price of Bitcoin will increase, so you take a long position (buying futures contract).
- Entry Price: $50,000 USD
- Contract Size: 1 BTC
- Total Value of the Position: $50,000 USD
- Leverage: 10x (meaning you only put down 1/10th of the total value, or $5,000 USD)
If Bitcoin Price Rises:
- Bitcoin Price Increases to $55,000 USD
- Profit Calculation: You bought at $50,000 and now it’s $55,000. The difference is $55,000 – $50,000 = $5,000 USD.
- Your Profit: Since you control 1 BTC, you make a profit of $5,000 USD
Because you used 10x leverage, this $5,000 profit is a 100% return on your initial margin of $5,000 USD.
If Bitcoin Price Drops:
- Bitcoin Price Drops to $45,000 USD
- Loss Calculation: You bought at $50,000 and now it’s $45,000. The difference is $50,000 – $45,000 = $5,000 USD.
- Your Loss: Since you control 1 BTC, you lose $5,000 USD.
Liquidation Risk: If Bitcoin continues to fall, and the loss approaches the initial margin ($5,000), the exchanger (Coinbase, Binance, Bybit etc…) will issue a margin call. The overall position could be liquidated. Fund could be zero unless the trader deposits more USDT into his account.
Short Position Example (Betting Price Goes Down)
Let’s assume the same starting situation:
- Current Bitcoin Price: $50,000 per BTC
- Contract Size: 1 BTC
- Leverage: 10x
- Margin: $5,000 USD
Scenario:
You believe the price of Bitcoin will fall, so you take a short position (selling futures contract).
- Entry Price: $50,000 USD
- Contract Size: 1 BTC
- Total Value of the Position: $50,000 USD
- Leverage: 10x
If Bitcoin Price Drops:
- Bitcoin Price Drops to $45,000 USD
- Profit Calculation: You sold at $50,000 and now it’s $45,000. The difference is $50,000 – $45,000 = $5,000 USD
- Your Profit: Since you control 1 BTC, you make a profit of $5,000 USD.
Again, because of 10x leverage, this $5,000 profit is a 100% return on your initial margin of $5,000 USD.
If Bitcoin Price Rises:
- Bitcoin Price Rises to $55,000 USD
- Loss Calculation: You sold at $50,000 and now it’s $55,000. The difference is $55,000 – $50,000 = $5,000 USD.
- Your Loss: Since you control 1 BTC, you lose $5,000 USD, which is the amount you initially put up.
Liquidation Risk: If Bitcoin keeps increasing in price and the loss is getting close to our initial margin ($5,000 USD), the exchanger (Coinbase, Binance, Bybit etc…) will send a margin call. It could have closed out the entire position. The fund can be zero, unless the trader deposits more USDT into his account.
For that reason, a trader has to worry about the liquidation range of the future trade…
Overall Summary
- Long Position: You profit if Bitcoin’s price rises.
Entry: $50,000 → Exit: $55,000 → Profit: $5,000 USD
- Short Position: You profit if Bitcoin’s price drops.
Entry: $50,000 → Exit: $45,000 → Profit: $5,000 USD
The leverage allows you to control a larger position with less capital, amplifying both potential profits and losses.
Key Components of Crypto Future Trading
To understand the facts of crypto future trading, a trader must know some basic/key components of Crypto Future Contract:
Underlying Asset and Contract Size
In simple terms, a crypto futures contract specifies a purchase or sale of a digital asset (e.g., Bitcoin, Ethereum) at a future date. The amount of the asset in each contract is called the “contract size.
Such as:
One Bitcoin futures contract could be for five bitcoins, for example. That means each contract you trade is the equivalent of buying or selling 5 Bitcoins in the cash market. The contract size can be different for Ethereum or other coins. Understand that the contract size leads to understanding how much of the asset you are trading.
Settlement Procedure
Crypto futures settle in two ways: 1. physical delivery or 2. cash settlement.
- Among them is physical delivery — a rare thing in crypto where the cryptocurrency changes hands when the contract ends.
- Cash settlement (more common): No crypto is exchanged. But actually, the profit or loss will be converted into fiat money (dollars), so that the traders will not have to worry about handling the cryptocurrency.
Such as:
For example, you purchase a fixed price Bitcoin futures contract at $60,000 and its settlement date is when the price of Bitcoin hits $65,000 USD. As you are cash-settled, you make $5,000 USD in real cash and do not deal with bitcoins. However, had the price gone lower, you would be obligated to pay for the differences.
Direct difference from a settled futures contract is that the $5,000 USDprofit would be sent to you in cash without any real bitcoins being bought or sold. If the price of Bitcoin dropped below $60,000, you would have been at a loss and had to make up the difference.
Leverage
It empowers you to trade a bigger position than what is possible for your investment capital, through borrowing. It increases both profit and losses that have the potential to be made.
Example:
For example, if you would like to trade Bitcoin futures valued at $100,000 but only have $10,000 USD of your own capital, then with 10x leverage you could! So with $10,000, you only have to put up 10% of the price of the $100,000 USD position.
- If you sell when the price of Bitcoin goes up by 10%, you would make $10,000, double your money.
- But observe what happens if Bitcoin price drops 10%, and you will lose 100% of your $10,000.
Summary: With leverage, traders can take larger positions with less money, but the downside is the fact that potential rewards and risks are able to be heightened by this strategy. The benefit is that profits are increased if the trade moves your way; however, losses will be mirrored.
[Leverage always boosts both gains and risks]
Price and Position Limits
Exchanges set limits to control market volatility and prevent manipulation in crypto futures trading.
- Price Limits (Limit Up/Limit Down): These are daily limits on how much a contract’s price can rise or fall. If the price moves beyond these limits (up or down by a certain percentage), trading may be paused or halted to stabilize the market.
- Position Limits: This restricts how many contracts a single trader can hold to ensure no one can control or manipulate the market by holding too many contracts.
Example:
Just imagine, Bitcoin futures have a daily limit up of 10% and a limit down of 10%. For example when Bitcoin traded at 60,000 USD per coin the limit up would be $66,000 USD (but it was never touched) and the downside is $54,000 USD. If the price touches one of these limits or the other end, trading might halt entirely to discourage further market activity.
Now, the CME has a so-called position limit of 1,000 Bitcoin futures contracts per trader (with each contract representing five bitcoins). This removed the possibility of one trader having too much power over the market, in other words ensure that nobody can fix prices by accumulating and holding too many contracts. The exchange will only block your order if you try to purchase more than the limit.
Notional Value
The total value of the future is measured by its notional value and this refers to the hypothetical portion of underlying assets, which is specified in contracts.
Futures contract size — This is calculated by multiplying the contact size (amount of the asset in one futures contract) to the present futures price. The notional value serves to show the total financial exposure a trader has with their futures positions
This is significant because, while you only have to pay a portion of the full notional value upfront (which we call margin or deposit), the gain/loss is calculated over the entire notional value.
Example:
Let’s say you’re trading Bitcoin futures, and each contract represents 5 Bitcoins (this is the contract size). If Bitcoin is currently trading at $60,000 USD per coin, the notional value of one Bitcoin futures contract would be:
- Notional value = Contract size × Price
- Notional value = 5 Bitcoins × $60,000 = $300,000 USD
This means that even though you’re only trading one contract, you are essentially exposed to $300,000 USD worth of Bitcoin. Understanding the notional value helps traders gauge the actual size of their investment or risk in the market.
Minimum Price Fluctuation (Tick Size)
A Tick is the smallest price change a futures contract is able to make. So, in simple terms, it is the smallest fluctuation you will typically see in trading. The tick size for each futures contract refers to the specific dollar amount. What a tick does is allow traders to figure out the profit or loss they earned as the contract price shifts.
Example:
Let’s say you’re trading a Bitcoin futures contract, where:
- The tick size is $5 (minimum price movement).
- The contract size is 5 Bitcoins.
To find the dollar value of one tick, you multiply the tick size by the contract size:
- Value of one tick = $5 × 5 Bitcoins = $25 USD.
This means every time the price of the contract moves by one tick, the value of your position changes by $25.
Realistic Example:
Now let’s look at a complete trade. Assume you buy a Bitcoin futures contract at $26,000, and the price rises to $30,000. The price has increased by $4,000 USD.
To figure out how many ticks this movement represents:
- Divide the total price movement by the tick size: $4,000 ÷ $5 = 800 ticks.
Now, to calculate your profit, multiply the number of ticks by the dollar value per tick:
- Profit = 800 ticks × $25 = $20,000 USD.
In this case, the $4,000 rise in Bitcoin price resulted in a $20,000 USD profit for you because of the tick movements in the futures contract.
Profit and Loss Calculation
Crypto futures trading involves complex profit and loss (P&L) calculations. The P&L from a contract is determined by the number of ticks the price has moved since the contract was purchased.
Example:
Imagine you bought a Bitcoin futures contract when Bitcoin was trading at $26,000. The tick size for Bitcoin futures is $5, and the contract size is 5 Bitcoins. So, each tick is worth:
- Tick value = $5 (tick size) × 5 Bitcoins (contract size) = $25 USD per tick.
Now, let’s say the price of Bitcoin rises from $26,000 to $30,000. The total price change is:
- Price movement = $30,000 – $26,000 = $4,000 USD.
To determine how many ticks this price movement represents, divide the price change by the tick size:
- Number of ticks = $4,000 ÷ $5 = 800 ticks.
To calculate your profit, multiply the number of ticks by the tick value:
- Profit = 800 ticks × $25 (tick value) = $20,000.
So, because the price of Bitcoin rose by $4,000 (or 800 ticks), your profit on that single futures contract would be $20,000 USD.
Purposes of Crypto Future Trading
Crypto futures trading is primarily used for hedging, speculation, and arbitrage. Each of these strategies comes with distinct goals and risks:
- Hedging
Hedging is the strategy used to safeguard against changes in prices by fixing the prices using futures contracts. It helps to mitigate the risk of losing money if prices change unexpectedly. While a perfect hedge (elimination of risk) is arguably impossible, a hedge can be used to limit the amount of any potential loss.
To hedge a trade, first identify the risk (e.g. Falling prices for Bitcoin) Pick a futures contract which corresponds with the asset you want to hedge. If you think that the price will drop, then do not worry at all just take a short position by selling a futures contract. BUY: A long position if prices continue to rise, so you will buy a contract. Complete the exchange and watch for market developments.
Example:
Imagine you own Bitcoin (BTC) and worry the price might drop. To protect yourself, you enter a futures contract to sell Bitcoin at $30,000 in three months.
- If the price drops to $25,000, you’re protected because you can still sell at the agreed $30,000 through the futures contract. This helps offset your loss in the market.
- If Bitcoin’s price rises to $35,000, you miss out on extra profit since you have to sell at $30,000. But you’ve avoided the risk of a price drop.
This way, the futures contract helps you hedge against potential losses in Bitcoin trading.
- Speculation
The basis of the operation of this market is speculation, that is to say make operations seeking trends in the market. Futures contracts are used by traders to make a directional bet on the price of an asset. When you predict that the price may go upwards, you can buy a futures contract and “go long” if that happens. For example, if they think prices will fall, they can “go short” by selling a futures contract. The main advantage of futures over simply purchasing the asset is that they offer the ability to leverage your position and thus control a larger position with significantly less capital This type of transaction — where leverage is being played with — behaves a bit like flipping the order book during liquidation events, ieLeverage can both magnify returns and losses.
While the trader is only required to put down a fraction of the total value of the contract – known as putting up margin – he or she controls the entire worth of that gold futures contract with leverage. These transactions are leveraged, so more capital is required for less. leverage means greater price exposure, even small prices in basis points can lead to much larger gains or losses.
Example:
Let’s say a trader buys a futures contract on a stock with a contract multiplier of 1,000, meaning each contract controls 1,000 units of the stock. The contract requires an initial margin of $5,000, and the price of the stock is $80 per unit. The total value of the contract is:
- Total contract value = $80 × 1,000 = $80,000
But the trader only needs to put up $5,000 as margin, giving them leverage of:
- Leverage = $80,000 ÷ $5,000 = 16 times.
Now, if the stock price increases by 10%, the price per unit rises from $80 to $88. The total gain on the contract would be:
- Gain = ($88 – $80) × 1,000 = $8,000
With a margin of $5,000, the trader’s gain is 160% (because $8,000 ÷ $5,000 = 160%).
However, if the price drops by 10% (from $80 to $72), the trader would lose:
- Loss = ($80 – $72) × 1,000 = $8,000
In this case, the trader loses 160% of their initial margin. This shows how leverage can magnify both profits and losses in speculative futures trading.
In summary, while leverage in futures trading allows traders to potentially make large gains with a small initial investment, it also exposes them to the risk of amplified losses if the market moves against them.
- Arbitrage
Arbitrage is a strategy where traders take advantage of price differences between two or more markets for the same asset. The goal is to profit from the price gap by buying low in one market and selling high in another, often at the same time. Arbitrage opportunities usually exist for only a short period because market forces eventually eliminate the price differences as traders exploit them.
Example:
Let’s say Bitcoin is trading at different prices on two exchanges:
- On Exchange A (spot market), Bitcoin is selling for $30,000
- On Exchange B (futures market), Bitcoin futures are priced lower at $29,800
An arbitrage trader notices this price difference and sees an opportunity to make a risk-free profit. They could:
- Buy the Bitcoin futures contract on Exchange B at $29,800
- Sell Bitcoin on the spot market of Exchange A at $30,000
The trader profits from the price difference:
- Profit = $30,000 (spot market sell price) – $29,800 (futures contract buy price) = $200 USD per Bitcoin.
By exploiting this price discrepancy, the trader earns $200 USD for each Bitcoin involved in the trade, essentially locking in a risk-free gain.
Managing Crypto Futures Contract Expiration
Every crypto futures contract comes with a specific expiration date, requiring traders to manage their positions effectively. Here are three common strategies:
Offsetting or Liquidating the Position
The vast majority of those who trade in the futures markets just play with the price on some day called expiration day upon which delivery is made (deliveries are rarely actually made). Instead, they close the trade early by offsetting their position or simply getting out of the trade. When traders close their trades, they may offset a contract by taking an equal and opposite position to the original trade. This is simply a way of closing out the trade; once both positions are added together, the correct profit or loss can be calculated.
In other words, if you originally took a long position in futures contracts, then sell the same number of contracts (go short) to hedge your trade. Conversely, if you had sold this number of contracts previously (short position), you would now purchase the same number of contracts to hedge and cancel out your exposure.
Example:
Let’s say a trader sells (shorts) two Bitcoin futures contracts expiring in June because they expect the price of Bitcoin to fall. Later, the trader wants to exit the trade before the expiration date. To offset their position, they would need to buy two Bitcoin futures contracts that expire on the same date in June. This effectively neutralizes the original short position.
- Original Trade: Sold 2 Bitcoin futures contracts (short)
- Offsetting Trade: Bought 2 Bitcoin futures contracts (long)
The difference between the price at which the trader sold and the price at which they bought back the contracts determines whether they made a profit or a loss:
- If the price went down (as the trader expected), they bought the futures contracts at a lower price than they sold them, resulting in a profit.
- If the price went up, they would buy the contracts at a higher price, leading to a loss.
In summary:
- Offsetting is a way to exit a futures trade by taking the opposite position, closing the trade before expiration.
- The difference between the entry price and the offset price determines profit or loss.
- Most futures contracts don’t lead to actual delivery; instead, they are offset to avoid the hassle and cost of delivery.
Rolling Over the Contract
The question of how to roll over a contract Your futures contract is about to expire, and you want to maintain your exposure to the market. Which means they close (offset) their current position in the near expiry and at the same time, open a new one in an expiry further away from the current date. By rolling into the new contract, the trader still has market exposure without allowing the original contract to expire and settle.
A benefit of rolling over a contract is that, for instance, it allows the trader to continue believing in his market position without actually having to deal with delivery or expiration process. They keep their investment in the market for a longer time by rolling over, so they do not have to worry about a contract expiring.
Example:
Let’s say a trader has taken a long position (bought) in two Bitcoin futures contracts that are set to expire in March. As the expiration date approaches, the trader wants to stay invested in Bitcoin but avoid contract expiration. To do this, they can roll over their position:
- Offset the current position: The trader sells their two March Bitcoin futures contracts, closing out their position in the soon-to-expire contracts.
- Open a new position: At the same time, the trader buys two new Bitcoin futures contracts, but this time with a later expiration date, such as May or beyond.
- Original Trade: Bought 2 Bitcoin futures contracts expiring in March.
- Roll Over Action: Sold 2 March contracts and bought 2 May contracts.
This process allows the trader to extend their exposure to Bitcoin beyond March without closing their overall position in the market. By rolling over, they avoid contract expiration but remain invested.
In Simple Terms: Rolling over is like switching from an expiring contract to a new one with a later date to stay in the market longer. It’s common among traders who want to maintain their market exposure without having the contract settle or expire.
Settling the Contract
If you let a futures contract expire without closing or rolling it, that contract enters settlement. In physical settlement, the short seller supplies the existing cryptocurrency, whereas in cash settlement, they pay or receive a cash difference.
To avoid having to move the actual cryptocurrency (e.g., how would a centralized exchange handle 100 bitcoins?) Most crypto futures are cash settled.
Let’s talk about ‘Market Manipulation’
Trading future is not as easy as it seems to be. There is a core mechanism, which controls the future market.
And that core mechanism is ‘Market Manipulation’.
The future market is controlled/driven by the brokers or exchangers. Market can be manipulated by them (Brokers/Exchangers) to make the majority of the retail traders being completely ‘rekt’ or ‘liquidated’.
You may have heard of this utterance, “The house Always Wins”. Normally, this phrase is used mostly in the term ‘Casinos’.
But, it applies in the term of ‘Future Trading’ too. Because, when you trade future, you are not buying or selling any real commodities or assets. Technically, you are just predicting the market and marking your position according to your technical and fundamental analysis, choosing Buy/Sell or Long/Short based on the current market scenario.
The exchanger is lending you more funds ‘based on your investment’, for accelerating your chance of getting profit or loss equally.
Simply, two things will happen here. Either, you make a handsome profit, by using high leverage (the borrowed money). Neither, you will lose all of your funds/a vast portion of your funds, if the market goes against you. Cause, when you are taking the leverage (borrowed money) from the exchanger, it will be applied not only when you are making profit but also, when you are in loss or your portfolio is negative.
The leverage is applied ‘parallelly’ in both Profit and Loss.
When a trader got liquidated, the exchanger get benefited from it. That’s why market manipulation is ‘usual’ in the future market.
Crypto market is not fully regulated yet. When this market will be brought under proper regulation, we can expect a less manipulative market than before.
The Risks and Rewards of Crypto Futures Trading
Crypto futures trading offers the potential for significant profits, but it also comes with substantial risks. One key factor that makes futures trading both exciting and dangerous is leverage, which allows traders to control large positions with only a small initial investment. While this can magnify profits if the market moves in the trader’s favor, it can also greatly increase losses if the market moves against them.
The same is true about Bitcoin and most cryptocurrency tokens, which regularly experience eye-watering liquidation events. Due to leverage and the large contract sizes, price changes even just a bit in futures trading can have significant effects. This implies that merchants can rapidly rake in (or lose) long norms of cash if the value changes, frequently dependent on insignificant moves available.
- For instance, a typical daily move in a Bitcoin futures contract could result in a $4,000 profit or loss based on an $800 price fluctuation. While these high-risk, high-reward opportunities appeal to many, they require careful planning and risk management.
With the right strategies, whether that be to hedge against market risk, leverage positions for a higher return on investment or arb out discrepancies between futures prices and spot markets, savvy traders can capitalize heavily from trading cryptocurrency futures. But, as they say: great power comes with great responsibility. In any case, even a trader should embark on an exhaustive due diligence and be aware of the fact of inevitable losses.
As we look ahead, with over 10% of global crypto trading volume driven by futures, this innovative financial instrument is set to remain a pivotal force in the world of digital assets.
