Derivatives are a professional trading product that can boost the amount of profits that are possible from a successful position considerably, and often do so with less capital on the line due to related tools such as leverage. Derivatives enable the ability to profit from both directions the market trends, either up or down, with long and short positions.
This is in stark contrast to spot positions, which only let investors profit when markets are increasing in price. To prevent against loss, one must sell their positions, leaving no way to actually profit when markets are falling.
Derivatives can even be a way for investors to hedge spot positions by shorting the asset they hold at key resistance levels. If the asset is rejected at resistance, their spot held assets would drop in price, but the profits from the hedge short would cover the losses related to the spot position.
It is this versatility that cause many market participants to look toward derivatives of all kinds as a way to speculate over future price action, Here are the three most popular types of derivatives explained.
The Three Most Popular Types Of Derivatives
As the crypto market grows, traders are becoming more sophisticated and seeking more experiences beyond just holding. Innovative new experiences have emerged such as DeFi and Covesting copy trading, but the most common way investors make the jump into trading is with the following derivatives: Futures, Options, and CFDs.
Each type offers a variety of pros and cons, but one of the three stands out for the flexibility that traders need for the most consistent success.
Futures are the trading contract equivalent of looking into a crystal ball and trying to guess the price of an asset at a future date. This type of derivatives contract requires a buyer or seller to settle the contract on or before a future date.
Futures let traders speculate on future price action. If they are correct, they book profits. If they are wrong, they suffer losses. Losses with futures can be dramatic so proper risk management is necessary. With futures, traders can go long or short on a trading instrument.
This type of product is usually reserved for institutional traders who must meet certain requirements set by financial regulators to ensure the safety of all participants. Futures are tied to a time period called an expiry, which is a deadline at which the contract must be settled. Some types of futures allow contracts to be settled before the expiry.
Options are another type of leading trading contract that also lets traders speculate on future price action leading up to a future date or expiry. Except with options, there is no obligation to settle the contract on or before the date like futures. Traders therefore have the “option” to settle, hence the name of the derivative contract.
Options differ from futures in another way. In exchange for the lack of a requirement to settle, traders must pay a high premium to enter an options contract. This means with options the risk is absorbed up front in fees, but there’s less risk overall compared to other types of derivatives.
CFD trading is a different beast entirely from the two above, due to the fact that there is no time period or expiry associated with this type of derivative contract. Due to this, CFDs are considered much more flexible than futures or options, and don’t command the high premium that options do, or the same regulatory requirements.
CFDs aren’t available to all, but for those that they are available to, they can be a powerful tool to get the most out of markets. With CFDs, traders can go long or short at any time, even both positions at the same time.
CFDs stand for contracts for difference, which speaks to how profits or losses are determined by the difference in price from the time the contract is opened until the contract is closed. This lends well to various types of trading strategies, from scalp and day trading to higher time frame swing trading.
What Types Of Platforms Offer These Products?
Futures have become highly popularized in Bitcoin and crypto due to the Chicago Mercantile Exchange also known as CME. CME is for institutional and high wealth traders only, and operates Monday through Friday. The breakaway “gaps” left on charts over the weekends are often used as potential targets that get “filled” during the following week.
Options are most popular on Deribit, which is regularly releasing new contracts at later expiration dates, each with an increasingly higher strike price. These strike prices can help to predict spot prices, as markets often gravitate toward the strike price of an asset’s options contract.
For CFDs, there is PrimeXBT, which has several industry awards related to its offering. The flexibility of CFDs isn’t just a benefit to traders alone – it benefits the broker also. For example, the versatility of CFDs lets PrimeXBT offer forex, crypto, stock indices, and commodities under one roof.
Which Type Of Trading Instrument Is Best?
Several alternatives exist for each type of derivatives contracts if any of the above mentioned platforms don’t quite suit your needs. In terms of which of the three types of derivatives are best, the answer is clear. Only one type isn’t tied to specific dates and lets traders have more control over their strategies, and therefore creates more opportunities overall.
Trying all types of trading can also benefit those that have yet to experience each before they make a decision. If that is the goal, only start with a small deposit on each platform and see which tools best suit your personal style and profit goals. In no time the answer will reveal itself by process of elimination, and by which type has led to the most booked profits per position – which is what trading profitably and growing capital effectively is all about.
Whichever you do ultimately choose, be certain to apply proper risk management strategies and before entering any positions, ensure that plenty of research and technical analysis is done. Some of the platforms mentioned above, such as PrimeXBT, also offer such tools built in.