Bitcoin Futures: What They Are And How To Trade Them

Once more of a niche experiment, cryptocurrencies have recently been thrust into the spotlight as the demand is driving up prices and many of them are growing at an astonishing pace. The next chapter in this story appears to be the recent launch of bitcoin futures on the Cboe Futures Exchange and CME, which provide new ways for individuals and financial institutions to get involved by speculating the future direction of bitcoin prices.

What are Bitcoin Futures?

Futures contracts are an agreement to buy or sell an asset on a specific date in the future at a specific price. Futures are commonly used to speculate on the direction of prices. Speculators can either take a long position, where they agree to buy the underlying asset at a specific price when the contract expires, or a short position, where they agree to sell the underlying asset at a specific price.

Futures products can either be physically settled or cash settled. Physically settled futures products expire directly into the physical commodity or asset. Cash-settled futures products expire directly into cash at expiration. Cash-settled futures positions can be held until expiration and the holder will receive a cash credit or cash debit to their account once settlement occurs. (At TD Ameritrade, we don't allow clients to take physical delivery, so the expiring contract needs to be closed prior to settlement).

In the case of bitcoin futures contracts, the underlying asset is the digital currency bitcoin. The two products that are currently offered are cash-settled and don’t actually involve the delivery of the underlying asset. Bitcoin futures allow traders the opportunity to make a trade decision based on where they think the price of bitcoin will be in the future.

Let’s say somebody owns bitcoin and, after its recent rise, they want to hedge their long position in the underlying asset so they sell a bitcoin futures contract. If the price of bitcoin plummets between now and the contract expiration, the price of the contract will decrease and the holder can then buy the same contract at a lower price to close the position before the settlement date, helping to offset the price decline in their actual bitcoin holdings. Conversely, if the price of bitcoin goes up, the price of the bitcoin futures contract will increase, and the holder would buy the contract, or wait until settlement, for a loss at the higher price.

How to Trade Bitcoin Futures

First and foremost, to trade bitcoin futures you need to have an eligible account approved for futures trading, which requires margin privileges and typically options approval. Even if you have traded futures before, these products have higher margin requirements than other futures and you should look into what your broker requires to ensure you can fulfill them.  

At TD Ameritrade, the margin requirement to trade bitcoin futures is 1.5 times the exchange requirement. Another thing to consider is that futures accounts generally have minimum deposit requirements as well. At TD Ameritrade, you need a minimum account value of $25,000 to trade bitcoin futures.  

CBOE BITCOIN FUTURES. Different expirations for Cboe bitcoin futures (/XBT) are shown above on the thinkorswim^® platform by TD Ameritrade. Let’s say you think the price of the underlying will climb above $19,070 before the January expiration (highlighted) so you buy a contract at the ask of $19,080. If the price goes up, you can then close the contract prior to settlement by taking the opposite position on another contract on /XBT on the same settlement date. On the other hand, if you think the price of the underlying will decline, you can sell, or short, that same contract at the $19,050 bid and then if the price goes down, you can buy the same contract to close the position prior to expiration. Data Source: Cboe. For illustrative purposes only. 

Since these are still very new products, they are not available to trade everywhere. If you are interested in them, you will have to check with your broker to see if they are offered.  “On Monday, we started rolling out Cboe’s bitcoin futures to eligible clients in waves,” said JB Mackenzie, managing director of futures and forex trading at TD Ameritrade “Like any new futures product, we wanted to see how the market reacted once it was open to ensure there was an orderly marketplace with enough liquidity. Since CME’s bitcoin futures just launched, we are currently monitoring the volume and open interest and have not yet offered that product to any clients to trade.”

Differences between Cboe Global Markets and CME Group Bitcoin Futures

There are quite a few differences between Cboe bitcoin futures (/XBT) and CME bitcoin futures (/BTC), and the table below provides a comparison between some of the key differences and similarities between the two. Right now, neither exchange is offering options on bitcoin futures.  

DIFFERENCES BETWEEN CBOE AND CME BITCOIN FUTURES. The chart information is sourced from Cboe Global Markets and CME Group. Click the links to get additional information about each of their respective products. Exchange Margin Requirements are subject to change without notice. TD Ameritrade’s margin requirement is currently 1.5X the exchange margin requirement at CBOE and CME and is also subject to change without notice.  

Risks to Consider

It is important to understand that bitcoin is an unregulated product and regulations are still a little murky, both in the U.S. and abroad. Because bitcoin are not housed in bank accounts, brokerage, or futures accounts, they are not insured by the FDIC or SIPC. As a result of lack of regulation in certain regions, multiple exchanges and trading platforms, as well as global spread, there is the potential for groups to manipulate the digital currency, although both Cboe and CME have systems in place to help minimize the potential for this to occur.  

Another thing to keep in mind is that bitcoin is prone to extreme volatility, and double-digit percentage swings within a day are not uncommon. A limited number of investors have significant holdings and their movements can have an outsized impact on the markets. 18.14% of the total coins—roughly $53.6 billion as of December 15—are held in 113 bitcoin addresses, according to data from BitInfoCharts.

Additionally, these bitcoin futures contracts are new products with minimal trading history. There could be times with limited liquidity in the marketplace and, considering how volatile the underlying can be, trading could be halted for short periods of time making it harder to enter and exit a position.

While bitcoin and other cryptocurrencies have been surrounded by a lot of hype due to their rapid increase in price, they have become more mainstream this year. The recent launch of these two products is the newest avenue for speculators, although a wait-and-see approach might be best if you’re not familiar with the underlying asset. You should carefully consider whether trading in bitcoin futures is appropriate for you in light of your experience, objectives, financial resources, and other relevant circumstances.

For additional information on Bitcoin, we recommend visiting http://www.cftc.gov/bitcoin/index.htm

Information from TDA is not intended to be investment advice or construed as a recommendation or endorsement of any particular investment or investment strategy, and is for illustrative purposes only. Be sure to understand all risks involved with each strategy, including commission costs, before attempting to place any trade.