Over the past decade, Bitcoin (BTC) has experienced a meteoric rise in popularity. However, many investors remain skeptical due to its decentralized nature, questionable security, unclear regulation, and extreme volatility.
With the launch of Bitcoin futures contracts in October 2017, CME Group, the world’s largest derivatives marketplace, took Bitcoin a significant step toward legitimacy.
ProShares made history again by launching a Bitcoin ETF based on futures contracts, the first crypto exchange-traded fund to gain regulatory approval to trade on major U.S. markets.
The bitcoin futures market offers investors a unique way to speculate in the crypto market and hedge their crypto holdings. Before diving into Crypto Futures Trading, we’ll explain how they work and the dangers they pose.
Bitcoin Futures: What Are They?
In futures, two parties agree to exchange assets – or cash equivalents – at a predetermined price in the future.
The purpose of investing in Bitcoin futures contracts is to speculate about the future price of BTC. In essence, two parties make a bet: one believes BTC will go up in price in the future, and the other bets BTC will fall in price. The person who gets it wrong pays the other party a cash settlement.
A variety of futures contracts are available for currencies, stock indexes, and commodities, and the Commodity Futures Trading Commission (CTFC) considers Bitcoin to be a commodity, which is why Bitcoin futures are commodities.
On the Chicago Mercantile Exchange (CME), Bitcoin futures contracts are traded for cash settlement every month.
As well as offering monthly BTC futures contracts for six months, CME Group also offers quarterly contracts for each of the four upcoming quarters.
Monthly futures contracts expire on the last Friday of every month. Each futures contract represents 5 BTC.
Front-Month Bitcoin Futures
The short-term futures contracts for Bitcoin have the closest expiration date. They are also known as front-month futures contracts.
Typically, front-month futures contracts trade closest to Bitcoin’s spot price, and they can either trade above or below the spot price, depending on whether the market believes Bitcoin’s price is likely to rise or fall.
It is the spot price of Bitcoin on cryptocurrency exchanges that is considered to be the price of Bitcoin.
It is common for front-month futures to trade higher than their current spot prices, a condition known as contango. Contango indicates market expectations that asset prices will rise in the near future.
Moreover, backwardation indicates that asset prices are expected to decline in the near future.
Bitcoin Futures Trading: How to Do It?
There is inherent leverage in the Bitcoin futures market because each contract represents 5 BTC.
This leverage is often used by Bitcoin futures traders to speculate on short-term swings in the market in order to generate large returns on relatively small initial investments.
A small number of Bitcoin futures contracts can also be used as an insurance policy against a crash in the Bitcoin market by investors with large Bitcoin investments.
According to Bobby Ong, chief investment officer and co-founder of CoinGecko, Bitcoin futures are suitable for both short- and long-term investors.
Because Bitcoin and cryptocurrencies are volatile, short-term traders may take advantage of Bitcoin futures when volatility spikes,” Ong says.
It may also be beneficial to long-term investors to use Bitcoin futures contracts for speculative or hedging purposes.
Futures and ETFs of bitcoin
In the past, the Securities and Exchange Commission (SEC) and other regulators have been extremely cautious about Bitcoin and other cryptocurrencies.
In order to list on a major U.S. exchange, a Bitcoin spot ETF has yet to be approved by the Securities and Exchange Commission.
In 2021, however, the SEC approved the first Bitcoin futures ETF, the ProShares Bitcoin Strategy ETF (BITO), to trade on the New York Stock Exchange.
As opposed to investing directly in Bitcoin, the BITO fund and other Bitcoin futures ETFs invest in a diversified basket of Bitcoin futures contracts.
Crypto futures ETFs have several advantages, according to Erik Anderson, senior digital assets research analyst at Global X ETFs.
“U.S.-listed Bitcoin futures ETFs provide investors with regulatory protections not available on crypto-native exchanges, as well as direct integration within traditional brokerage accounts, such as for tax-loss harvesting,” Anderson writes.
What are the pros and cons of investing in Bitcoin futures?
When it comes to Bitcoin futures, there are several pros and cons for investors. Futures contracts can provide investors with flexibility, leverage and the ability to hedging risks.
Futures trading losses can add up quickly if the market takes a bad turn, but leverage can be a double-edged sword for investors.
Traders who fail to maintain minimum margin requirements in their accounts may be forced to liquidate their positions at the worst possible time if they encounter margin calls. Furthermore, Bitcoin Futures Trading must pay exchange fees, which can affect their trading profits.
According to Ryan Cullen, CEO of Cullen Cioffi Capital Management, Bitcoin futures can be an important tool for crypto traders. However, traders must fully understand and manage the risks involved.
Taking advantage of short-term swings within the market is possible with futures because Bitcoin is fairly volatile.
Nevertheless, he cautions investors that Bitcoin futures are highly speculative. “Futures offer a tremendous amount of leverage, which can result in oversized positions that turn out to be worth very little or nothing.”
