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What are Crypto Derivatives? | ZebPay

Crypto derivatives are financial instruments in the form of a contract that allow the selling or buying of services at a pre-specified date and price. Users can use derivatives to exploit arbitrage opportunities and hedge risks. With the recent rise of the crypto industry, we have seen a huge increase in the use of complex financial instruments in the market. With these recent developments, traders and investors have also started using crypto derivatives. Let’s dive into what they are! What are Crypto Derivatives? Derivatives are contracts based on tracking an underlying asset. These assets can be stocks, commodities, currencies, bonds, etc. When we talk about crypto derivatives, there is not much difference regarding the core functions. Users use crypto derivatives at maturity or before while tracking an underlying asset. In general, derivatives have a intrinsic value (this is the price at which they are traded in the market). Traders and investors use crypto derivatives to hedge their returns or risks associated with a specific asset. Buyers and sellers’ expectations about the future price of the underlying asset determine the market movements of these assets. In the current market, the major crypto derivative exchanges are Binance, OKEx, Huobi, FTX and Bybit. The Crypto Derivatives Market Currently, the crypto derivatives market is booming and creating tremendous value. According to Tokeninsight’s Industry Report, the market’s trading volume for the third quarter of 2020 was $2.7 trillion. The market is up 25.1% since the previous quarter. Not only that, the crypto derivatives market is up about 159.4% year over year. Types of Crypto Derivatives In general, crypto derivatives are financial instruments that can be created by major financial banks and offered to the market. The general types of crypto derivatives are: Futures: It is a financial instrument (like a contract) that allows you to buy or sell an underlying asset on a specific date and price. Users are obliged to fulfill the agreement on the expiry date. Options: Options allow you to buy or sell an underlying asset on a specific date and price, but they are not required to do so. Perpetual contracts: They are similar to futures and options, but without an expiration date and settlement date. Swaps: These are contracts that allow two parties to exchange assets on a specific date with a predetermined formula. What are the pluses? Low transaction costs: Derivatives are risk management tools and help reduce transaction costs in the market. Used in risk management: People use derivatives to mitigate the risks associated with fluctuating underlying asset prices. Market efficiency: Derivatives enable arbitrage opportunities and allow the market to works efficiently while maintaining market equilibrium. What are the disadvantages? High Risk: Derivatives are extremely volatile in the crypto market because the underlying assets fluctuate widely. Therefore, there are many risks associated with trading derivatives. Speculative: People use derivatives to speculate and therefore carry great risks, which in turn can cause huge losses. Despite the pros and cons of trading derivatives, they provide a great way to hedge, speculate and make money.
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