Leverage. What you need to know about Perpetual Futures & Swaps
Perpetual futures and swaps have become increasingly popular in the cryptocurrency market in recent years, as more and more traders and investors look for new ways to profit from the volatility of the crypto space. Leverage In this article, we’ll take a closer look at what perpetual futures and swaps are, how they work in the crypto market, and what makes them unique compared to other trading instruments. We’ll also explore the different types of exchanges that offer these products, including centralized and decentralized exchanges, and evaluate their security and reliability. Finally, we’ll touch on some of the risks and considerations associated with trading perpetual futures and swaps, and offer some tips for traders looking to get involved in this exciting and fast-paced market Leverage.
What are perpetual futures exactly Leverage?
Perpetual futures are a type of derivative contract that allows traders to bet on the future price of an asset Leverage without having to take possession of the underlying asset. Unlike traditional futures contracts, which have a fixed expiration date, perpetual futures have no expiry date, hence the term “perpetual.” Instead, traders can hold these positions indefinitely, or until they choose to close them.
Perpetual futures have become particularly popular in the crypto market because Leverage they allow traders to take advantage of the high volatility of cryptocurrencies, without having to worry about the logistical challenges of actually buying and storing the underlying assets. For example, one of the most popular perpetual futures products in the crypto market is the Bitcoin perpetual futures contract, Leverage which allows traders to bet on the future price of Bitcoin without having to actually own any Bitcoins.
How do swaps differ?
Swaps are another type of derivative contract that allow traders to bet on the price movements of an asset. Leverage Unlike perpetual futures, swaps are typically used for hedging purposes, rather than for speculative trading. For example, a company that holds a large amount of Bitcoin might use a swap to hedge against the risk of a sudden drop in the price of Bitcoin. In a swap, two parties agree to exchange the price movements of an underlying asset for a specified period of time Leverage.
In the crypto market, swaps have become popular among traders and investors who are looking for a way to take advantage of the volatility of cryptocurrencies without having to take on the additional risk of owning the underlying assets. For example, a trader might use a Bitcoin swap to bet on the price movements of Bitcoin, without having to actually own any Bitcoins.
What role do crypto exchanges play?
There are two main types of exchanges in the crypto market: centralized exchanges and decentralized exchanges. Centralized exchanges are the most well-known and widely used type of exchange, and they typically offer a wide range of trading products, including perpetual futures and swaps. Some of the largest and most popular centralized crypto exchanges include Binance, Coinbase, and Kraken.
Decentralized exchanges, on the other hand, are a newer type of exchange that use blockchain technology to eliminate the need for a central authority. Decentralized exchanges are often considered to be more secure and private than centralized exchanges, as they allow users to hold their own private keys and control their own assets. Some of the top decentralized exchanges include Uniswap, Curve, and SushiSwap.
One of the key differences between centralized and decentralized exchanges is the availability of perpetual futures and swaps. While centralized exchanges typically offer a wide range of these products, decentralized exchanges are still in the early stages of developing their offerings. However, the trend towards decentralized exchanges is growing, with many traders and investors looking for a more secure and private way to trade cryptocurrencies.
Trading perpetual futures and swaps can be an exciting and potentially profitable way to participate in the cryptocurrency market, but it is important to understand the risks and considerations involved. Some of the key risks include market volatility, counterparty risk, and the possibility of slippage.
Market volatility is one of the most significant risks associated with trading perpetual futures and swaps. Cryptocurrencies are known for their high levels of price volatility, which can result in large price swings in short periods of time. This can make it difficult for traders to effectively manage their positions and realize a profit.
Counterparty risk is another important consideration when trading perpetual futures and swaps. In a centralized exchange, counterparty risk refers to the risk of the exchange failing or becoming insolvent, which could result in the loss of funds. In a decentralized exchange, counterparty risk refers to the risk of a smart contract failure, which could also result in the loss of funds.
Finally, slippage is a risk that can occur when trading perpetual futures and swaps on an exchange. Slippage occurs when the price of the asset changes during the process of placing a trade, causing the trade to be executed at a different price than the one originally intended. This can result in a loss of profits or a reduction in the size of the trade.
What is liquidation and when does it occur?
In a margin trading system, traders are required to maintain a minimum level of collateral to support their positions. If the value of their collateral falls below the minimum required level, the position may be automatically liquidated to Leverage prevent further losses. This process of liquidation is known as a margin call, and it is designed to protect the trader and the exchange from excessive losses.
In the context of perpetual futures contracts, liquidation can occur if the price of the underlying asset moves in a direction Leverage that is unfavorable to the trader. When this happens, the margin balance in the trader’s account may fall below the minimum required level, triggering a liquidation event. The trader’s position will be automatically closed and the collateral used to open the position will be used to pay off any outstanding debts. The trader will receive the remaining balance, if any, after the liquidation is completed. It is important to keep this in mind when trading perpetual futures and to always maintain a sufficient margin balance to avoid unwanted liquidations Leverage.
Initial Margin vs. Maintenance Margin
The initial margin is the amount of collateral that a trader must deposit to open a position in a perpetual futures contract. The initial margin acts as a performance bond to ensure that the trader has sufficient funds to support their position and to cover any potential losses. The exact amount of initial margin required may vary depending on the exchange and the specific contract being traded.
The maintenance margin is the minimum level of collateral that must be maintained in the trader’s account to keep their position open. This level is set lower than the initial margin and is used to ensure that the trader has sufficient collateral to cover potential losses as the market moves against their position. If the value of the collateral in the trader’s account falls below the maintenance margin level, a margin call may be triggered, and the position may be liquidated to prevent further losses.
Traders should ensure that they have sufficient collateral in their accounts to meet both the initial margin requirements and the ongoing maintenance margin requirements, as failure to do so could result in unwanted liquidations.
Can you de-risk using insurance funds Leverage?
Yes! An insurance fund is a pool of funds that is set aside to provide protection to traders in the event of a market crisis or black swan event. The insurance fund acts as a safety net to ensure that traders are protected against large losses that may occur due to sudden market movements.
In the context of perpetual futures contracts, the insurance fund is used to protect traders against extreme price movements that may trigger a large number of liquidations and cause a cascade of losses. If the insurance fund is insufficient to cover the losses, the exchange may take action to reduce the risk to its traders, such as reducing the leverage available or increasing the margin requirements.
It is important to note that not all crypto exchanges have insurance funds, and the size of the insurance fund can vary greatly from Leverage one exchange to another. Traders should research the insurance fund policies of the exchanges they are considering trading on, as this information can be a critical factor in determining the overall safety and stability of the platform.
Perpetual futures and swaps are Leverage exciting and potentially profitable products that allow traders and investors to participate in the cryptocurrency market without having to actually own the underlying assets. Whether you are looking to trade on a centralized exchange or a decentralized exchange, it is important to understand the risks and considerations involved, including market volatility, counterparty risk, and the possibility of slippage. To maximize your chances of success, it is also important to choose an exchange that offers the products you are interested in, and that has a proven track record of security and reliability. Some of the largest and most popular centralized crypto exchanges include Binance, Coinbase, and Kraken, while some of the top decentralized exchanges include Uniswap, Curve, and SushiSwap.
If you’re interested in learning more about this topic, reach out to us any time at https://medium.com/@Zareh.L2 or through my email David@onchainaccounting.com.