Derivatives in general are agreed upon contracts between two parties. Usually we are talking about agreeing upon a fixed value of a financial asset. Futures contracts are a perfect example of this. In the regular financial world you can set a futures contract as a security blanket if you’re selling an asset and you want to ensure that you’re able to sell your asset at a specific price point. Even if the price of the commodity or asset that you’re selling goes down in the general market. The party that agrees to the price is usually betting on the price of the commodity or asset to grow over the agreed period of time.
How does all of this apply to crypto world? For one crypto platforms have been very busy trying to introduce some of these financial instruments into the crypto market. They’ve existed in the traditional market for years on end. The main challenge with the crypto market is that in the traditional banking system, derivatives are provided by banks or large financial institutions. In the crypto world the lack of banks means that to apply these financial instruments we need to find a party willing to essentially issue the financial instrument. Blockchain platforms have found very creative ways to do just that. Essentially giving birth to crypto derivatives.
Why Crypto Derivatives Represent A Major Step For Decentralized Banking
The next logical step for decentralized banking was to be able to issue financial instruments that the traditional banking system was able to provide. The market itself for example may need liquidity in a particular token. This need gave birth to options like single sided liquidity pools. These are essentially funds that the market can access when it needs more of a particular token. How are these run through in a decentralized system? What happens is that investors can purchase a stake in the pool and earn dividends or interest payments when their pool lends tokens to the market for a transaction.
In a sense, it gives the regular investor the opportunity to become a banking institution. At least in this particular instance. That’s not the only financial instrument that exists in the crypto world. The futures contract possibility is another example of this evolution of the digital banking system.
Futures Contracts To Lock In The Price of Particular Tokens
Let’s say that you’re looking to buy a tangible asset with ETH. You can essentially create a future contract with another user to set the ETH price that the transaction is going to take place at. This can help ease the minds of a ton of investors. With the volatility of cryptocurrencies agreeing to a transaction at a set price was a gentleman’s deal in the beginning of blockchain technology.
These days you’re able to create a future’s contract to be able to “officially” lock in the agreed upon price at which the transaction is set to take place. This possibility alone that comes from the existence of crypto derivatives has given investors some well-needed peace of mind.