The Best Way to Short Ethereum
Published April 9, 2022.
The Basics of Shorting Ethereum
With Ethereum's upgrade of the consensus layer and merge underway, there will be many activities on the mainnet. Following the merge, the existing proof-of-work layer on Ethereum will be replaced by the Beacon Chain’s proof-of-stake. So, as institutional investors and everyday users move funds in and out of Ethereum, there could be a huge opportunity to profit from selling the asset. When the price of Ethereum has been moving up over time, simple RSI indicators can tell us that ETH is overbought or oversold. To short an asset, you borrow money to buy that asset and sell it at a lower price when the market must have changed in your favor. It is common for overbought assets to be at saturation point, resulting in a decline in the price. Therefore, an RSI of 70 and above is something to keep an eye on when looking at the charts on Exchanges to place largely profitable short trades. Doing this, however, should be subject to at least three confirmations to increase your chances of success. Confirmations here involve using other strategies from fundamental to technical analysis to arrive at a more probable outcome for your trades. While the terms perpetual, futures, and options, which are derivatives, may seem confusing, the type of instrument being traded in each case takes its value from the underlying asset, which is Ethereum.
The Ways to Short Ethereum
There are three methods of shorting Ethereum on centralized or decentralized exchanges. In each of these methods, you are in a setup that allows you to borrow to own the asset or a position in the asset in question. By shorting Ethereum, your profit will be the difference between the price of Ethereum when you opened your position and the price at which your position is closed, granted it is not liquidated. For this reason, it is better to keep your risk low in each case by aiming for a near-zero liquidation ratio. A strong understanding of moving averages or other technical analysis tools will help you make the best trading decisions. Note that the best strategies fail, and as with everything else, there is no 100% guarantee of continued success with a specific strategy. Studying the market is essential to increase your chances of success. Once you are confident in a particular strategy, you can trade future, options, or perpetual swaps, the most popular way to short Ethereum.
Short trading crypto with futures is available on Coinbase Pro and other exchanges. You can go 1x short or 3x short on Ethereum using Futures. Going 3x on Ethereum with an anticipated 30% decrease on a $1000 balance or investment means that the amount you can gain or lose from shorting Ethereum is $90. Your short position can be opened as a market or limit order in a futures trading contract. A market order executes your short trades or sells at the best price based on the market action, while a limit order is set by you and is adjustable on the go. However, the shortcoming of futures contracts is that they have an expiry date. This problem is fixed by another instrument known as a perpetual swap.
Perpetual swaps are like futures contracts, but unlike futures, perpetual swaps do not have an expiry date, and holders of perpetual must pay a funding fee. The funding fee is used to incentivize other traders to hold opposite positions and keep the instrument's price as close as possible to the underlying asset's price. Since you receive a funding fee for holding either position, perpetual swaps are less risky than futures contracts.
A put option on Ethereum is similar to shorting in a futures contract. It gives the holder a right but not the obligation to sell Ethereum at a particular price on a specified date. Holders of options pay a premium which is the only risk involved since you do not have to hold the asset. So, if you anticipate a fall in the price of Ethereum based on your analysis of the market, you can open a put option on ETH and sell it at the strike price, pocketing the profit from the drop in the price of ETH.
Which Method Is the Best?
From a balanced point of view, the least risky way to short Ethereum would be options, but the gains will depend on the units of Ethereum in your put option, which also determines the premium amount. With futures and perpetual swaps, you can go as much as 100x on your ETH balance with the possibility of being liquidated 100x faster. Therefore, it is advisable for new traders not to go beyond 3x short Ethereum positions or a maximum of 5x short Ethereum positions. If you consider that you will receive funding fees that can mitigate your losses to some extent by holding perpetual swaps, it presents a safer way to short Ethereum than futures. All said and done, your success with any of these instruments depends largely on your technical and fundamental analysis of the market, which can leave you with profits.