There is a saying that 'bull markets often insert needles'. According to Coinglass data, as of December 24, 2024, the total liquidation amount of Bitcoin in December is about 1.5 billion USD, and the total liquidation amount in the entire cryptocurrency market may exceed 5 billion USD, making December likely one of the months with the highest liquidation scale this year. If you also rushed in to participate in the market only after seeing Bitcoin break through 100,000, but feel that your entry was too late, and can't help but want to use contracts to amplify your profits, this article will introduce the win rate of retail investors in the contract market, who your opponents are when you trade contracts, what hidden costs come with opening contracts, why holding spot is better than contracts in a bull market, and key considerations if you must open contracts!
What are cryptocurrency contracts: a double-edged sword of capital leverage
Firstly, it is recommended to read: Cryptocurrency Contract Teaching, Can You Make Money in Bull and Bear Markets? The article has very clear explanations of various contract types and actual operating methods.
In simple terms, cryptocurrency contracts are a type of derivative financial instrument that allows investors to buy and sell expectations of bullish or bearish movements through 'contracts', rather than directly purchasing the cryptocurrency itself, profiting from price fluctuations.
The main characteristic of contract trading is the ability to leverage capital. Traders only need to pay a certain percentage of the margin to operate larger-scale trades. For example, if the leverage is 10 times, you only need to invest 10% of your capital to open a position, with a maximum leverage of 125 times.
This means that if you only have 1000 as capital, opening 10 times leverage allows you a position size of 10,000, while 125 times leverage allows for a position size of 125,000. It sounds enticing, right? You think you'll profit faster?
In fact, losses can accumulate quickly! It can even reduce your principal to zero!
How much will the contract rise or fall before liquidation: How to calculate the liquidation price
If you don't know how to calculate the liquidation price, please do not open a contract yet. Even though most exchanges will indicate the liquidation price, everyone planning to open a contract should at least understand this principle, otherwise, it is difficult to imagine why simply a slight rise or fall can lead to liquidation.
The liquidation price is a critical data point that everyone needs to calculate carefully before opening a contract. This price determines whether your capital will be forcibly liquidated and completely confiscated during market fluctuations.
The calculation of the closing price depends on your leverage and margin amount. Your leverage is closely related to the speed of liquidation. Specifically, the formula is:
・Bullish Contract: Liquidation Price = Opening Price × (1 - 1/Leverage)
・Bearish Contract: Liquidation Price = Opening Price × (1 + 1/Leverage)
👉 Taking the 30 times leverage that many contract players love as an example, opening a position at 95,000 Bitcoin:
・Bullish Contract (long position) liquidation price: 91833.65 USD
・Bearish Contract (short position) liquidation price: 98166.35 USD
With 30 times leverage, the price only needs to change about 3.33% to trigger liquidation. The higher the leverage, the narrower the price fluctuation range. As soon as the market experiences a slight reverse fluctuation, it can lead to liquidation. This is why, in a highly volatile bull market, liquidations are commonplace.
Contracts are a zero-sum game for the exchange: who is actually making money?
In addition to higher leverage leading to easier liquidation, do you know how the money from contracts flows?
For most people, the understanding of contracts is like this:
・Going Long: Profiting from the price difference when the price increases.
・Short Selling: Profiting from the price difference when the price falls.
As for where the money you earn comes from? Many people intuitively think that this money comes from the exchange losing to the winning users.
In fact, the profits from contracts come directly from the losses of the counterparty. Only in certain extreme market conditions will they come from the liquidity provided by the exchange. Contracts are essentially a battlefield for investors who go long and short to compete with each other.
You might think that the contract market is a battle between new and seasoned investors, but in reality, the contract market does not only consist of retail investors, but also whales, market makers, and institutional investment units. Your opponent may have enough capital to influence the results of the contract market by operating the spot market prices.
Due to the built-in leverage nature of contract trading, the odds of winning or losing when opening a contract are closely related to the trader's experience and market conditions. Some statistics show that retail investors have only about 6% to 10% long-term profitability in high-leverage contract trading. This is already a relatively optimistic figure!
Many people think that contracts are just a prediction of highs and lows, so the chance of winning is 50/50, but in fact, data shows that to profit through contracts, you must have at least a 90% or even 95% edge over your opponents.
The hidden traps of contracts: transaction fees and funding rates are factors that affect returns.
In trading contracts in the cryptocurrency market, besides the unbearable risks due to excessive leverage, and the risk of being forcibly liquidated due to severe market fluctuations, there are many hidden costs that might not be noticed initially:
・Transaction Fees: Each time you open and close a position, you need to pay fees. Especially during frequent trading or high leverage, these costs can quickly erode profits. In particular, the fees that Takers have to bear are usually higher than those of Makers.
・Funding Rate: The funding rate is a dynamic cost of perpetual contracts used to balance the demand from both long and short positions. If the contract you hold is in the opposite direction of the current market, you need to pay a higher fee. Moreover, since the funding rate is charged every 8 hours, the longer you hold, the higher the cost.
・Maintenance Margin Costs: Some exchanges charge additional maintenance margin costs. During extreme market fluctuations, these costs can further compress the returns for investors.
👉 Taking Binance as an example for opening contracts:
If today I have 1000 USD, fully invested in opening a Bitcoin contract, without liquidation, and with a funding rate maintained at neutral 0.01%, how much will my principal be worn down by fees and funding rates over these ten days?
In the case of a principal of 1000 USD, with 10 times leverage, and holding positions for 10 days:
・Funding rate cost 30 USD + transaction fee cost 4 USD = total loss of about 34 USD, equivalent to 3.4% of the principal.
You might think that opening a position is just a matter of pressing a button for a few seconds, but in a highly volatile market or if you are going against the market trend, the funding rate will not just be this number. Accumulated over eight hours, it can be quite considerable.
Contract opening simulation: Taking December market conditions as an example
If we look at Bitcoin's market trend in December:
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The average volatility of Bitcoin in December is about 4.40%. This means the price of Bitcoin fluctuates by an average of about 4.40% per day in December. If you open more than 20 times leverage, liquidation becomes easy. On December 5th, even contracts below 10 times leverage would be liquidated. It can be seen that Bitcoin's recent trend fluctuates between rises and falls, making it easy to bet on the wrong market direction.
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If we calculate based on the highest BTC price in this round, when it collapsed below 92,000, it actually retreated nearly 15%. This means that even with a leverage of nearly 5 times, there is still a chance of liquidation in a bull market.
Moreover, this is relatively 'lower volatility' Bitcoin. If it were other altcoins, the daily price fluctuations would be larger and easier to liquidate!
Why is holding spot in a bull market better than contracts?
Holding spot in a bull market is usually more advantageous than opening contracts, mainly because the overall trend in a bull market goes up, and spot trading can better capture the long-term rising dividends of the market, while the high risks of contract trading may actually weaken investment returns.
Moreover, even if you think a bull market is just going up and you opened a bullish contract, any brief price retracement can lead to liquidation, especially with high leverage. Even a small retracement can force investors' positions to be liquidated, causing them to miss out on subsequent market recovery opportunities.
Ultimately, contract trading requires continuous payment of funding rates. If you hold positions long-term in a bull market, these fees may significantly erode your profits, while spot trading only requires a one-time transaction fee, thus incurring lower costs.
For most beginners or investors with low risk tolerance, trading spot in a bull market is definitely a more stable choice.
But if you must open a contract
Remember that the original purpose of contracts is to hedge risks, not to make you take more risks. If you still decide to enter the contract market, consider the following suggestions:
・Control Leverage: It is recommended to choose a low leverage, such as within 5 times, to reduce the risk of forced liquidation due to short-term market fluctuations.
・Set Stop-Loss: Clearly set a stop-loss price before trading. When the price reaches that point, promptly stop-loss and close the position to effectively prevent rapid liquidation during market reversals.
・Reasonable Capital Management: Many people want to use contracts for quick profits because their principal is small, but in fact, the smaller the capital, the more cautious they should be. Avoid putting too much or even all of your funds into contract trading, and control your position size reasonably to ensure that capital losses remain within a bearable range.