A leveraged token, a financial derivative instrument like leveraged trading, is very popular in the financial market. Leveraged tokens are similar to the traditional leveraged products that form their price systems based on the underlying asset’s prices multiplied by a ratio (say, two or three times).
These derivative instruments magnify returns or losses on a particular asset through leveraged positions. They essentially allow traders and investors to magnify their returns without the need for any collateral. Additionally, no time limits are applied on leveraged tokens, and the price never goes to zero. This avoids liquidation risks in leveraged trading. Traders can buy or sell leverage tokens in the secondary market at the market price or limit price using a spot aggregation.
Advantages of leveraged tokens
Compared to traditional trading such as leveraged tokens provide unique benefits to those who understand the functioning of leveraged tokens.
- Traders gain exposure to trade positions and opportunities to earn higher profits.
- They can trade from any leveraged position without requiring any collateral.
- Moreover, a higher utility of funds allows users to generate more profits from their capital.
- During unfavorable market conditions, the liquidation risk is reduced.
- Traders can leverage the compounding effect and earn higher returns from the trending market conditions.
How to make money from leveraged tokens?
Although a leveraged token is bought or sold like regular digital currencies, they function quite differently from the standard crypto coins or tokens. Leveraged tokens allow traders to multiply their profits by betting on increasing or decreasing prices. Hence, when there is a change in the price of an underlying asset, the price of a leveraged token also changes depending on the leverage.
For instance, if a trader on BYDFi holds ETH3L/USDT token worth $250 with a leverage of 3x when the price of ETH rises by 3%, traders can make a profit of 3X3%=9%. This gives the trader a gain of $22.5. However, if the price reduces by 3%, the trader loses $22.5. Essentially, for every 1% ETH rise or fall, the currency pair ETH3L/USDT increases or decreases by 3%.
Leveraged tokens rebalancing
Rebalancing involves how a trade position of leverage tokens is programmed automatically to increase or decrease to avoid liquidation risks while maintaining the target average. BYDFi follows a dual leveraged token’s rebalancing mechanism discussed below:-
General Rebalancing – Generally, leveraged tokens are rebalanced daily on BYDFi to ensure a steady leverage ratio is maintained at a specified level. As the time spans at least one repositioning cycle, the leveraged tokens can no longer guarantee a long-term rate of return, and the asset’s return rate remains in a fixed tracking relationship.
The rate of return of any leveraged tokens in a market with a single trend will be higher than the given tracking index. Simply put, the leveraged token’s cumulative increase in the same direction will be three times the asset’s increment. In contrast, the leveraged token’s cumulative decrease in the opposite direction will be three times the asset’s decline.
In the volatile crypto market, the performance of a leveraged token will be poorer than the given leverage ratio. Hence, the tokens become more suitable for trend markets or unilateral markets.
Threshold Rebalancing – BYDFi carries out threshold rebalancing only when the underlying asset’s rise or fall triggers the fixed threshold to control the expansion of risks. For instance, if the BTC price plunges by 15%, the traders BYDFi makes a threshold rebalancing on BTC3L of the leveraged tokens to reduce the losses during extreme market conditions. The trigger threshold will trigger when an underlying asset plunges by 15% in a rebalancing cycle, which can diminish the wear and tear resulting from frequent rebalancing.
What types of leveraged tokens does BYDFi offer?
Leveraged tokens have attracted many traders who look out for potential returns and amplify exposure in the volatile crypto market that offers a simple alternative to the otherwise complex crypto margin trading strategies. BYDFi has introduced 24 new leveraged tokens expanding the range of options available for its users for trading leveraged tokens. The platform has emerged as a pioneer in the crypto exchange industry with its unwavering commitment.
In addition to the wide range of leveraged tokens, the platform maintains a competitive edge by providing many other features, including robust liquidity, minimal slippage, and maximum leverages of up to 200x. As per our BYDFi review, it supports various leveraged tokens, including BTC, ETH, DOGE, XRP, and SHIB. 24 new leveraged tokens that were recently added include SOL, SKL, GALA, LUNA, FLOKI, ALGO, QNT, HBAR, AXS, JASMY, FIL, and XLM.
Managing risk with leveraged tokens
Traders often purchase leveraged tokens without understanding how they operate. Leveraged tokens have a target leverage that needs to be maintained to allow the token to rebalance automatically. If the token makes money, the profits must be reinvested; otherwise, some of its position will be sold.
Unlike margin trading, Leveraged tokens do not require traders to do anything additional. There is no margin or collateral to worry about. The liquidation risk is quite low due to rebalancing. Even if the token price drops, it will sell off a part of its position, making it least likely to be completely wiped out.
Another significant risk of leveraged tokens is the negative effect of volatility, or volatility decay, on investments. Even with minor price movements, volatility decay will eat away the investments.
Additionally, it must be noted that leverage tokens are not considered long-term investments due to management fees and volatility decay. Cryptocurrencies are highly volatile; hence, if the traders hold their leveraged tokens for too long, there is a strong chance of losing money. For most traders, buying and holding cryptocurrencies without adding leverage that amplifies the price movements is highly recommended.
All in all, all traders must spend ample time carrying out extensive research first and invest money only if they are comfortable losing.
Traders can participate in leveraged trading without any liquidation risks on BYDFi, with more than 30 leveraged tokens supported on the platform. Leveraged tokens allow users to take a leveraged position in the crypto market where their gains and losses get multiplied. These are suitable for traders with a high-risk tolerance and are recommended for short-term investments.
Purchasing leveraged tokens can dramatically boost a trader’s profit, assuming they are correct in the direction in which the token moves. Leveraged tokens are not-beginner friendly, given the risks involved, and traders can lose a substantial portion of their investments very quickly. Hence, it must be adequately researched before putting money into leveraged trading.