Decentralized derivatives are riding on the increasing popularity of decentralized finance to gain more users. Many crypto traders find decentralized derivatives as a means through which they can speculate and forecast the price of cryptocurrencies without owning a large chunk of it. 

But only a few people are aware of what decentralized derivatives stand for and how it works. With this in mind, we have created the ultimate guide that will teach you everything you need to know about decentralized derivatives, how it works, and their types. 

What Are Decentralized Derivatives in Crypto? 

Decentralized derivatives are financial contracts that derive value from cryptocurrencies and other crypto-related assets using blockchain-based protocols. Crypto-based derivatives mostly occur in the decentralized finance sector but are not limited to it. The concept of derivatives can be used in other financial markets like stocks, gold, and bonds. 

Decentralized derivatives allow crypto users to benefit and profit from the future price movements of crypto-related assets. The environment in which the trading of decentralized derivatives takes place is often transparent, and traders can see exactly how the price changes occur. Protocols that allow decentralized derivatives are usually available, and anyone can connect to them using their wallets. 

How Do Decentralized Derivatives Work?

Source: DeFi Beyond the Hype

Decentralized derivatives work by deriving their value from any underlying asset, which in this case are cryptocurrencies. If you engage in decentralized derivatives trading, it mostly happens on decentralized exchanges and can be done by anyone as it requires little money to start. 

When you engage in derivatives trading, you can trade an asset without having to own the asset physically. In this case, you are just a representative asset owner since you don’t have full access to it. A good example is when you have a Bitcoin derivatives contract, the asset’s price will be derived from the Bitcoin buying price. 

Another perceptive to look at decentralized derivatives is like a financial asset that traders bet on without actually having to own one. But unlike the traditional form of derivatives, DeFi derivatives occur using smart contracts, and this makes it more transparent and secure. 

Types of Decentralized Derivatives

Source: FinancialExpress

Options Contracts 

An options contract is a type of crypto financial contract that allows you to buy or sell a crypto asset at a specified price and time. This type of contract is not mandatory, as you can choose to fulfill it or leave it the way it is. With options contracts, you have the chance to hedge against the possible fluctuations of a crypto asset or take advantage of future price increases. 

Assuming you have a Pepe token in your portfolio, you can enter an options contract that would allow you to sell the token at a specified price. In the same way, you can enter into a contract allowing you to buy the Pepe token when it enters a specified price. 

Futures Contracts 

Futures contracts are forms of decentralized derivatives that allow crypto traders to buy or sell crypto assets in the future at a specified price. When discussing futures contracts in derivatives, we mostly refer to the perpetual type of futures contract. Unlike the traditional form of a futures contract, perpetual futures are types of derivatives without an expiry date. 

Synthetic Assets

Synthetic Assets are a type of decentralized derivative similar to stablecoins, although they still have their differences. It is a form of tokenized derivatives that uses blockchain technology to replicate the value of underlying assets. They are more accessible than other forms of derivatives and can come in the form of stablecoins, altcoins, and other commodities. 

Benefits Of Decentralized Derivatives to the Crypto Industry

A Beginner’s Guide to Decentralized Crypto Derivatives. Source: Crypto News

Accessibility

Decentralized derivatives are more accessible, and anyone can easily trade them. It does not also have limitations on the type of derivatives one can trade. 

Cheaper Fees /High-Interest Rates

When trading derivatives, you have to pay certain transaction fees, depending on the platform you are using. With decentralized derivatives, you have to pay lower transaction fees, and the interest you earn from them can be extremely high.

Minimise Portfolio Risks

Trading decentralized derivatives offers an opportunity for diversification for crypto traders, which helps minimize portfolio risks. Decentralized derivatives are also ideal for hedging and help prevent your assets from taking losses.

Speed

Decentralized derivatives are very important to the crypto industry because of how fast it is in trading. Since there are no intermediaries, trading decentralized derivatives occurs at a quicker rate than traditional derivatives.

High Leverage

Decentralized derivatives trading offers high leverage as traders only need to invest a small amount of funds to make huge profits.

Control of Assets

The benefits decentralized derivatives traders stand to get is that they have more control of their assets. 

Challenges Faced By Decentralized Derivatives in Crypto 

Risky to Trade 

If you ever consider trading decentralized derivatives, trading these financial instruments is riskier than actual cryptocurrencies. They can be highly volatile and are not recommended for beginners, as only investors with vast experience and sophisticated tools can trade them. 

Before trading derivatives, you should evaluate your capacity as an investor before making any decision. Trading derivatives is a venture that can take all funds you invested within a short time, so you must be prepared to have major losses. If necessary, consider consulting the advice of someone with more experience than you in trading derivatives. 

Poor User Experience 

Since they are decentralized derivatives, almost all the activity happens in decentralized exchanges, also called DEXs. Forget the hype. Decentralized exchanges are not as user-friendly as global centralized exchanges like BingX As a beginner trading derivatives, you may have problems finding your way around the exchange. Liquidity is also a huge issue, as many decentralized exchanges are still not well-known as their centralized counterparts leading to fewer users. 

On-chain Order Book 

Using DEXs’ on-chain order book while trading derivatives comes with many issues due to a congested network. When there’s a congested network in a decentralized browser, it leads to higher transaction fees and longer processing time. 

Security Risks 

Unlike what many people are made to believe, a decentralized derivative is not entirely immune from cyber attacks. Since it is built in smart contracts, a little manipulation of the code used in creating the smart contract can lead to a huge compromise. 

Access Diverse Crypto Options on BingX

Decentralized derivatives have become a huge part of decentralized finance, and it does not show any sign of slowing down. A leading crypto exchange such as BingX offers super trading features such as copy trading, spots and futures trading as well. 

To enjoy better trading success, you need a leading platform that offers multiple financial assets at the best prices possible such as BingX. With a presence in over 100 countries and hundreds of trading asset pairs and capabilities, BingX is your best bet. 

Enjoy Better Trading with BingX or join our BingX Community to earn and learn more about crypto, trading and the latest news!

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