How to Hedge Bitcoin?
Needless to say, cryptocurrency is synonymous with risk and volatility. Market downturns are inevitable. Therefore, to mitigate high-risk investors, seek answers to query how to hedge Bitcoin.
Hedging encompasses opening new opportunities in opposing markets to wipe or mitigate risk and market swings. Many investors looking at how to buy Bitcoin must also consider their options for bypassing potent crypto market risks.
But what are crypto risks? What are hedging strategies? How to apply a perfect hedging strategy? Is evading the answer to Bitcoin’s volatility? If these questions strike your mind and you are searching for a solution, you are at the right place.
We will eliminate your queries by addressing how to hedge Bitcoin through this article.
So, let us dig in.
What is Hedging?
Hedging may seem like a new word for new investors, but it is a parallel investment that reduces the risk of adverse price fluctuations. Through hedging, investors use more than one concurrent bet to minimize the risk of drastic losses.
Hedging is an old-school risk mitigation strategy that is equally useful for cryptocurrency. It allows you to keep a favorable balance between risky investments. However, hedging also minimizes returns. But, it is better to lower profits and lose the entire investment.
Types of Cryptocurrency Risks
It is essential to know the kinds of risks associated with cryptocurrency; knowing them will help us to design a hedging strategy accordingly.
Much like the forex market, the crypto market poses certain risks, which are listed below:
Sharp and sudden price fluctuation is a routine activity in the cryptocurrency market. The Crypto market’s sentiments change in minutes. Further, a repetitive feature for digital assets is swift price swings by hundreds or even thousands of dollars.
No government or banks own cryptocurrency, which poses a serious concern for investors regarding were to raise their voices in case anything goes wrong. Despite governments starting to take notice, a lot of work is still required to formulate rules and regulations for cryptocurrencies.
- Transactional risks
Errors in communications and delays may lead to enormous losses for crypto traders. Despite many exchanges offering very low transactions per second (TPS), the risk hinges around.
- Leverage risks
Traders have the option to enjoy high leverage with low-margin deposits and collateral. However, at the same time, they have to remain cautious while adopting aggressive leverage, as it can increase the magnitude of loss during unfavorable conditions.
Types of Hedging Strategies
Now that we know our risks let us design our hedging strategies. You can use either or combine them based on the market picture, just as many bitcoin casino software use hedging.
Here are the most popular and effective hedging strategies:
- Short Selling
Selling an asset at a position where the investor believes the price will now fall. Traders look forward to buying back assets once the price lowers – or make profits from differences. When applied in cryptocurrency, it can help you protect against long exposures.
So, short selling allows hedging against the downside risk of long position Cryptocurrency. However, shorting becomes complex regarding digital assets, especially crypto. In addition, you need to remain transparent about short, whether it is done for hedging or speculation.
You can adopt any one of below two options to short-sell cryptocurrency:
- Margin selling, where you borrow cryptos from a broker for trade purposes. Exchanges also offer leverage, in addition to margin selling, that increase potential profits or losses.
- Traditional short selling, where you borrow from a broker, sell cryptos and rebuy it at a lower price.
In finance, the term future means an agreement to buy or sell an asset on a certain date at a specific price. Since futures have their trading market, investors can sell futures well before their maturity date.
Cryptocurrency futures also work on the same concept. Since the crypto market is highly volatile, most investors buy at low prices and sell when they are high. In addition, cryptocurrency futures allow flexibility. Thus, you can make maximize your profits by deciding prices now.
Future contracts hedge your investment by locking a certain amount of profits. It is an ideal option for investors planning a long-term venture with the crypto market.
- Perpetual swaps
Perpetual swap allows you to sell or buy an asset without setting an expiry date (the choice is yours when to take or exit the position at any time).
Perpetual swaps provide more buying power than a spot trade. Thus, you are better positioned to take advantage of price fluctuations. However, you have to pay a fee for holding your position.
Additionally, it would be best to determine the funding rate mechanism and potential incomes before adopting perpetual swap as hedging Bitcoin.
Further, perpetual swaps offer greater liquidity, thus making it an attractive hedging strategy, which is ideal for short-term benefits.
An option provides the investor the right – but not the obligation – to buy or sell an asset at a specific price on a certain date. It is an ideal hedging strategy in a downward market. Additionally, you hedge bitcoin at a relatively low cost by using options.
There are two types of options – put and call.
The call provides the right to buy the underlying asset, while put options allow setting a selling price of the asset. Options provide more predictability to otherwise volatile Bitcoins.
Frequently Asked Questions
Is hedging 100% risk-free?
Hedging is not 100% risk-free. It does not guarantee success; it just reduces underlying risk but only partially mitigates it.
How to hedge Bitcoin?
You can apply many hedging techniques, like options, perpetual swaps, futures, or short selling.
What is the difference between put options and call options?
Put options give the holder the right to sell an asset at any given date, while call options provide the holder the right to buy an asset at an agreed-upon date.
Can you hedge Bitcoin?
You can easily hedge Bitcoin by studying market trends and applying the best strategy to reduce the risk of frequent fluctuations.
Undoubtedly cryptocurrencies are highly volatile and carry price risk for investors. However, crypto investors can use hedging techniques to reduce frequent price deviations.
Further, it is possible to adopt hedging for Bitcoins to minimize losses and protect profits, regardless of the market situation.
In addition, investors can use a combination of hedging strategies to safeguard their investments. Thus, we have already seen an increase in investors applying different risk-reduction techniques. It is suitable for the crypt market as well.
We hope you like this article answering an essential query on how to hedge Bitcoin since many investors are looking for the right strategies.
Please share which hedging strategy produced your best results in the comment section.
Wishing you luck and adios!