The cryptocurrency sector is in a bull market with frequent testimonials from anonymous traders who post five, six and seven digit investment returns in the form of screenshots to Crypto Twitter.
This condition creates a FOMO-like condition in which everyone becomes greedy. The temptation to increase potential profits twenty times or more is often overwhelming for most beginners.
Almost every cryptocurrency exchange today offers advanced derivatives trading. To enter these markets, a trader must first deposit a security (margin), which is usually a stable currency or Bitcoin (BTC). However, unlike spot (regular) trading, a trader cannot exit a market position until it is closed.
These tools have benefits and can improve business performance. However, those who often rely on the wrong information when trading futures end up with huge losses instead of profits.
Basics of derivatives
These delivered futures are synthetic, and it is even possible to short sale or bet on a loss. Elevation is the most attractive aspect of futures contracts, but it is worth noting that these instruments have long been used in the stock, commodity, index and foreign exchange markets.
In traditional economics, traders measure daily price changes by changing the exchange rate on average. This calculation is widely used in all asset classes and is called volatility. However, for various reasons, this calculation is unfavorable for cryptocurrencies and can be detrimental to traders.
Fluctuations in US dollars in bitcoins for 60 days. Source: BuyBitcoinWorldwide
Thus, the higher the volatility, the more often the asset price will exhibit sharp fluctuations. Contrary to expectations, growth of 7% to 10% per day is a low indicator of volatility. This is because the deviation from the average is small, and random fluctuations from negative 3% to positive 3% represent a much wider range.
Markets with very low volatility are ideal for leverage.
Knowing the total range of an asset is very important when opening current positions. Take the British pound (GBP), for example, and you will notice that volatility is usually less than 1%, since sudden changes in daily exchange rates are unusual.
60-day USD swing. Source: BuyBitcoinWorldwide
Currency markets are relatively stable markets compared to equities and commodities. Therefore, some regulated brokers offer up to 200 times leverage, which means that a 0.5% change in position will result in forced liquidation.
For a cryptocurrency trader, the daily change of the Swiss franc (CHF) against the US dollar is likely to be seen as a stable currency.
Exchange rates for the Swiss franc (CHF) in US dollars. Source: Investing.com
However, Bitcoin’s daily volatility of 3.4% masks more severe price fluctuations. Although it makes sense to measure closing prices in traditional markets on a daily basis, cryptocurrencies are traded directly. This discrepancy is likely to trigger much broader features on the same day, although the daily termination often masks them.
The Bitcoin price in USD is low, high and closing price. Source: CoinMarketCap
The average change between the daily high and the lowest Bitcoin price over the last 180 days is 6.5%. As explained above, these “intraday moves” were 25 times higher than 10%. Basically, this means that Bitcoin’s price fluctuations are much larger than expected with the original daily volatility of 3.2%.
20x utilization looks crazy given Bitcoin’s daily movements
In comparison, a 5 percent move in the wrong direction is enough to settle any Bitcoin position with 20x leverage. These data clearly indicate that traders really need to think about risk and volatility when trading leveraged cryptocurrencies.
Quick profits are good, but it is more important to be able to withstand normal daily price fluctuations in order to keep unrealized profits.
Although there is no magic number to determine the best influence for each trader, the effect of volatility must be considered when calculating liquidation risk. Those who want to keep positions open for more than two days, aiming for 15 times leverage or less, seem “affordable”.