Talk of trading cryptocurrencies has spread recently, but many Arabs still do not know the difference between buying cryptocurrencies from the spot market and trading futures contracts. Today we will explain the difference between the two so you can know how to choose the right method for you to achieve profits in crypto.
Trading cryptocurrencies: What you need to know
You need to first understand how to make a profit from trading cryptocurrencies before you even think about buying and selling cryptocurrencies. Simply put, you make a profit in trading or investing when you buy the financial asset, whether it's crypto or otherwise, at a low price and then sell that asset at a higher price later when its price increases. The opposite is true because you will incur a loss if you buy the asset at one price and then sell it at a lower price than the purchase price. This means that the priority is always to buy at a cheap price during a crash and then sell during a rise and green candles.
Here you'll find that you have two paths: futures contracts or the spot market. Through these two paths, you can achieve profits or losses based on your strategy, your knowledge of the market, and your emotional stability. For this reason, it is essential to know the difference between them. For example, through the spot market, you buy and hold digital currencies. This means that you own the currency, and thus you can withdraw it from the platform and transfer it to your own wallet. In contrast, through futures contracts, you are speculating on the price of the currency only and do not own it, making it merely a bet on the currency's price, whether it rises or falls. We conclude from this that sometimes you can make profits from the decline of currencies in futures contracts, not just their rise, and this happens if you sell short.
Let's first explain the spot market in detail, then move on to futures contracts.
Trading cryptocurrencies through the spot market
The spot market is where digital currencies are bought and owned. This means you buy currencies with the intent of owning them, so they become yours. If you go to the mall and buy a device, you own it, and even if you leave it in the store, it is still yours, and one day you will take it home. The same applies to the spot market in all markets, not just crypto; if you buy Bitcoin from the spot market, you have the right to transfer Bitcoin off the platform to another exchange or even to a cold or hot wallet or sell it or lend it or send it to others.
Through this market, you can buy currencies either at the current market price through a Market order or buy with a limit order. A limit order is used by a trader who expects the financial asset to decline. For example, if Bitcoin is currently priced at 110,000 dollars and you find that this number is very inflated, you will place an order to buy Bitcoin when it drops to 80,000 dollars with 1,000 dirhams. However, the consequence is that if Bitcoin never returns to the 80,000 dollar point, you will not be able to purchase it because the limit order will not be executed. This market usually suits long-term investors or traders due to its lower risk nature compared to futures contracts. However, through this market, you will never be able to profit from price declines; you will only make a profit if the financial asset's price increases, not if it falls.
Speculating in futures contracts
On the other hand, trading futures is not buying cryptocurrencies, meaning you do not own the currency or hold it. Imagine you entered a mall during Black Friday and bet one of your friends that a television that usually costs 1000 dirhams would have a 10% discount, making its price 900 dirhams. You entered the showroom with your friend and found the television priced at 900 dirhams and won the bet, but did you buy the television? The answer is no; you only won the bet and made a profit from speculating on the price of the television, in this case betting on the price decline. This is futures contracts in crypto simply; when trading cryptocurrencies through futures contracts, you are betting on the price direction, whether it rises or falls.
You can enter a long buy position or sell short. Short selling is simply anticipating a price decline of the currency, so you open a short sell position to sell the currency now, then buy it back later at a lower price and benefit from the price difference. Like the spot market, there are different buy orders, but usually, professionals stick to market orders due to the violent movements of this market all the time. However, unlike the spot market, you can set a stop loss and a take profit order for your position even before entering it because you are usually betting on the price in the short term and do not enter positions here for investment but only for speculation on prices. You can also use leverage to maximize gains, but this will come at the cost of amplifying losses as well.
Why is the spot market better for beginners?
We always recommend the spot market for beginners because there is no leverage, which means there is no amplification of losses, and also so you can buy and hold currencies for the long term. In futures contracts, there is something known as the funding rate, which is a fee that will be deducted from the trade periodically as long as the trade remains open. If the trade stays open for long months, you might lose a significant part of your capital, which can sometimes reach 10% of the total trade size. Also, whales always manipulate the markets through speculation, which is why we always advise sticking to trading in the spot market and making profits from it first before entering the world of speculation.
If you manage to do that and want to develop your skills, then you can enter the world of speculation. Some professional traders protect their positions in the spot market using futures contracts; for example, they buy in the spot market and sell short in futures, and in this way, they may be able to make a profit in both directions. But this is only done by seasoned professional traders.
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