Leveraged tokens are digital assets that investors use to multiply their gains from price fluctuations. They have different leveraged ratios, and they can be short or long. With that in mind, in this guide, we’ll explain how these types of tokens work and name some of the most popular leveraged crypto assets. We’ll also discuss their main advantages and risks.

Here’s all you need to know about crypto leveraging tokens.

What Are Leveraged Tokens?

Leveraged crypto tokens can be described as crypto derivative products. As their name implies, they offer a leveraged position — they enable traders to boost their gains without putting up collateral. They can also be described as tokenized versions of traditional leveraged contracts that use the ERC-20 standard.

Their goal is to simplify trading with leveraged positions. How? By enabling traders to take short or long positions without the need to manage their margins. They essentially follow the price movements of their underlying assets to increase their returns. The most popular leveraged coins include short-leveraged tokens like BTCDOWN and ETHDOWN, and long-leveraged tokens like BTCUP and ETHUP.

How Do Leveraged Tokens Work?

Before we explain how these types of tokens work, let’s first explain what leverage in crypto trading is. Leverage refers to borrowed funds used to amplify a trading position. Leveraged tokens enable traders to gain exposure to leveraged positions without borrowing funds. They will automatically rebalance their position to keep their leverage ratio intact.

Leveraged tokens will multiply the gains based on price fluctuations. For example, if the price of BTC goes up by 30%, the price of a 2x long leveraged token for BTC will jump by twice as much, or 60%.

How Do Leveraged Tokens Work on DeFi

Leveraged tokens bridge the gap between CEXs and the DeFi sector. Some leveraged tokens are backed by perpetual futures contracts. For example, TLX is a DeFi platform whose goal is to become Uniswap for perpetual futures. On that note, TLX offers leveraged tokens backed by perpetual futures contracts. It also supports more than 50 leveraged coins with up to 20x leverage.

Another example is FinNexus. It recently launched decentralized leverage tokens on Ethereum, Binance Smart Chain, and Wanchain. Index Coop is a DeFi platform that issues the ETH2x leverage token by leveraging DeFi applications like Compoind and Uniswap.

What Are the Advantages of Leveraged Tokens

Leveraged coins come with many benefits, such as:

  • Simplicity: Leverage tokens do not require traders to use margin or place collateral. Moreover, traders won’t have to worry about liquidation, which makes these tokens very popular and ideal for short-term investment.
  • Big profits: These types of tokens will provide investors with higher gains since they will multiply their profits. For example, a 3x long leveraged token will triple the profit of its underlying asset. Namely, during a bullish market, a leveraged token will use its profit to purchase more tokens.
  • Shorting and hedging: These tokens will enable traders to profit from price fluctuations. They will also protect them against price drops. For example, KuCoin leveraged tokens are available in long (bullish) and short (bearish) variants. This means that traders will be able to benefit from both price increases and drops.

The main risks associated with these types of tokens include:

  • Volatility: Leveraged tokens depend on the price of their underlying asset. This means that they will be prone to volatility decay, which is why they are not a good long-term investment. If the value of the underlying asset falls significantly, the leveraged multiplier will amplify the losses.
  • Additional charges: When it comes to trading leveraged coins, CEXs, like KuCoin and Binance, charge extra fees. For example, Kucoin imposes trading, subscription (0.1% per subscription), redemption (0.1% per redemption), and management fees. The same applies to Binance, which also charges funding fees.
  • Rebalancing mechanisms: These tokens are managed by algorithms that reduce and increase their position until they achieve the target leverage. These algorithms can sometimes fail to work, especially during highly volatile markets.\

Conclusion

Leveraged tokens are an alternative to margin trading. They don’t require maintaining margins and placing collateral. They also leverage short and long positions, and their ratios can range from 1.5x to 20x. Their role is to multiply the gains of their underlying assets. However, this means that they’ll also multiply the losses, which is why they are only good as a short-term investment.

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