Futures Trading Vs Margin Trading

07 December 2022 | ZebPay Trade-Desk

Intro to Margin Trading

Margin trading in the crypto markets is no different than traditional margin trading. Margin financing is viewed as a loan to trade a digital asset, where the margin is money borrowed from a broker and the difference between the full investment value and the loan amount. The assets that make up the balance of a margin trading account are used as collateral for the loan to cover credit risk and potential losses that traders may have, especially when trading with leverage. A broker or a crypto exchange may liquidate a trader’s assets if the value of the investment decreases significantly.

To trade crypto assets on margin, an investor must be authorized by the service provider to open a margin account storing crypto assets, cash or securities that can be deposited as collateral for the loan. When trading crypto on margin, leverage amplifies both profits and losses, and there may be a margin call with large losses, such as A decrease in the capital value of the Securities. A margin call allows the exchange or a broker to liquidate the investor’s collateral without consent or to request more money in your margin account to avoid forced liquidation to satisfy the broker.

A margin account is typically used for leverage trading and leverage represents the ratio of funds lent to margin. An example of margin Trade could be opening a $10,000 trade with 10:1 leverage. In this case, a trader must use $1,000 of their capital to execute the trade. These leverage ratios vary depending on the trading platform and the market being traded. For example, the stock market has a typical ratio of 2:1.

In contrast, futures contracts increase the ratio to 15:1. In crypto margin trading, where the rules are not always set like in traditional markets, the leverage ratio can range from 2:1 to 125:1. The crypto community often makes it easy to refer to the ratio as 2x, 5x, 125x, etc., which indicates the multiplied amount your investment could accumulate to.

Margin trading includes references such as long or short trades. When people go long, they are referring to a long position they have taken and predicting that the price will appreciate.

A short position is based on the assumption that the opposite will happen, and investors hold a negative position on the crypto because they believe it will fall in price. In this case, if the asset falls, the investor benefits.

The advantage of margin trading is to increase profits, but investors can also lose money. The trader’s assets are collateral for the loan and should their value fall below a set threshold, the broker reserves the right to force a sale unless the investor posts additional

funds as collateral which meet the requirements. 

Some crypto enthusiasts prefer to invest by trading futures rather than trying to buy or sell them using private keys and passwords, generally avoiding the hassles most platforms operating with crypto assets have. At the same time, they have acquired exposure to the asset. The terms of trading crypto futures are set out in a futures contract, which obliges a buyer to receive a crypto asset at its expected price on a specific date and the seller to deliver on those date’s conditions when the futures contract expires, regardless of the market price on the expiration date.

What are Futures Contracts

Futures contracts are traded on futures exchanges such as the CME Group, the largest and most recognized in the world, and are identified by their expiration month. According to the Futures Industry Association (FIA), 29 billion futures contracts were traded in 2021. Crypto futures trading is a growing part of the market and more and more people are interested in this type of investment.

CME reported an increase in the Daily Added Value (ADV) of Bitcoin(BTC) by 13% of micro-bitcoin contracts and futures traded in 2021. The benefits of futures trading primarily allow investors to hedge a crypto asset’s price movement to avoid losses from negative price changes. In hedging, investors take an opposite position to that of the underlying, so if they lose money on the underlying, they mitigate the loss through futures contracts that balance and limit their exposure to any price fluctuations.

You can lose money with futures due to the hedging element. However, losses are mitigated and can be less dramatic than with margin trading. As opposed to margin accounts, futures crypto trading requires opening a brokerage account, which must be approved by the exchange or broker.

Crypto futures trading involves ratifying a contract between a seller who wishes to lock in a price in hopes of making a profit on a specific date in the future and a buyer who wishes to trade the deal as a Security buys against payment plus the prices when the asset increases in value.

The process occurs regardless of the actual price of the asset on that future date and is regulated by futures exchanges, which must guarantee the performance of the contract on its expiry date. When trading crypto assets, futures are typically quarterly or perpetual contracts.

Futures Contracts Must Include:

  • An expiration date: if the contracts are settled under predetermined conditions
  • The value of the contract: The amount of crypto that makes up the underlying asset covered in the contract
  • Leverage: Some exchanges allow traders to borrow money to increase the size of their contract position and potential earnings
  • Settlement Type: Usually it can be done in crypto, cash or bank transfer

Margin trading and futures trading are two strategies that require good trading skills from the investor as they are considered advanced trading techniques. They are two different types of investments with a similar goal but with different ways to achieve it.

Read more: Crypto Trading Strategies

Margin Trading vs. Futures: Similarities

Opportunity: Margin trading and futures are similar investment vehicles. Its goal is to allow investors to buy more crypto assets using only their capital. Both are speculative instruments and have different approaches to achieving the same goal.

Purpose: Both can trigger amplified returns but can also cause extreme losses. It’s somehow easy to make significant quick profits, especially in the highly volatile crypto market. However, dramatic losses can also occur, so it is recommended that only experienced traders use these tools.

Read more: Crypto Investing vs Crypto Trading

Margin vs Trading Futures: Differences

Different markets: The main difference between margin trading and futures lies in the market in which they are traded. Spreads are traded in the spot market while futures are contracts traded in the derivatives market that involve future delivery of the asset. Margin trading usually has a 20% leverage, while it is common for futures to exceed 100%.

Collateral Assignment: Crypto Margin Accounts allow traders to take advantage of the spot market through a type of loan in which interest must be paid, while futures only require a bonafide deposit as collateral.

Duration: Because the spot market is perpetual, traders must determine how long they want to hold a leveraged currency. Futures, on the other hand, are contracts with an expiry date that determines how long you can hold a position.

Read more: How To Pick Crypto For Day Trading

Types of Investors

They target two types of traders to execute futures and margin trades. Margin trading is more for short-term investors, while futures are more for long-term investors.

Margin tradingFutures
MarketSpot MarketDerivatives
Leverage5- 20%100%
Collateral allocationLoan with interestGood faith Deposit
DurationUp to the traderHave an expiry date
Types of investorsShort-termLong- term

Risks Associated With Margin Trading

Crypto margin trading is riskier than standard trading due to the leverage component, which can result in the investor losing more money than what he/she originally had. Especially considering that crypto assets are highly volatile and unpredictable assets, the investor may need to provide additional funds for collateral to avoid being forced to sell.

Investors pay interest on their margin trading loan from day one, and debt increases as interest rates rise. For this reason, margin trading is suitable for short-term investments, since interest payments over a long periods reduce the chances of profit.

Risks of Futures Trading

The main risk associated with futures trading is the high leverage that investors can demand with their already speculative positions. Futures are typically allowed to be much more leveraged than their underlying assets, which means they are also subject to a higher risk of a margin call, which could inflate losses.

Together with the extreme volatility of the crypto market, the price of a futures contract may not be in the investor’s favour on the expiration date. Especially beginners with little knowledge of the markets and strategies should acquire some trading skills before venturing into margin or futures trading as they are speculative and risky investment vehicles.

Disclaimer : This report is not intended to be relied upon as advice to investors or potential investors and does not take into account the investment objectives, financial situation or needs of any investor. All investors should consider such factors in consultation with a professional advisor of their choosing when deciding if an investment is appropriate. The Company has prepared this report based on information available to it, including information derived from public sources that have not been independently verified. No representation or warranty, express or implied, is provided in relation to the fairness, accuracy, correctness, completeness or reliability of the information, opinions or conclusions expressed herein. This report is preliminary and subject to change; the Company undertakes no obligation to update or revise the reports to reflect events or circumstances that arise after the date made or to reflect the occurrence of unanticipated events. Trading & Investments in crypto assets viz. Bitcoin, Bitcoin Cash, Ethereum etc. are very speculative and are subject to market risks. The analysis by Author is for informational purposes only and should not be treated as investment advice.

Disclaimer: Crypto products and NFTs are unregulated and can be highly risky. There may be no regulatory recourse for any loss from such transactions. Each investor must do his/her own research or seek independent advice if necessary before initiating any transactions in crypto products and NFTs. The views, thoughts, and opinions expressed in the article belong solely to the author, and not to ZebPay or the author’s employer or other groups or individuals. ZebPay shall not be held liable for any acts or omissions, or losses incurred by the investors. ZebPay has not received any compensation in cash or kind for the above article and the article is provided “as is”, with no guarantee of completeness, accuracy, timeliness or of the results obtained from the use of this information.

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