Cryptocurrencies are digital assets that use blockchain technology to secure transactions and create new value. Cryptocurrencies have a lot of potential to provide profits for traders, but they also carry high risks.
Trading cryptocurrency is not easy, especially if you use derivative instruments such as futures and options.
What Are Derivatives?
Derivatives are contracts that track the price of an underlying asset, such as Bitcoin or Ether. Derivatives allow traders to increase exposure or protect their positions from unfavorable price movements. Derivatives also offer the possibility to use leverage, i.e. borrowing from the exchange to increase trading capital.
However, trading cryptocurrency derivatives also has its own challenges and difficulties. Many traders often misunderstand or lack understanding of how cryptocurrency derivatives work, especially on exchanges that are outside the scope of traditional finance. These mistakes can have fatal consequences for your trading account.
Here are three big mistakes to avoid when trading cryptocurrency derivatives:
1. Not paying attention to the price difference between spot and derivatives
The price of cryptocurrency derivatives is not always the same as the spot price, which is the price of the reference asset on regular exchanges. This price difference can be caused by several factors, such as supply and demand, transaction costs, loan interest, and market expectations.
One example of a price difference that often occurs is a discount or premium. A discount means the derivative price is lower than the spot price, while a premium means the derivative price is higher than the spot price.
Discounts or premiums can indicate bearish or bullish market sentiment, or can also be caused by other factors, such as airdrops, forks, or dividend distributions.
Traders must pay attention to these price differences because they can affect trading strategies and profitability. For example, if you buy derivatives at a discount, you can earn bigger profits if the spot price rises. However, if the spot price falls, you could experience bigger losses.
Conversely, if you buy a derivative at a premium, you can make a smaller profit if the spot price rises, but you can reduce your loss if the spot price falls.
2. Not managing margins well
Margin is collateral that traders must deposit to open and maintain derivative positions. Margin can be an underlying asset, such as Bitcoin or Ether, or another asset, such as a stablecoin or fiat currency.
Margin aims to protect the exchange from the risk of a trader defaulting if the price moves against their position.
Traders must manage margins well because margins can change according to price movements. This is called convexity. Convexity means that the margin value in US dollars will rise if the price of the underlying asset rises, and vice versa.
Convexity can provide advantages for traders because it can increase leverage, namely the ratio between position value and margin value. However, convexity can also cause losses for traders because it can reduce leverage.
Traders must be careful in adjusting leverage because leverage can magnify profits or losses. Leverage that is too high can make traders susceptible to liquidation, namely forced closure of positions by the exchange if the margin is insufficient.
Liquidation can wipe out a trader's entire margin and cause total losses. Leverage that is too low can make traders lose opportunities to gain bigger profits.
Traders also have to choose between cross margin or isolated margin. Cross margin means the same margin is used for multiple positions, while isolated margin means different margins are used for each position.
Cross margin can provide flexibility for traders because they can use the remaining margin to open new positions or increase existing margin. However, cross margining can also increase the risk of liquidation because all positions can be affected by price movements.
Isolated margin can provide protection for traders because it can limit losses to only certain positions. However, isolated margins can also reduce profit potential because they require larger margins.
3. Not understanding how options work
An option is a type of derivative that gives the buyer the right, not the obligation, to buy or sell an underlying asset at a specified price and time. Options can be used for various purposes, such as speculation, hedging, or arbitrage.
Options have two types, namely call and put. Call is an option to buy the reference asset, while put is an option to sell the reference asset.
Traders must understand how options work because options have different characteristics from other derivatives, such as futures. Options have intrinsic value and extrinsic value.
Intrinsic value is the difference between the price of the underlying asset and the strike price of the option, if the option is profitable. Extrinsic value is the difference between the option price and the intrinsic value, which reflects other factors, such as volatility, time, and interest.
Traders must pay attention to intrinsic value and extrinsic value because they can affect the option price. Intrinsic value can rise or fall according to price movements of the reference asset, while extrinsic value can decrease over time.
Traders should also pay attention to other factors that influence option prices, such as delta, gamma, theta, vega, and rho. These factors are called Greek terms, and measure the sensitivity of the option price to changes in related variables.
Traders should be careful when buying or selling options because options carry high risk. The option buyer can lose the entire premium paid if the option is unprofitable or expires.
Option sellers can face unlimited losses if the price of the underlying asset moves against their position. Traders should also consider transaction costs, liquidity, and market volatility when trading options.
Conclusion
Trading cryptocurrency derivatives is a challenging and exciting activity, but also risky. Traders must avoid major mistakes that can harm their trading accounts, such as not paying attention to price differences between spot and derivatives, not managing margins well, and not understanding how options work.
Traders must study and practice continuously to improve their knowledge and skills in trading cryptocurrency derivatives. Traders must also always be careful and responsible in making trading decisions.
How To Buy Crypto With Bittime
You can buy and sell crypto assets in an easy and safe way via Bittime . Bittime is one of the best crypto applications in Indonesia which is officially registered with Bappbeti.
To be able to buy crypto assets on Bittime , make sure you have registered and completed identity verification. Apart from that, also make sure that you have sufficient balance by depositing some funds into your wallet . For your information, the minimum purchase of assets on Bittime is IDR 10,000. After that, you can purchase crypto assets in the application.
Monitor price chart movements of Bitcoin (BTC) , Ethereum (ETH ), Solana (SOL) and other cryptos to find out today's crypto market trends in real-time on Bittime.
Read also:
What's that Arbitrage Trading?
DISCLAIMER: This article is informational in nature and is not an offer or invitation to sell or buy any crypto assets. Trading crypto assets is a high-risk activity. Crypto asset prices are volatile, where prices can change significantly from time to time and Bittime is not responsible for changes in fluctuations in crypto asset exchange rates.
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