Crypto Derivatives Trading: Current State and the Road Ahead
Since the advent of cryptocurrencies and the blockchain evolution, the crypto market has experienced tremendous growth over the years. Hundreds of crypto exchanges have been established and still more to come in the nearest future. All in order to facilitate a massive growth in the blockchain and DeFi ecosystem.
Today, the consistent growth in crypto derivatives trading signals the new direction of the crypto market. According to an industry report on cryptocurrency derivatives (CDs) trading by TokenInsight, the CDs trading volume hit US$2.7 trillion in the third quarter of 2020. Showing a year-on-year increase of 159% from the third quarter of 2019.
Certainly, the figures don’t lie, the growing trend signifies the future direction of the crypto market and growing interest of investors in crypto derivatives trading.
As of January 2021, the crypto exchange report by CryptoCompare showed that derivatives trading recorded an all-time monthly high of US$2.89 trillion. An increase of 101% while spot trading increased by 97% reaching US$2.3 trillion. The derivatives market accounts for nearly 55% of the entire crypto market. Now that’s a commendable growth compared to previous years.
The reasons for this unprecedented growth are not farfetched. Crypto derivatives offer better opportunities to investors and can effectively facilitate a global scaling of decentralized finance. Crypto derivatives trading provides a number of benefits which include hedging opportunities and risk minimization in a volatile market.
Another important factor with derivatives trading is the security they provide. Ideally in a centralized setting, issues of crypto hacks and thefts are no news. Several centralized exchanges have been victims to various hacks with millions of dollars lost in the process. However in derivatives trading, such issues are non-existent, as traders do not necessarily own the underlying assets or crypto rather they speculate on the prices of the assets.
In general, derivatives trading also offer lower execution fees and better incentives to traders when compared to spot trading. The adoption of crypto derivatives is vital to bringing digital assets to the forefront, a fact investors and exchanges, especially decentralized exchanges, are certainly aware of.
Existing Limitations
While the derivatives market continues to experience steady growth, there are still some challenges needed to be overcome. Liquidity is one major factor. This is largely owing to the fact that derivatives trading is still in its infancy stage. However, in comparison with the liquidity obtainable with spot trading and CEXs, derivatives trading is plagued with a substantially low liquidity.
The absence of proper regulations guiding crypto derivatives trading hinders more professionals and investors from entering the market. The recent lawsuit against BitMex is a pointer to the need of proper regulations to attract more investors to the scene.
Considering existing decentralized derivatives trading, most of these DEXs operate on Ethereum and have very low transaction processing speed. An average of 15 transactions per second which is nowhere near suitable for high performance derivatives trading. This delays the processing of order books and costs traders higher gas fees if they intend to make their transactions priority. This is also coupled with the poor user experience witnessed in DEXs as opposed to advanced and user-friendly experience seen on centralized exchanges.
Creating DEXs that will provide faster transaction speed and fluid user experience as CDzExchange envisions, will certainly go a long way in sustaining and increasing the growth rate of derivatives trading.
The Future Ahead
Despite the present challenges, finance experts believe that decentralized finance has the potential to revolutionize the finance sector and ultimately become a replacement for centralized finance.
With the current traction DeFi is steadily gaining, there’s obviously a paradigm shift happening to a more decentralized finance mechanism including derivatives trading. Although regulation and liquidity appear to be strong challenges at the moment, with several DEXs coming on to provide comprehensive solutions, DeFi is certainly on its way to being the new normal.
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