Crypto spot vs. margin trading: which one to choose?
One of the biggest dilemmas that traders have is deciding between spot and margin trading.
You might be wondering that you have to choose only one, but, actually, you can combine both markets if you want. Still, the majority of crypto traders would recommend you to focus on one of the markets, especially if you are a newbie.
Before starting your journey to the world of margin and spot trading, you should know the pros and cons of both variants. Let’s take a look at spot and margin trading to help you make the responsible choice.
What is spot trading?
As the name suggests, spot trading takes place on the current spot market where you buy or sell crypto on the spot. With spot trading, you actually ask and bid market participants immediately. Immediate is the right word for spot trading. Just take it in mind, with immediate deals you have to have the available assets to pay for your trade by the day of settlement.
For instance, you want to buy $2,000 worth of Ethereum. With spot trading, you actually need to have these $2,000 by the date of settlement. Otherwise, you can just say goodbye to Ethereum, because the exchange will not allow you to enter into the position.
Spot trading example
Spot trading is the same as buying things in real life. You see something, purchase it and profit from it. One important thing to remember is that you buy everything on spot using the available amount of money on your account.
Let’s say you want to buy bitcoin for $50,000. You are to have this amount of money on your account by the date of settlement. You buy BTC and wait while it rises to $60,000. Once it gets to this desired price level, you sell the asset and obtain your $10,000 as profit.
Advantages and disadvantages of spot trading
The advantages of spot trading are obvious. Coins are yours right after you buy them. You risk your own money and whether the price rises or falls, you will have the same amount in your hands.
Spot trading will help you to manage risk. In this case, you rely only on the balance you have. Losing money will only lead to “zeroing” of your balance and nothing more. Spot trading ensures that you only trade based on the assets that you own and avoid over-leveraging.
The biggest disadvantage in this case? Managing risks can actually be a downside in some situations. With spot trading, you are limited to the amount that you currently have. Thus, even if you have a strong conviction in a specific trading transaction, you can only make as much money as allowed by the capital you own. From $50,000 on your account, you can only make as much as $50,000 allow you to make. That’s it.
What is margin trading?
As the name suggests, with margin trading, you trade on margin. The concept is pretty simple, you trade funds acquired by the third party to leverage your position.
You don’t need the entire trading value to enter the position. All you need to do is to have a collateral or digital asset which is at the margin position you are entering.
Let’s roll back to our Ethereum example. With spot trading, you have two thousand dollars, you buy ETH and you have it on the account. That’s it. With margin trading, you may need only as little as 1% of the sum to begin a trade of $2,000 worth of Ethereum. Just $20 on your account might be enough to keep the position open.
What should you do with the rest of $1,980? You can withdraw them or search for more positions with bigger leverage to invest in.
Margin trading is inseparable from leverage which is your supporting tool to make more profit on the market, or your best weapon for self destruction.
Leverage is the use of borrowed funds needed to increase a trading position beyond what would be available from the balance alone. So, in simple words, it’s the amount of money you borrowed to enter the deal.
Margin trading is more risky because you risk not only your personal funds, but also the third party money. If you lose on the market you will still have to return money to the party you borrowed from.
With margin trading you play hard and can potentially earn much better gains than in spot trading. It allows you to fully open the potential of bearish and bullish strategies.
Margin trading examples
Starting from bullish strategy, let’s get back to the bitcoin example. Remember, we bought one BTC for $50,000 and sold it for $60,000.
Using margin trading, we could actually get much more from that deal. For instance we could find a 5X leverage for that BTC deal and buy not one but 5 bitcoins. 5X leverage means that with $50,000 on your account, you will have $200,000 to borrow.
We could use that borrowed sum to buy not one, but five bitcoins, wait for the $60,000 price tag, sell our BTC and receive $300,000 on our account. In that case, we would return $200,000 that we borrowed and get $100,000 as a profit.
That was a bullish strategy and now with a bearish one. For instance, we have 100,000 Dogecoins on our account. The price of DOGE is 5 USDT cents. So, we have 5,000 USDT worth of DOGE. We use 10X leverage to sell 1,000,000 Dogecoins and get 50,000 USDT. Wait till the price of DOGE lowers to four USDT cents and buy DOGE again.
Remember, we borrowed in DOGE, so we need to return in DOGE, so we have to buy 900,000 Dogecoins for 4 USDT cents. It’s 36,000 USDT.
We now have 14,000 USDT on our account. That’s our revenue. Originally we had 100,000 DOGE for 5 cents which was 5,000 USDT at that time. So,14,000 minus 5,000 and we get 9,000 USDT as our profit.
Advantages and disadvantages of margin trading
The main advantage of margin trading is big profits. Depending on your trading style, you can get advantage of your investments in crypto exchanges. With such a volatile market as cryptomarket, you can actually become very rich in no time, or vice versa of course, the risks are high.
The biggest risk and the main disadvantage here is that it’s possible for you to lose your money that you had as an initial investment. The borrowed money still needs to be returned. That’s why you have to be 100 times cautious with margin trading.
We would not recommend a beginner to trade on margin simply because the stakes are very high and it is better to master your skills first.
Try spot trading on EXMO right now!
