Important notes
Options and futures contracts are derivatives that allow taking a position in an underlying asset.
Crypto futures contracts are agreements between traders to buy or sell a specific asset at a specific date in the future and at a predetermined price.
Crypto option contracts give the contract holder the right, but not the obligation, to buy or sell an asset at a predetermined price and date.
Derivatives are financial instruments that offer the opportunity to take a position in an underlying asset. This underlying asset can be a commodity such as oil or gold, or a cryptocurrency such as bitcoin. The value of derivatives depends on the value of the underlying asset. Options and futures are two different types of derivatives that investors use to speculate on market prices, hedge risks, and diversify their portfolios.
Although futures and options contracts have similar trading fundamentals, they are used for different trading strategies due to the fundamental differences between the two instruments.
What are Crypto Futures Contracts?
Crypto futures contracts represent the value of a specific cryptocurrency at a specific time. These are agreements between traders to buy or sell a specific asset at a specific date in the future and at a predetermined price. In a traditional futures contract, the owner of the position is under the obligation to buy or sell the underlying asset at the contract price at expiration.
Traders may make profits or losses depending on whether their positions are long or short and the futures price. When you predict that the price of an asset will increase, you can take a long position, and when you predict that the price will decrease, you can take a short position. For example, if the current market price of bitcoin is $10,000, you can buy (go long) or sell (go short) a futures contract with the expectation that the price will rise or fall.
If you choose to buy this contract and the price of bitcoin rises to 20,000 USD on the expiration date of the contract, you will make a profit of 10,000 USD. On the contrary, if the price falls to 5,000 USD on the expiration date of the contract, you will incur a loss of 5,000 USD. Liquidation in futures occurs when you incorrectly predict the movement of the market and results in your open position being closed.
Binance Futures offers users the ability to buy and sell. While three-month futures contracts expire after three months, long futures contracts have no expiration date.
What are Crypto Options?
Similar to cryptocurrency futures contracts, the value of options contracts depends on the value of the underlying asset. Options are derivatives that allow traders to buy or sell an asset at a future date at a predetermined price. But unlike futures, option contract holders can choose not to buy or sell the underlying asset at expiration.
In other words, crypto options give the contract owner the right, but not the obligation, to buy or sell an asset at a predetermined price and date. Options generally allow traders to reduce their risk of loss and avoid possible liquidation of futures contracts. For this right, the buyer pays the option writer an upfront fee, known as a premium.
There are different types of options, but the most common are call and put options. A call option gives users the option to buy an asset on a specific date, while a put option allows them to sell an asset on a specific date.
For example, let's say you buy a call option on bitcoin at $10,000 with the expectation that there will be an increase in the price of the asset. Since this is an option contract, you will have to pay a premium of $400 in this example.
Let's assume that the price of bitcoin falls to 5,000 USD on the expiration date of the contract. In this case, you can choose not to exercise your option right. However, the $400 premium you paid to purchase the contract will not be refunded.
Futures and Options: Main Similarities
Derivatives
Both options and futures contracts are derivative instruments that do not require owning the underlying asset. In the case of digital assets, this mechanism allows investors to take positions without the need to buy and hold cryptocurrencies.
Hedging tools
Traders and investors can use options and futures contracts as hedging tools. Hedging is a risk management strategy used to minimize or eliminate financial losses. This is usually done by opening two separate positions that balance each other.
For example, let's say John buys a token at $20 per share, anticipating that its price will increase. Ahmet also buys a put option at a strike price of 16 USD, paying a fee (premium) of 2 USD per token in case the value of the token decreases. The strike price in an option contract is the price at which the underlying asset can be bought or sold. If the token price drops to 10 USD, Ahmet can exercise his contract and reduce his losses by selling the token for 16 USD. If the market goes up, he does not need to use his contract and only loses the 2 USD premium he paid per token.
Futures contracts also provide protection for business owners and investors against market risks. Take, for example, a textile company that knows it needs to purchase 10,000 kg of cotton within three months to prepare a customer's order. Let's assume that the current price of cotton is 10 USD per kg. The company can purchase a futures contract on cotton at $9 per kg to hedge against possible market volatility. This secures the company's purchase by allowing it to purchase cotton at $9 per kg within three months, regardless of the market price at the time of purchase. If the company had not purchased the futures contract and, for example, the price of cotton had risen from $10 per kg to $14 per kg in three months, the company would have incurred higher costs to fill the order.
Leveraged contracts
Both types of derivative contracts allow traders to take a position in the underlying asset at a much lower cost using leverage. In this way, traders can buy or sell a large contract with relatively small capital. However, we should point out that leverage involves more risk and it is important to use risk management strategies when using derivatives.
Futures and Options: Major Differences
Rights and obligations
One of the main differences between the two tools is the way they are processed. An option buyer has the option not to exercise the contract if the market moves against his position. In contrast, the owner of a futures contract must execute the contract at maturity, regardless of market conditions.
Cost structures
Option buyers must pay a fee, called a premium, upfront to the seller to purchase the contract. A futures contract, on the other hand, allows you to open a position without paying any upfront fee. Depending on the exchange you use, you will have to pay some fees for crypto futures, such as trading commissions and funding rates.
Loss of value over time
Depreciation over time refers to the decrease in value of an option contract as it approaches expiration. Depreciation over time accelerates as a contract's expiration date approaches, as there is less time to make a profit. In futures transactions, the passage of time does not negatively affect the value of the contract.
Potential risks
Since option buyers have the option not to exercise the contract, their losses are limited to the premium they must pay for the contract. Buyers have the advantage that the maximum loss is capped at a fixed premium regardless of how much the underlying asset moves. In contrast, futures contracts involve liquidation risks because leveraged positions can be subject to price fluctuations and can easily consume the user's initial investment. Forced liquidation may occur if your wallet balance cannot meet the margin requirements of your open position. These contracts are riskier because there is no way to predict how much you will win or lose, making it difficult to hedge.
Conclusion
Crypto futures and options have become very popular trading tools in digital asset markets, and both have their own advantages. While options are less risky, futures offer better liquidity and are more cost-effective. The decision to trade futures or options depends on one's preferences, such as risk tolerance and available capital. In any case, you should consider certain factors, such as how comfortable you feel with using leverage and how much you know about the instruments, and make a thorough analysis before trading.
For more information, you can read the following articles:
(Blog) Why Are Crypto Derivatives Markets Necessary?
(FAQ) Introduction to Binance Options
(Support) Binance Options FAQ