On December 10, bitcoin futures were officially traded on the CBOE exchange, with CME soon to follow on December 18. This allowed institutional investors to “bet” on the future price of bitcoin. What is important to remember here is that no actual bitcoins are traded in these contracts.
Let’s say you enter a futures contract. You don’t actually purchase any bitcoin, or anything else than the contract itself. You can either predict that bitcoin price in the future (time frame varies monthly, quarterly, yearly) will go up or down. Simply put, you buy a lottery ticket. If you’re bullish on bitcoin, you’re going to predict that its value will go up. You visit the CBOE or the CME and open a margin account. These exchanges require you to put in a margin amount of liquid asset as a form of insurance, and this amount can go as high as 44% of the contract’s worth. If you want to open a $10 000 bet, you will need at least $4400 to enter a contract.
Now let’s say you predict that bitcoin will go up, but in actuality, it goes down. At the point of the contract bitcoin traded at $17000. Next month it goes down to $16500. What the CBOE or CME will do to your margin account is that they’ll take a chunk of money from your margin account to cover for the contract’s losses. Conversely, if bitcoin goes up in value, they’ll add money to your account. If bitcoin’s price keeps going down and eats up all the money in your account, you’ll receive a margin call. At this point, you can either pay the exchanges more money, or they sever the contract. In the end of the day, these futures contracts revolve around cash settlements, and no actual bitcoin changes hands in the process.
So why not buy bitcoin instead?
Future contracts aren’t meant for someone with low net worth. Regular crypto enthusiasts are better off buying bitcoins themselves and hold on to them. These contracts are convenient for institutional investors who want to bet massive quantities in one go. This is more appealing amid news of crypto exchanges shutting down by governments, regulated by new laws or just plainly getting hacked.
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