In the financial world, there are principally two kinds of trading – spots and derivatives.

When you directly sell and buy on an exchange, you are performing spot trading. It is the traditional type of trading, e.g. using BNB to buy EDA.

On the other hand, Derivatives are financial agreements (contracts) that derive value from an underlying asset, such as a stock, cryptocurrency, fiat currency, or commodity. It is a contract between two parties based on the future price or value of an underlying asset.

While derivatives have been in existence in traditional finance for almost 100 years, crypto derivative trading began recently towards the end of 2017. It was offered on Centralized Exchanges (Cex) until recently when a few Decentralized Exchanges (Dex) joined in.

Derivatives Trading is a new way for people to invest in the Crypto Market. Virtually all exchanges offer spot trading, but not all offer derivative trading.

EdaFace Dex, a decentralized exchange of EdaFace Ecosystem, offers derivatives trading.

Access EdaFace Dex here: https://dex.edaface.com/.

(Please, note button will be activated once EdaFace Dex is in mainnet)

Key Differences Between Spot and Derivatives Trading

The differences between crypto spot trading and futures trading are as follows:

(1). Ownership

Unlike in spot trading, when you purchase a derivatives such as a futures contract, you do not own the underlying cryptocurrency. Instead, you own a contract with an agreement to buy or sell a specific cryptocurrency at a future date.

(2). Leverage

In spot trading, you only use your money (crypto or fiat) to transact. However, derivatives trading offers leverage.

For example, to buy one Bitcoin in a spot market, you will need about 65 000 dollars (as at the writing of this article). In derivatives futures trading, you can use just 1 000 dollars to place a trade for one Bitcoin. This is possible because of leveraging.

(3). Flexibility

When you purchase Eda Coin (abbreviated EDA) in a spot market, you make a profit only if the price of EDA goes up. If the price goes down, as in the bear market, you cannot make any profit, rather you can lose your money.

However, in derivatives trading, you can profit from short-term price movements regardless of direction. For instance, in futures markets, even when the price of EDA falls, you can participate in the downward move and trade along with the momentum.

Therefore, with derivatives contracts, traders can develop sophisticated trading strategies such as short-selling, arbitrage, pairs trading, etc.

Additionally, derivatives contracts are also used to hedge against downside risk and protect a portfolio from extreme price volatility. Miners and long-term hodlers often use futures contracts to protect their portfolios from unexpected risks.

(4). Liquidity

The derivatives markets offer deep liquidity with trillions in monthly volume. For example, the Bitcoin futures market sees an average monthly turnover of about 1.5 trillion dollars as of the writing of this manuscript, far greater than the Bitcoin spot markets’ trading volumes.

The robust liquidity of the derivatives market supports the process of price discovery and allows traders to transact in the market swiftly and efficiently. A liquid market is generally associated with less risk because there is always someone willing to take the other side of a given position, and traders will incur less slippage.

Generally, derivatives futures contracts offer protection against volatility and adverse price movements on their underlying asset. Also, it is a proxy tool for traders to speculate on the future prices of a specific cryptocurrency.

With derivatives contracts, you can take advantage of price volatility. Regardless of whether prices rise or fall, derivatives contracts enable you to participate in a cryptocurrency’s movements with ease.

In other words, you can speculate on a cryptocurrency’s price rather than buying the underlying asset itself.

(5). Price

The price of a cryptocurrency on the spot market is the ruling price for all spot transactions, and this is known as the spot price. Buyers and sellers determine crypto spot prices through an economic process of supply and demand.

In contrast, the futures price is based on its prevailing spot price plus the cost of carry during the interim before delivery. The basis represents the cost (value) of carry-of a futures contract.

Thus, the futures price is derivative, that is, derived from the value of the crypto. Therefore, the futures market is a form of a derivatives market.

The basis, which is the cost of carry-of a futures contract, can be a positive or negative number. A positive basis relationship means that the futures price trades higher than its spot price, and vice versa.

The basis may fluctuate due to changes in supply and demand, but due to the forces of arbitrage, it will eventually go to zero on the expiration day.

(6). Profitability

In summary, you can see that there are more profits to be made in derivatives trading than in spot trading, which is the traditional trading that many of us are aware of.

However, your profitability in derivatives trading comes with a sacrifice – to study and know how it operates.

This is the reason why the School of Cryptocurrencies of EdaFace Academy has developed a lot of study materials for your education on derivatives trading.

Visit the School of Cryptocurrencies of EdaFace Academy by clicking here: https://school.edaface.com/.