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Pros and Cons of Cryptocurrency-Based Derivatives

cryptocurrency derivatives

Throughout the past two years, cryptocurrency derivatives had continued to grow, enabling more funds flows into the market. Despite some advantages in using them, there are some downsides as well, and in case you are interested in using them as a tool to gain crypto exposure, this article will talk briefly about some of the things you need to take into consideration.

Favoring institutional investments

Starting with the advantages, it is important to note that because of cryptocurrency derivatives, more money had been entering the market, favoring the rise of valuations. At the same time, this could mean more opportunities in the second quarter of 2020 and beyond, because volatility is expected to remain elevated. Institutional investors are pretty active in futures contracts or options based on crypto, and that also has to do with another critical factor – regulation.

 Dealing with regulated instruments

If cryptocurrency exchange platforms can still get away from regulatory oversight, that does not apply to derivatives exchanges like CME or BitMEX. These are authorized and registered entities, with years of experience in providing quality services for customers. At the same time, cryptocurrency trading brokers are showing up, some of them already-established brands.

Futures, options, and CFDs are regulated trading instruments already used to get involved with other asset classes such as stocks, bonds, and ETFs. Now that we have them in crypto, as well, it takes the market to a whole different level in terms of regulation. There’s still work to be done in terms of the regulatory framework, but with derivatives, more trust had been provided.

Aggravating price swings

As professional traders/investors, we must also consider that there are downsides involved with crypto derivatives. One of the first things standing out from critics has to do with aggravating market cycles. During a boom, with aggressive derivatives trading, valuations could overshoot, only to come crashing down once the momentum vanishes. Now don’t get us wrong, there are disadvantages of using traditional cryptocurrency exchange platforms, as well, but we have to be aware of them and make sure they don’t interfere in our performance.

Higher risk due to leverage

When we talk about derivatives, there has to be leverage in the equation. Leveraged trading may come with advantages in terms of increasing profitability when we are right, but at the same time, used excessively, it can lead to severe losses. That’s one of the main reasons why the majority of derivatives traders end up losing money. Leverage is a tool and it should be used with caution and professionalism.