The increasing popularity of all kinds of cryptocurrencies over the last year has led to this emerging asset class becoming a vital part of many retail and institutional investment portfolios. Thus, a variety of strategies are being implemented to enable investors to best exploit the unpredictable crypto markets.In this post, we will mention what pairs trading in Crypto is, how cryptocurrency pairs trading works, the best pairs to trade and what potential risks are involved. Let’s read for more details.
What is Pairs Trading in Crypto?
Pairs trading is a crypto trading strategy that entails the simultaneous purchase and sale of two closely correlated currencies with the expectation that one will outperform the other. Pairs trading is a market-neutral trading method that minimizes the risk of a losing transaction by longing one pair and shorting another.
A trader, for example, may place a long-order on Bitcoin (BTC) and a short-order on Ethereum (ETH) and then terminate one trade when it begins to underperform. This is a market-neutral trading strategy that traders may use to protect their trades and limit their losses in the unpredictable cryptocurrency market.
How Does Pairs Trading Work?
A pairs trading is conducted based on the correlation between two pairs or values on the exchange. These pairs are often a crypto paired with a stable coin such as BTC/USTD. To make a functioning method, a trader needs two pairs that will carry out long and short trades at the same time.
To commence with a trade, the pairs are even and yield equal returns. When the pairs deviate from each other and the trader finds one pair outperforming the other, the underperforming pair is stopped and the profitable pair is saved. The profit is produced when the winning trade pair yields a return and the trade is finished.
For instance, if a trader longs the BTC/USDT pair and shorts the LTC/USDT pair, and the BTC long is successful, they can finish the LTC short and continue with the BTC long until they close the trade. They effectively insured their transaction and terminated the underperforming trade as it began to generate a negative balance.
What are the best cryptocurrency pairs to trade?
When formulating a crypto pair trading strategy, you need to analyze which pairs are most popular on all the various exchanges. In cryptocurrency pair trading of a crypto-fiat pair, Bitcoin is the top choice due to global demand.
Bitcoin pair trading is popular because BTC, as part of a pair, offers a myriad of trading opportunities. It is listed on all exchanges, has a high market capitalization, and can be traded for a large choice of different currencies. Almost as popular is Ethereum, with the high usability of the smart contracts available on its platform, as well as USDT, which has gained a great deal of traction as it is a leading stable coin, with an exchange rate linked to the US dollar. BTC/ETH, USDT/BTC, BTC/LTC, and ETH/LTC are popular pairs.
Besides, liquidity is crucial since it allows you to find buyers quickly and easily. As a result, you should check the trading volume of your chosen coins, as always being able to sell implies that a bear market will not cause you to lose money by forcing you to accept a low exchange rate.
What are the risks of crypto pair trading?
When it comes to pair trading in cryptocurrency, there is a certain degree of risk involved:
- Correlation Breakdowns: This one is a potential risk, as your pair trade could suddenly lose money if your currencies move in unanticipated directions.
- Using exchanges: Holding your coins on an exchange is not without risk. Exchange wallets are vulnerable to hacks and unfortunately have a history of losing crypto owners’ funds.
The crypto market is likely to change suddenly and unexpectedly, even the smartest traders. One way to minimize risk and trading losses in the markets is to use market-neutral trade strategies to protect your trade, such as trading pairs. Using pairs trading, traders can find profitability in all market conditions.
Pairs trading is one of the most basic hedging strategies. A trader merely needs to select two pairings and begin long and short trades at the same time. The transactions will initially be finished, and when they begin to diverge, the trader can close the underperforming trade and maximize their gains on the winning trade.
Disclaimer: Information is current as at the date of publication. This is general information only and is not intended to be advice. Crypto is volatile, carries risk and the value can go up and down. Past performance is not an indicator of future returns. Please do your own research.