5 ways derivatives could change the cryptocurrency sector in 2022

There are many stories about liquidations of billion-dollar futures contracts causing 25% intraday price drops in Bitcoin (BTC), and Ether (ETH). But the truth is that the industry has been plagued with 100x leverage instruments ever since BitMEX launched its perpetual forwards contract in May 2016.

The benefits of the instrument’s hedge capabilities can be accessed by institutional clients, mutual funds and market makers, as well as professional traders.

Renaissance Technologies, a $130 million hedge fund, was granted permission to invest in Bitcoin futures markets with instruments listed at CME. These trading giants are not like regular crypto traders. Instead, they concentrate on arbitrage and risk exposure.

The short-term correlation with traditional markets could increase

Cryptocurrencies are becoming an asset class that can be used to predict global macroeconomic risks. This is regardless of whether crypto investors agree with it. This correlation was not just for Bitcoin, as many commodities instruments also suffered in 2021. This short-term strategy of risk-on/risk-off can have a significant impact on Bitcoin’s price, even if it decouples monthly.

Bitcoin/USD on FX (blue, right) and U.S. 10-year yields (orange, left). TradingView

You can see how Bitcoin’s price has been correlated with the 10 year Treasury Bill of the United States. Investors are looking for higher returns on fixed income instruments. This means that crypto exposure is more important.

Because most mutual funds are unable to invest in cryptocurrency directly, derivatives are crucial in this instance. They can access the market by using regulated futures contracts, such as CME Bitcoin futures.

As a hedge, miners will resort to longer-term contracts

From a miners perspective, cryptocurrency traders don’t realize that short-term price fluctuations are not worth their investment. The need to sell coins constantly becomes less important as miners become more experienced. This is exactly why derivatives instruments were invented in the first instance.

A miner might sell a quarterly contract that expires in three months. This would effectively lock in the price for that period. The miner will know their future returns from now on regardless of price movements.

Trading Bitcoin options contracts can achieve a similar result. A miner could sell a $40,000 call option for March 2022, which would be sufficient to offset a drop in Bitcoin price to $43,000 or 16% below current $51,100. The options instrument acts as insurance by cutting 42% of the miner’s profits above $43,000.

The use of Bitcoin as collateral in traditional finance will grow

Fidelity Digital Assets announced recently a partnership with crypto borrowing and exchange platform Nexo that will offer crypto lending services to institutional investors. This joint venture will enable Bitcoin-backed cash loans, which cannot be used in traditional finance markets.

This will help companies like Tesla (previously Square), to ease their pressure to continue adding Bitcoin to the balance sheets. It is a great way to increase their exposure to this asset class.

Even companies that do not seek directional exposure to Bitcoin or other cryptocurrencies may benefit from the industry’s higher yields compared to traditional fixed income. Institutional clients who are not willing to be directly exposed to Bitcoin’s volatility and still want higher returns on their assets can borrow or lend.

Options markets will be used by investors to generate “fixed income”.

Deribit derivatives market currently holds 80% of the Ether and Bitcoin options markets. However, U.S. regulated options markets such as the CME or FTX US Derivatives (previously LedgerX), will gain traction eventually.

These instruments are popular with institutional traders because they allow them to create semi-fixed income strategies such as covered calls, iron condors and bull call spreads. Traders can also combine call (buy) or put (sell), allowing them to set options trades with predefined maximum losses and without having to risk being liquidated.

The global central banks will likely keep interest rates at or below zero. Investors are required to look for markets that offer higher returns even if they carry some risk.

Institutional investors will enter crypto derivatives markets by 2022, changing the industry as it is today.

We are seeing a decrease in volatility

Crypto derivatives, as previously mentioned, are known to add volatility when unexpected price swings occur. These forced liquidation orders are due to futures instruments that allow for excessive leverage. This is a common problem with retail investors.

Institutional investors will have a greater representation in Bitcoin and Ether derivatives markets, which will increase the demand and bid size for these instruments. Retail traders’ $1 Billion liquidations will have less impact on the price.

By absorbing the order flow, crypto derivatives will have a decreasing impact on extreme price fluctuations. This will lead to a reduction in volatility, or at the very least avoid problems like the March 2020 crash, when BitMEX servers “went offline” for 15 minutes.

Risk is inherent in every investment or trading move. Before making any investment or trading move, you should do your research.


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Donna Burk

Donna Burk– Business News My Name is Donna Burk and I am also the main source from the ‘Dailynewssheet.com’ of all the exclusive and most delicate visualization of the activities in the business sector. My first step towards this journey was taken in the very early years of my life. I started with an independent financial consultant. However, I only had almost 4 years of skills and experience in this market. I have always been a free personality and like to fly one place to another, to explore more and more. Moreover, this passion and craze of traveling gave me a chance to report a section for best news associations. Last but not least, I am presently working full-time as an editor.

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