If you are already into crypto you might have heard of the term spot trading. There are several ways to trade crypto among them such as futures trading or options trading. Spot trading occurs on the spot market which is either based on an exchange or is settled directly between parties as over-the-counter trade (OTC).
The parties involved usually settle the trade immediately. Unlike the other examples mentioned above, spot trading allows one to buy and hold the crypto-asset in question. This also comes with certain limitations since parties have to own and exchange one asset for another or for a fiat currency directly. Therefore, leverage trading or margin is not available when participating in the spot market.
If spot trading is happening on an exchange, the exchange involved usually takes a small trading fee from both parties to cover the costs of providing and maintaining a marketplace. In the case of OTC trades fees depend on where the trade is settled. A so-called OTC desk might also take a fee for connecting buyer and seller, while fees are certainly excluded if both parties settle their trade on their own terms and without a third party involved.
What are spot markets?
Spot markets not only exist in crypto. The Nasdaq and New York Stock Exchange are also both spot markets where stocks are traded. That being said, there are also spot markets for other asset classes like commodities, shares, bonds, or forex.
The spot market allows easy access to these asset classes since assets are acquired directly. While trading a market might be difficult, the financial products and assets that are traded on a spot market are not necessarily complex. Usually, the buyer purchases the asset for fiat currencies which are then delivered immediately.
When talking about the spot market in crypto these assets are either tokens, stablecoins, or cryptocurrencies. Either can be delivered after purchase on an exchange wallet or on a personal wallet. At LiteBit your purchase will be first credited to your LiteBit wallet and if you wish you can withdraw the purchased asset to another wallet for a transaction fee.
What is spot trading?
A person or entity trading the spot market is called a spot trader. Spot traders purchase assets speculating that they will appreciate in value and will allow them to sell them for a profit at some point in the future.
The current price of an asset that is traded on a spot market is also called the spot price. There are two types of exchanges that offer you different order types. Brokers usually offer the option to “market buy” or “market sell”. This allows you to buy or sell at the spot price.
The second option is the so-called “limit order”. This order type will allow you to set a buy or sell order above or below the current price. It might get filled when the market moves but it doesn’t have to. The difference between a broker and an exchange is that the exchange will operate an order book and match your order with orders from other customers. This might create a situation where your order won’t fill at the desired price because there is no seller or buyer available at that price. A broker on the other hand will execute your order in full size to the agreed price but you cannot set limit orders.
The price is set in real-time on both brokers and exchanges. When trading OTC things a very different. The buyer and seller have to agree on the price and size of the trade. Parties usually opt for OTC deals in order to facilitate trades that involve larger amounts of money. In crypto, some OTC desks offer a minimum order size of $250.000 while others won’t take orders below $500.000. Such an OTC desk has a list of clients that have enough liquidity for larger deals and also might make offers such as: I’m interested in buying 10.000 BTC at a fixed price of $300 million. As soon as the desk finds a matching party the deal is initiated.
DEX vs CEX
When it comes down to exchanges in the spot market there are two types of it:
- Centralized exchanges or CEX
- Decentralized exchanges or DEX
LiteBit for instance is a classical CEX that offers its customers the opportunity to enter and exit the market using Euro payments. Decentralized exchanges on the other hand work very differently. They are usually a protocol that is run on a blockchain with smart contract capabilities. A DEX requires its users to hold their own crypto in their wallets and traders can only enter or exit the market using crypto.
An example of a DEX is Uniswap on Ethereum. While Uniswap is not only an exchange but also an AMM protocol, traders don’t have to verify themselves but can interact on the blockchain pseudonymously. A CEX on the other hand requires traders to go through a know-your-customer (KYC) process where parties are identified. This adds additional security for both the service provider and the customer.
Both CEX and DEX are demanding fees for trading. Fees are usually deducted when a single trading transaction is conducted. A CEX charges fees for providing its service, personnel, security, and custody. Decentralized exchanges on the other hand take fees and distribute them among liquidity providers since the matchmaking for orders is different from centralized exchanges.
What is the difference between spot markets, futures markets, and margin markets?
Margin is similar to the spot market only with the difference that traders use leverage by borrowing cash or an asset. The funds or assets are borrowed from a third party that receives an interest rate in return. Margin trading is considered a more complex trading product since traders have to maintain a position that serves as collateral.
Should the trade reach a point where the trader is facing a considerable loss the exchange automatically liquidates all assets. Hence the term margin call. The upside of margin trading is a potentially higher return and the downside is a potentially higher loss. While a spot position can be held as long as the buyer wishes without any additional costs involved a margin position comes with maintenance fees.
The futures market also offers the opportunity to use leverage. The difference to the margin market is that futures are derivatives meaning that the parties involved are not buying the assets directly but settle a contract after a certain period of time over the index price of the underlying asset. Futures allow traders to participate in a market without holding the asset. It is worth mentioning that some futures are being settled in US-Dollar while others are settled with the underlying asset being delivered at the end of the contract. For instance, this could be crude oil or any other commodity or a digital asset like Bitcoin.
Advantages of spot trading at LiteBit
Spot trading on LiteBit has some specific advantages our customers enjoy:
- Prices are always transparent and since we offer access to a spot market they only rely on supply and demand. Futures on the other hand are more complex since they are often using an index that relies on the average prices of multiple references.
- Risk is easier to manage when spot trading on LiteBit. There are no complex rules involved which makes it easier to decide how much risk you are taking and how much of a reward is to be expected. Our customers basically have to calculate entry and exit prices and apply fees, which makes it easy to manage expectations.
- You don’t have to manage your positions constantly. Margin and futures trading involves liquidation risks and fees to maintain a position. Spot trading on LiteBit on the other hand requires only to pay fees when entering the buying or selling a position. The only thing that traders have to pay attention to is the price and whether they like to enter or exit the market at its current state.