- An inverse futures contract is a USD-clubbed financial derivative, where contracts are settled in underlying crypto assets.
- Inverse futures contracts provide investors with the opportunity to earn profits when the price of the underlying asset falls.
- An inverse futures contract allows you to control a large position of a smaller upfront investment. It can advance the potential of gains.
The financial realm of crypto is embracing new technologies daily. The inverse futures contract is such an innovation that aims to revolutionize and replace the old system of traditional futures contracts.
Here, you can find out what an inverse futures contract is and its working methods. Additionally, we will explore the advantages of an inverse futures contract.
What an Inverse Futures Contract is
An inverse futures contract is an agreement where sellers must pay the buyers a price at the end of the contract. This price is a difference between the pre-agreed price and the current price.
These contracts are based on the inverse of the price movement of an underlying asset and settle in a cryptocurrency, primarily Bitcoin.
An Inverse futures contract is a financial derivative clubbed with a fiat currency, such as USD and a stablecoin like Tether (USDT). Despite this, the agreements are settled and margined in underlying crypto assets.
It allows sellers to earn profits on the price decline of underlying assets. The profit-earning system is flexible. Traders can earn profits from both upward and downward price movements.
The Working Method of an Inverse Futures Contract
Here are some points to make you understand the working method of an inverse futures contract:
- Working Mechanism: As mentioned before, the inverse futures contract represents the difference between the predetermined and current price upon the contract expiration. For example, an inverse futures contract on a crypto asset has a price of $2000 per contract, so that won’t be the future price of the cryptocurrency.
- Profit from the fall: The traders can profit from the underlying asset’s price drop. Suppose an underlying asset’s price is $8,000 and falls to $5000 by contract expiry, and the inverse contract shows a difference of $3000 in your favor. This difference of $3000 would be counted as profit, as the underlined assets price remained $8000.
- Losing from the gain: Inverse futures contracts come with losses, too. Traders can face the threat if the underlying asset price surges by the contract’s end. If the underlying assets’ price advanced from $8000 to $10,000, you could face a loss of $2000, as the contract price remained at $8000.
- Settlement: These contracts are typically settled and margined in an underlying asset. After the agreement, you will have your hands on an actual asset.
Notable Advantages of an Inverse Futures Contract
Let’s explore some significant advantages of an inverse futures contract:
Hedging tools: Inverse futures contracts provide investors who hold multiple cryptocurrencies with the advantage of hedging tools against market risks. These hedging tools help investors dodge potential losses during a crypto asset’s price drop.
Control of larger positions in investment: In an inverse futures contract, traders get the opportunity to control the prominent position of a smaller upfront investment. This facility helps in advancing potential profits. However, this function comes with a risk of high losses.
The Leverage of Diversification: Don’t put all your eggs in one basket. Just like this proverb, Inverse futures contracts offer leverage for the diversification of assets. This diversification goes beyond stocks and bonds, and it helps traders to amplify their portfolio returns.
