Derivatives Trading on Alternative Blockchains Gain Traction As Ethereum Struggles With High Fees
Some suspended their activity until they were emotionally ready. Others (perhaps the more experienced traders) took this downturn as an opportunity to improve their strategies and try new ways of trading. One such option — derivatives — have recently gained popularity among crypto users.
The growing interest in derivatives
Essentially, a crypto derivative is an agreement between a buyer and a seller for the future price of a digital asset. The parties of this deal do not own the underlying asset and they don’t exchange it like traditional trading implies, but rather speculate on its price, at which they agree to buy or sell the asset.
As the demand grows for derivatives such as futures, forwards, options, swaps and contracts for differences, the number of transactions conducted with such contracts is exponentially increasing alongside the popularity of crypto assets.
According to a study released by CyLab (Carnegie Mellon University) in April 2021, the daily value of derivative traded reached $100 billion this year, which is pretty close to the daily trading volume of the New York Stock Exchange. Furthermore, the average trading volume of the cryptocurrency derivatives market is five times higher than that of the cryptocurrency spot trading market, meaning that derivatives are now one of the most rapidly growing forms of digital assets trading.
The growing demand for a new instrument among digital asset users has led cutting-edge companies to concentrate their efforts on creating protocols for this type of trade, striving to offer the best conditions for users. For instance, Kine Protocol, a decentralized derivatives protocol, pioneered trading with no gas fees and zero slippage, making crypto derivatives accessible to more users. Not only has this protocol managed to track the trend of users’ transition from classic instruments to derivatives but it has also matched the growing demand among DeFi developers and users for new blockchains.
In addition, users can now finally avoid dependence on individual liquidity pools like automated market makers and extend the list of tradable assets outside the cryptocurrency market.
Slow scaling of Ethereum
At the end of September of this year, the crypto community was troubled by the story of a person who bought 10 non-fungible tokens of TIME Magazine. According to Etherscan, the user paid a fee of 22.5 ETH (over $70,000 at the time of the transaction) to buy 1 ETH ($3,100 at the time of the purchase). Thousands of other users also paid fees greater than the value of the assets they acquired.
Why are Ethereum’s (ETH) fees so far beyond what is usually expected? Commissions on the Ethereum network increased significantly amid the altcoin’s price growth and the influx of new users. ETH, the price of which didn’t exceed $800 at the beginning of the year, is now trading near the $4,000 mark. The value of Gwei has grown accordingly, meaning that each transaction on the network has become more expensive.
This also means that a sender must set a sufficient gas fee to send their transaction, or it will take quite a long time for their order to be executed. In some cases, Ethereum users complain that their orders are not executed at all.
The situation has been aggravated by the Ethereum London hard fork update, which has deprived the miners of part of their income. Now they are trying to compensate for the lost profits with a surcharge for fast transactions, which are a weak side of the Ethereum blockchain, capable of processing no more than 30 transactions per second. For the platform that aspires to become a “World Computer,” this figure is surprisingly low. In comparison, the international payment system VISA can sustain a processing time of 25,000 transactions per second (TPS).
Ethereum’s current infrastructure is not sufficient to meet the demands of tens of millions of people. Since the DeFi-protocol and the Yield Farming boom, the network has become even more congested. This increases transaction costs, making Ethereum too expensive and too slow for the needs of decentralized applications and the DeFi apps and users. Such users place a high value on their ability to make many small and frequent trades.
Ethereum developers are trying to manage the difficulties of scaling. Still, Layer 2 solutions remain technically difficult. That is why, since the first protocol upgrade (Homestead, 2016), this blockchain has never come close to 1,000 TPS.
The users are faced with a choice — to put up with all the drawbacks of Ethereum and continue to trade derivatives on its blockchain, or switch to a highly scalable blockchain platform with a fast-growing ecosystem.
What are the alternatives?
One rival to Ethereum is the Binance Smart Chain (BSC), which is a fully functional blockchain that uses the Proof-of-Staked-Authority (PoSA) algorithm. It does not need a huge number of blockchain validators, which makes BSC a highly scalable system. Its TPS rate at maximum capacity can reach 160, which is several times higher than that of Ethereum. Because of advantages like this, the fastest-adapting players in the DeFi derivatives market no longer use Ethereum exclusively.
The emergence of more advanced blockchains encourages users to seek out new solutions. This applies not only to BSC. Tower BFT, together with the Proof of History (PoH) protocol, has allowed a young project — Solana (SOL) — to become one of the fastest-growing cryptocurrency ecosystems. Its algorithm already allows up to 50,000 transactions per second at the current level. This figure will only increase as computers become more powerful. The maximum capacity of Solana can reach 760,000 TPS, according to the platform developers.
The number of new DeFi projects grows with each passing year. The developers and users of crypto derivatives will not pay enormous fees when alternatives are available. Only highly scalable solutions can meet the growing demand for fast and cheap transactions. Crypto market players work hard to stay ahead of industry trends. They have come to use not only classic trading tools but also crypto derivatives. Properly applied, such contracts can both hedge risks and multiply profits.
The market has not yet produced many solutions which combine crypto derivatives trading with the benefits of advanced blockchains. However, innovative decentralized protocols have already begun to generate profits for their first users. Forward-thinking traders are willing to give up old protocols in exchange for the opportunity to work with powerful, high-bandwidth blockchains.