Margin trading is the practice of using borrowed money from a brokerage to trade a financial asset. This financial tool that has been around for decades offers flexibility to investors who want to amplify their gains from market swings. Today, margin trading is considered as one of the most popular trading strategies in the crypto industry.
Investors looking to trade cryptocurrencies but only have a limited amount of funds to work with often engage with this practice. By borrowing additional capital from a broker or crypto exchange, they can increase their buying power. Furthermore, it allows them to execute more complex trading strategies. Generally, there are interests applied to the funds borrowed, but not always. Let’s take a deeper look.
How does margin trading work?
Let’s say you are confident that a particular cryptocurrency will soon increase its price shortly and you want to take advantage of the situation. However, you only have $500 to spend in your trading account, and you know that if you have more capital to use, you could end up reaping a more significant profit.
Since margin trading allows you to borrow extra capital that is typically against what you already have in your account, you could have $500 more, setting your purchasing power at $1000. If the price swings in your favor, then you’ll reap a double amount of profit.
However, while the opportunities for gains can be high, you are also up to significant risks. Regardless of how the asset you bought performs, you are obliged to pay the amount you borrowed. In case the market moves against your favor and the price of your asset fell, you still have to pay the money back, plus the interest.
What are your options when you opt for margin trading?
Opening a long position.
You will want to take this option if you are confident that the price of a particular cryptocurrency will soar in the coming days. Your primary aim would be to use the margin trading level to a maximum and reap the rewards once the price you’ve predicted happens at the market. However, keep in mind that while it has the potential to boost your profits, it could also amplify your losses.
Opening a short position.
Meanwhile, entering this position means you believe on the flipside. You observe the market, and you think that there would be a drop in the crypto’s price anytime soon. Your primary aim would be to sell your digital currency and repurchase it once the price drops and amplify your gains when the prices increase again.
What are the common risks involved in margin trading cryptocurrency?
It’s well known that cryptocurrencies and associated markets are incredibly volatile. It is the reason why you should do your homework and gain experience first before diving in. As experts often say, this financial tool can increase your losses the same way it amplifies your gains. It’s unpleasant enough to lose your own funds when trading in cryptocurrencies, how much more if there’s a borrowed capital that’s included in the picture?
The most significant risk associated with this practice is that it can provide you with huge losses. Once your judgment or price prediction goes wrong, you might get a margin call. It happens when the price of your stock severely falls, and the overall condition of the market is also in decline. The rule is, you have to maintain a minimum value of securities in your margin trading account throughout your whole sessions. Your initial margin would depend on the rules of your lender. So, in the event the odds went against your favor, and you failed to maintain your minimum margin value, the exchange would require you to deposit additional funds.
In case you don’t have the needed cash or securities, the exchange has the right to put your stock up for sale, the one you purchased using the margin. They can do it even without your knowledge or authorization. This practice would often leave you with nothing.
Are there standard regulations in margin trading crypto?
As opposed to conventional stock exchanges that are governed by standard regulations, the rules in margin trading cryptocurrencies can vary from one crypto exchange to another. However, there are ongoing efforts that aim to achieve uniformity.
Let’s take Japan as an example. A notable association of crypto exchanges in the country had proposed to put a cap to the amount lendable to margin traders. According to reports, traders can leverage the amount of their investment up to 4 times. Notably, the main reason behind the proposed change is to safeguard investors from massive losses due to the market’s volatility.
Trading platform Coinsbit which has rolled out operations just recently also announced that it would implement a margin trading limit in the latter part of this year.
Kraken, a US-based crypto exchange, allows margin traders to leverage up to 5 times. However, the maximum level is only available to clients whose identities have been verified by the exchange. Another major exchange OKEx, provides traders the chance to leverage the amount of their capital up to three times.
Is it recommended to use margin trading?
Self-respecting crypto exchanges warn traders about the risks, complexity, and volatility associated with this financial tool. It is common knowledge that there is no guaranteed profit when you engage in margin trading. Its main principle is: “to gain is to risk.”
Regarding the recommendation of this trading option, there are two things to keep in mind.
If you’re a trader who had already learned effective risk management methods through experience and if you already have the discipline, then you are likely to build fortune using this strategy. However, if you’re an amateur who only seek for quick profits, then margin trading is probably not the most recommended trading options for you.
For additional tips, always remember that it’s your money on the table. Set your limits and do not invest more than what you can afford to lose. Furthermore, set your profit target as this can help you determine the best time to exit a trade.
Do all crypto exchanges offer margin trading?
Margin trading is available on most crypto exchanges, but not all. Aside from Kraken and OKEx mentioned above, here are five Crypto Margin Trading Exchanges that have been ranked as the best.
Deribit – Currently, this Netherlands-based exchange is considered as the most popular platform for margin traders in the industry. Perhaps, it helped that the services are available to all countries, including the United States. Deribit clients can leverage their capital up to 100x.
Binance – It is the world’s largest crypto exchange in terms of trading volume. However, it was just recently that the platform offered options for margin traders. On top of that, Binance requires clients to verify their identities as per the set KYC standard. It’s also worth noting that many countries are banned from using Binance’s margin trading services, including the United States.
BitMEX – Just like Binance, BitMEX is considered an amateur player in crypto margin trading industry. However, the exchange managed to build a solid reputation in just a short time. Traders can increase their profit level up to 100 times. Currently, the service is not available to clients based in the US. However, American customers used to bypass the restriction using a VPN.
Huobi Pro – It is a Singapore-based cryptocurrency trading platform. It became notable in the industry for providing international-multi language support. Interested investors have to register using their email addresses. They are also required to submit KYC documents. Once verified, clients can boost their investment up to 5 times.
Poloniex – This platform has been offering margin trading services to clients since 2014. It is one of the earliest crypto exchanges in the industry to provide such option. Just like Binance, this platform requires interested traders to verify their identities by submitting KYC documents. Operated by payments Tech Company Circle, Poloniex allows traders to borrow up to 5x the amount of their original investment.