What are the differences between crypto spot trading and margin trading? You will come across seemingly endless options to get started with trading when you enter the crypto space for the first time.
However, just like you, there are thousands of people joining the crypto world every day and therefore you are left with a few choices.
Add to that, there are innumerable crypto exchanges touting to provide the best services which make choosing the best trading options all the more difficult.
Still, two of the most favorite trading options among the crypto users are spot and margin trading.
Now, you will need to choose one among the two trading options but that will not be an easy task if you do not know about the differences between them in the first place.
This is the right place to be in for that matter. This article will not only let you know about those differences between crypto spot trading and margin trading but will also help you to make the right choice in the end.
Just make sure that you go all through the article, especially the ‘Which is better’ section.
Though spot trading and margin trading may seem similar to a newcomer since both involve trading crypto assets, the difference lies in the fact that borrowed funds are used in margin trading to capitalize further on the price swings of a particular underlying crypto asset.
Crypto Spot Trading vs Margin Trading – The Differences
In addition to the above, there are lots of other differences between crypto spot trading and margin trading which this article will tell you about.
Here are a few basic and beyond-the-basic differences between them for your clarification.
This will help you to make a better and proper comparison between these two popular trading options in the crypto world and make the right choice in the end.
In the basic sense, crypto spot trading is the most common form of trading and investment. It is a process that involves the normal buying or selling of crypto assets.
In this process, you typically spend one type of currency to get another. It involves direct sale and purchase of Bitcoin, Ethereum, and others physically. The buyers own the coins directly that they purchase from a spot trade.
On the other hand, margin trading is not like the normal buying and selling of crypto assets. Instead, in this process, one product is chosen essentially as a bet on its price.
It is usually done with borrowed money with anticipation that the profits will be amplified. This form of crypto trading resembles the speculation trade of an asset and the main intention is to capitalize further on the future price movements of the underlying crypto coin.
Beyond the Basics
There are different crypto exchanges that allow the users to engage in spot training such as Binance. The process comprises both buyers and sellers.
They agree on the bid and offer prices and once these two matches, a spot trade is facilitated. Since the crypto exchanges operate online and are open 24/7, spot trades can be made from anywhere in the world and any time of the day.
The newcomers in this world can buy crypto coins with fiat currencies on these crypto exchanges. They can even decide on the specific price they want to enter into the market or hold a position.
On the other hand, margin trading involves creating a margin account that allows the crypto traders to borrow money from a third party. In order to initiate the process, the traders need to put in some collateral, which is called the ‘margin.’
The amount of collateral to be committed depends on the leverage ratio, amount of investment, and other factors. The third parties provide these funds to the traders and in return gain interest in it.
The amount of interest earned however depends on the demand in the market for margin funds. The traders use their funds to leverage their profits and it enhances the potential to gain a higher amount of capital in the end.
Apart from the fact that crypto spot trading is a pretty straightforward process, there are also several other advantages of it that are mentioned below.
- One of the most significant benefits of it is that the traders do not need to go through a steep learning curve since the rules of this trade are very easy to understand.
- The risks and rewards in this form of trade are also quite transparent and easy to grasp and are proportional to the amount you invest.
- The entire trading process involves simply investing and allowing the market to do the rest. It needs very little effort from the trader in particular.
- The traders can invest any amount, big or small, in a spot trade, and thereafter build on it as they desire.
The best part of spot trading is that it will allow you to stay for a longer time period in the crypto market.
And, for the starters, spot trading is particularly useful because it helps them to manage their risk. There is no chance of losing more than what they already have in their account.
This is because they are allowed to trade only the balance that they own and therefore it disallows over-leveraging.
On the other hand, the benefit of margin trading, which resembles spot trading to some extent, is that it allows the traders to leverage their positions significantly.
This means that the trader who uses margin will experience a more amplified volatility. If you do everything right in margin trading and at the right moment, you can make a lot of profit.
Also, your trading style can provide a lot of advantages in margin trading. This is because you can enter into positions that you believe have the potential to provide high returns, even if you are a low frequency trader.
A significant demerit of spot trading is that the potential profits that you can make in this form are never as high as that you may realize in other alternative forms of crypto trading.
This is because margin trading will offer leverage just like futures trading which is not an upside that you can expect in spot trading in particular.
The fact that you can manage your risks in spot trading is also a disadvantage in itself in a few specific situations.
This is because you can trade only that much that is allowed by the balance in your account. Therefore, you will not be able to take full advantage of the good trading opportunities that may come by off and on.
Apart from that, the fact that a spot trade moves according to the market only can be your concern. This means that your account will dip when the market falls, and, conversely, your account will grow when the crypto market experiences an uptrend.
All these means that you will find spot trading can be quite stressful when you operate since the crypto coins are known to be extremely volatile in general.
In comparison, if you are interested in margin trading, you should keep in mind the rate of interest that is applicable to each on an hourly basis. This rate can vary from one crypto exchange to another.
This eventually means that when the level of a margin is reduced, you will need to put in more collateral to hold your position or reduce the leverage.
Typically, the margin cost can add up pretty fast to a significant amount which is known as the margin call.
This is because a higher ratio will result in a faster plunge of the margin level. And, if you make smaller investments, your trade can become much riskier in terms of rewards and costs.
And, being able to trade up to 100 times of your capital also means that you may lose a lot more money than what you own or the initial investment. This is not possible in spot trading because there you can lose only the amount that you own as your capital.
In margin trading, your position can be liquidated when there is not enough collateral when it is needed to support the losses that you may incur over time.
Process to Follow
Assuming that you choose to trade on one of the most popular crypto exchanges Binance, here are a few specific things to remember to get started.
For margin trading on Binance, if your country is not restricted that is, the process is quite easy and includes:
- Creating a margin account
- Completing the identity verification process via KYC
- Enabling Two-Factor Authentication or 2FA
- Going to the account balance information
- Choosing Margin among margin details and exchange
- Reading the margin account agreement careful and selecting ‘I understand’
- Transferring funds into your newly created Margin Trading Wallet from your Exchange Wallet that acts as your collateral
- Clicking on Borrow/Repay and entering the amount you want to borrow and
- Clicking Confirm Borrow.
The fund will be transferred to your margin account and you can check it by clicking on the balance/margin button and you can start trading.
On the other hand, if you want to make a spot trade on Binance, the process to follow is much simpler than those involved in margin trading.
- First, you will need to sign up with Binance in order to create an account.
- Secondly, once you are done, you will need to visit the Binance homepage and hover over Trade to find the trading platform.
- Finally, click on Classic on the homepage.
Under the Classic trading view, you will find multiple options. You must click on spot trading to start with and then follow the steps mentioned below.
- Choose the crypto pair you want to trade with on the spot market. Here you can buy crypto coins with fiat currency as well as exchange the ones you have for other tokens as well.
- Go to the chart view to know the price from the customizable past price data of the particular crypto asset you want to spot trade.
- Check the order book that lists the entire open buy and sell orders of a crypto asset according to the price. Remember, the buy orders are colored green and the sell orders are represented in red.
- Choose the lowest price that is on offer to make a market order to buy the crypto asset. If you need more volume to fill your order you may choose the subsequent lowest ask price.
- Finally, create your buy order or sell order and check it on the Spot section, and under it, you can also make a choice between Limit orders, Market orders, and Stop-limit orders.
You will also need to choose and use some technical analysis tools from the variety of them offered. You can view these tools in the TradingView which is inbuilt in the window.
Which is Better – Crypto Spot Trading or Margin Trading?
In the crypto world, if you want to be a successful trader, you will first need to choose the right trading option.
It should not only be productive but you should also be confident and convenient while following the trading strategies.
In that regard, both crypto spot trading and margin trading options are good enough to go for.
Since each comes with its characteristics, features, pros and cons, it may not be easy, if not impossible, to say which is better among the two.
It is all about your trading style and preferences and their suitability.
Therefore, you should be concerned about choosing the trading option between spot and margin that suits you as well as your crypto trading objectives in the best possible way, apart from choosing the right crypto exchange to start with.
And, for that, you will need to know the following facts and factors apart from the differences between them that are already mentioned above.
You may be allowed to perform a margin trade in a spot market but that does not mean both these are the same.
In fact, as mentioned earlier, spot trading needs to purchase the crypto asset fully and immediately and take delivery of it.
On the other hand, you are allowed to borrow funds on interest in margin trading from a third party.
This will allow you to enter a larger position and significantly enhance the chances to make more potential profits.
However, at this point, you should remember that in margin trading the chances of incurring losses are also amplified.
Therefore, you should be very careful while following it so that you do not lose all of the initial investment made by you.
Here are a few specific things that you should keep in mind, particularly if you are interested in margin trading. These are:
- One, you can make really outsized profits in margin trading only if it is trending currently. In fact, you can trade anywhere from two to ten folds, which will inflate your initial investment pretty quickly.
- Two, you should be responsible enough to use margin trading as your hedge investment in your crypto portfolio by diversifying it. This will protect your investment from the major downturns in the market conditions.
- Three, you should always use proper tools for margin trading such as stop-limit orders. This will also protect your investment and you from incurring costly losses.
Add to the above, you should also be very careful with the balance dash that comes with the margin level gauge.
This gauge relates the level of risk to the funds borrowed or the collateral committed by you and the market value.
There are good reasons to care for the margin level because if it falls you will have to either reduce the borrowed fund or increase your collateral commitment.
Do not miss this part because when the margin level reaches 1.1, it will be liquidated automatically.
This means that the crypto exchange will sell off the funds to repay the loan at the prevailing market price.
At this juncture, it is also good to know that the margin level is typically calculated by using the formula below:
Margin Level = Total Asset Value / (Total Borrowed + Total Accrued Interest)
Therefore, in the end, it can be said that the difference between crypto spot trading and crypto margin trading boils down to the risks and rewards involved in both.
As it is, the crypto market is very risky, even more than trading bonds, stocks, currencies, commodities, and others.
This is because the prices of all crypto coins are extremely volatile and a rise or fall of 10% on the current price in a day is a regular feature and is nothing unusual.
Margin trading is far riskier than spot trading in comparison but the good news is that it offers a far higher level of returns, often ranging anywhere from 2 to 100 times.
If you get everything right, it is good for you. You repay the loan and keep the rest of the profit, which is far more than what you could have earned by betting with your own money only.
However, if you are wrong, it could be a bad headache for you since you will still owe the money borrowed from the third party along with the interest on it as well as the transaction fees. That is quite a lot of money!
Ideally, at the end of the day, the form of trading that you will choose would come down to you, wholly.
That is because your trading style and preferences may be different from the others and no one else understands you better than yourself.
Your knowledge of investments and your risk tolerance will play a significant role in deciding which among crypto spot trading and margin trading is the right strategy for you.
Finally, here is the summary of the contents of this article for you which will make it much simpler to understand.
Spot trading is most suitable for the newcomers in the crypto space as it is the basic form of crypto trading that involves the Buy-Hold-Sell mechanism, though the profit potential is not very high.
Spot trading is very easy to understand and manage risks wherein no trades happen if there is a downtrend in the market.
Spot trading allows holding crypto assets for a long time and even transferring assets to a cold wallet.
On the other hand, margin trading is for the experienced and advanced crypto traders since it is complicated which involves different complex aspects such as margin calls, maintenance margin, liquidations, and leverage.
Margin trading allows trading and making profits in both uptrends and downtrends in the market by going Long and Short respectively.
Margin trading allows trading much larger amounts even with a small capital by using high leverage.
Margin Trading provides higher returns but the risk of losing the entire amount in a quick time is also very high.
Therefore, you will need to understand the rules and regulations of the crypto exchanges fully and precisely when you use margin trading because the rules may vary from one exchange to another.
It is important to know the differences between spot trading and margin trading in cryptocurrencies because there are risks involved in them that you need to avoid. Thankfully, articles like this will help you a lot in that particular matter.