From holding to hedging: How to choose between spot and futures crypto strategies
Crypto trading is mainstream and is viewed as an asset class in its own right, backed by market forces, and attracting interest from both retail and institutional investors. This is great news. Investors who, like Neo in the Keanu Reeves-starrer Matrix, took the red pill now face a fundamental question: what's the best way to invest?
Two methods dominate, being
spot trading
and
futures trading
strategies. Each offers multiple benefits, comes with certain challenges, and caters to different investor cohorts. In essence, spot trading appeals to those seeking long-term investment and direct asset ownership, while futures trading is favoured by active traders looking to capitalise on rapid market movements and unlock short-term opportunities. It's important to understand how these strategies work, who they're meant for, and what benefits investors can get.
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Understanding spot trading
Spot trading refers to buying or selling crypto at the current market price. In the crypto space, this means buying digital assets with immediate ownership transfer. It works best for those aiming for long-term growth and who are comfortable holding assets digitally.
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Spot trading is straightforward to execute. It doesn't require users to navigate complex contracts, meet margin requirements, or manage expiries. Instead, it allows them to trade at real-time prices determined by supply and demand. Spot markets are typically liquid and transparent, making them ideal for newcomers.
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However, spot trading doesn't allow investors to use
leverage
or hedge their positions. This means returns are limited to the capital invested, and investors may have to sell at a loss if the market turns bearish. Additionally, it requires upfront capital, which can be a barrier for small or first-time investors.
Exploring futures trading
At its core, futures trading involves speculating on how the price of crypto will move, without actually owning the underlying asset. These are standardised contracts that allow traders to agree to buy or sell crypto at a predetermined price on a future date.
Futures trading gives traders the opportunity to profit in both bull and bear markets by taking long or short positions, while also offering the option to hedge. It allows the use of leverage, enabling traders to control larger positions with relatively small amounts of capital, amplifying both potential gains and losses. While the rewards can be significant, they're often tempered by the risk of liquidations due to sudden margin calls if a trade moves against the position.
This style of trading demands a deeper understanding of crypto markets, technical analysis, and concepts such as contract expiries and funding rates. It's best suited for experienced traders and can serve as a powerful tool for portfolio diversification and
risk management
.
Breaking it down
Both trading strategies serve different purposes. Spot trading is simple to understand and works on the principle of 'what you see is what you get.' For instance, if someone buys
Bitcoin
at $80,0000 and if it rises to $100,000, they can make a profit proportional to the price increase. Futures, on the other hand, involve entering into contracts to benefit from price movements. With 10x leverage, a 10% increase in the underlying asset's price can double the deployed capital, though a sudden drop could wipe out the capital entirely.
Spot traders own the actual asset, can transfer it instantly across wallets, and can stake or use it. Futures traders, however, hold contracts that are often used for hedging positions or taking advantage of short-term price changes. The spot market offers stability and tangible ownership for long-term investors. For active traders or institutional players, futures present opportunities for profits through strategies such as arbitrage, hedging, and high-frequency trading.
A real-life example helps drive the point home: Over the past few years, Bitcoin has witnessed several rallies. In early 2023, it began climbing from $16,500 and peaked at a whopping $73,000 by March 2024 (a rally similar to the one seen post-Donald Trump's 2016 election as U.S. President). This price surge in 2023 offered up to 340% returns for investors who bought and held the asset. An investor who bought 1 BTC in early 2023 would have made a profit of $56,500, without executing multiple trades or constantly tracking the market. Now, with Bitcoin reaching a new all-time high of over $110,000, the long-term growth story continues to build momentum. This latest milestone reinforces how holding through cycles can deliver substantial rewards for those who believe in the asset's future.
On the other hand, a trader in the futures market using 10x leverage could have amplified gains significantly during this run. But the risk of capital erosion also rises, even a temporary price dip can trigger margin calls. While leverage can boost profits, long-term conviction in spot markets tends to give stronger and more sustainable returns.
Spot markets are ideal for new and risk-averse investors who want to get comfortable in the crypto space without the pressure of short-term losses. As these investors become more experienced and understand the nuances of leverage and risk management, futures can serve as a powerful next step.
Ultimately, the best strategy depends on an investor's financial goals and risk appetite. Success in crypto investing is driven by domain knowledge, discipline, and adaptability, skills that contribute to meaningful wealth creation and long-term portfolio growth.
(The author,
Raj Karkara is the COO at ZebPay)
(
Disclaimer
: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)
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