Crypto Futures Are in Contango, Creating Potential Opportunities for Savvy Traders

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Cryptocurrencies may be new financial assets. But that’s not keeping some savvy traders from using one of the oldest strategies in the book: “cash and carry” income plays.

Bitcoin futures currently trade at a premium to the underlying price. For instance, CME’s June contracts on (BTCM21) closed at $60,445 on Wednesday. Bitcoin’s spot price (BTCUSD) was $58,950 at the same time — a difference of almost $1,500.

A similar situation existed for Ethereum, the No. 2 digital asset. Its June futures contract (ETHM21) closed at $1,971.75. Meanwhile the underlying price of Ethereum (ETHUSD) was $1,941 — a difference of about $31.

In both cases, the longer into the future you look, the more expensive the futures contracts are. Experienced traders will recognize this pattern as “contango,” which is common in the world of commodities like crude oil and gold.

What’s Contango?

“Contango” is a play on the word “continuation.” It’s when futures on a commodity cost more than the underling product, with higher prices on longer-dated futures.

Contango is normal for products like oil or gold because there’s a cost to carry them. An investor buying oil today and delivering it in three months would need to rent storage and finance his or her position. The futures market accounts for these expenses with higher prices along its forward curve.

“Backwardation” is the opposite of contango. That’s when futures are cheaper further into the future. Backwardation can be bearish, suggesting prices will decline over time.

Bitcoin futures, daily charts, highlighting multiple expiration months.

What’s Cash and Carry?

Some futures traders have developed the “cash and carry” strategy in an attempt to capitalize on contango. They hold the physical product and sell futures against it. The approach has two major benefits.

First, this strategy is a form of hedging because it’s long and short at the same time. If the underlying product gains value, they’ll make money on the physical. They’ll also likely lose some money on the futures. The opposite is true in the case of a drop. The physical loses value but the short-future position gains.

The second benefit of cash and carry is that a short-future position will lose value relative to the underlying. (Assuming it was entered when prices were in contango.) When underlying prices rise, the spot price will increase more than the futures. When prices fall, the futures contract will drop more. This is the potential beauty of selling futures at a premium: There’s usually some value to decay over time.

The downside of the strategy is that traders may face margin calls on the short-futures position if the underlier rallies.

Bitcoin Futures

As mentioned, it costs money to hold a physical commodity like oil or gold. That can reduce the profitability of cash-and-carry trades.

But that’s not true for cryptocurrencies like Bitcoin and Ethereum. Both can be held without storage costs. (However, some cryptocurrency futures specify storage requirements with associated costs.) In fact, investors can earn interest on digital assets — the opposite of a physical asset like oil.

Ethereum futures, daily charts, highlighting multiple expiration months.

Bitcoin futures and Ethereum futures trade between Sunday evening on Friday afternoon on CME. They have monthly expirations and track the world’s largest cryptocurrencies by market cap.

Cryptocurrency futures trade at steep premiums to the underlying digital assets. This may reflect optimism about the prices over time. After all, major institutions are embracing Bitcoin as a store of value. Ethereum is in the midst of a key upgrade. It’s also expected to implement “fee burning,” which would reduce supply and potentially increase scarcity.

Still this is a complex strategy to execute that involves significant risks. Traders need to understand the potential for margin calls, price declines and market volatility.

Where to Learn More

You can learn about trading and investing strategies like this and more at our affiliate YouCanTrade.

If you are interested in trading cryptocurrency futures you can open a futures account at TradeStation Securities.

If you are interested in trading cryptocurrencies you can open an account with TradeStation Crypto. Bitcoin and Ethereum are both supported, along with others like Litecoin and Bitcoin Cash. In addition, you can earn up to 6 percent interest per annum on your eligible crypto holdings at TradeStation Crypto.

Investing in cryptocurrencies involves significant risks. Please see TradeStation Crypto’s Investment and Trading Disclosures Booklet for its risk disclosures on investment and trading in cryptocurrencies.

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