What is Spread Trading?
Spread trading is a trading strategy that simultaneously opens two positions: one “Long” position and one “Short” position. Therefore the spread is the price difference between these two positions. In practice, the trader is trading the relationship between two assets rather than the asset itself.
Can I Trade Spreads on Crypto?
On most exchanges, cryptocurrencies are traded against other cryptocurrencies like Bitcoin, Ethereum or USDT. This is primarily due to the way crypto space developed, as using fiat currencies like USD and EUR requires exchanges to follow much stricter regulations. It would also limit their accessibility to many retail users. Therefore, most exchanges use cryptocurrencies as a quote currency.
Because of this, pairs like LTC/BTC, XRP/BTC, ETC/ETH have gotten so popular in the space. Selling of a cross pair also is an example of spread trading. Essentially a very advanced step in trading, which confused most new traders. However, without cross pair trading, crypto space wouldn’t have become so popular, as few markets would exist.
Advantages of Trading Cross Pairs?
The main advantage of cross pair trading is that in a simplified way you can buy and hold the strongest crypto while selling the weakest, thus profiting from the spread. On the other hand, trading less popular pairs can be more costly due to lower liquidity. However, this issue can be overcome by trading futures.
If you would like to understand what are futures and what are the benefits of trading crypto futures, please read more in our in-depth guide on Bitcoin Futures Trading.
Disadvantages of Cross Trading
You can sell only what you have. Therefore, when the BTC price is falling, you should sell it. With a limited number of options, you can sell it against ETH or another crypto. However, as crypto assets are highly correlated, and the whole market would be negatively affected, you should sell your BTC against fiat currency or stablecoin. Back in the days of no stablecoins, traders either had to accept loss or sell it at a broker.
Growth of the Crypto Derivatives Markets.
The crypto derivatives market has exploded in recent years, with trading volumes far greater than the spot market, making it more liquid and cheaper to trade. That is why the derivative markets attract more traders and increase the volatility of the assets, making it a perfect market to apply spread trading strategies.
Types of Futures Spreads
There are two types of futures spreads in crypto trading.
First, you can create a spread on different cryptocurrencies or their perpetual futures, thus having similar products to cross pairs in crypto spot markets. Example: ETH/BTC.
Second, you can trade the same asset’s futures, but with different maturities. This strategy is also known as a calendar spread. For example, if you believe that BTC will continue to increase in price in Q1 of 2021, but underperform in Q2 of 2021, you can buy BTC March 21 future and sell BTC June 21 future. If the price difference narrows, you will have made a profit.
Benefits of Futures Spread Trading
- Low-Risk Strategy
Cryptocurrency markets are incredibly volatile. Therefore it is crucial to manage the risk properly. By trading spreads, traders are always hedged, and the direction of the market is less important, as long as the long position is performing better than the short. Moreover, in this setup traders can greatly benefit from a more volatile market. Due to the high correlation between cryptocurrencies, it is easier to predict the convergence after divergence, rather than one asset reaching a new price level. In the case of high market volatility, the traded pair can diverge and converge multiple times, thus creating numerous profit possibilities with limited risk.
- Clear Investment Opportunities
In most cases, crypto spreads trend more often in relation to the stand-alone futures. These trends are steeper and last longer.
- Diversification of Strategies
Spread trading in the highly correlated cryptocurrency markets also allows you to diversify your trading strategies. Based on the low risk, in comparison to trading on futures alone, the trader will have an option of implementing higher leverage or more volume in a single trade.
High risk trading on futures with low leverage can be substituted for the less risky option of spread trading with high leverage.
How to trade futures spread in crypto markets?
To start trading spreads on crypto futures you need a crypto exchange account that allows trading crypto futures and a TradingView account to see the chart.
In order to understand how the spread trading works in practice, let’s look at the example of ETH-PERP / BTC-PERP on Deribit.
First, let’s look at a chart. Go to TradingView chart and to get the spread of ETH-PERP / BTC-PERP on Deribit exchange type:
You will see the chart showing a spread price.
After setting the Take Profit and Stop Loss prices, you are ready to trade.
You can now open Deribit, and first, open the ETH-PERP in one window and BTC-PERP in another window. Once the price is acceptable for you to enter a position, enter a market order for each asset. As a result, you now should have two positions open.
To exit the spread, close both of your positions simultaneously.
Spread Trading Terminal
If you are trading spreads or would like to try this strategy, you can simplify it by using WunderTrading (Link). The web-based platform allows you to automate your spread-trading strategies and will execute them instantly for the base and quoted assets. The trading terminal will also construct all the spreads for you. However, if you do not feel comfortable doing this yourself, you can simply start copy-trading a trader applying spread trading strategies.