Are On-Chain Derivatives the Next Big Thing in DeFi?

The defi world is on the cusp of a new era, with on-chain derivatives increasingly viewed as a major driver of positive change. Amid brightening market conditions, daily trading volumes for crypto derivatives recently hit record highs on exchanges like Deribit and Coinbase, with the uptick pointing to a future where efficient, transparent, and accessible on-chain derivatives could outflank decentralized exchange automated market makers (DEX-AMMs) and deliver greater value for defi’s main mover and shakers.

Crypto’s ongoing bull run, accelerated by the SEC’s approval of spot bitcoin ETFs in January, isn’t like its predecessors. Indeed, buoyant forecasts suggest this current phase of price discovery could push the market into unknown territory. With optimism having already led to a fresh all-time high (ATH) for bitcoin on March 5, investors’ appetite for alternative investment opportunities within crypto is fueled to say the least. 

The Rise and Rise of Crypto Derivatives

Crypto derivatives are tradable financial instruments whose value is derived from an underlying digital asset. They enable traders to profit from the price movements of cryptocurrencies without owning the underlying assets, with the main derivatives contracts including futures, options, and perpetual swaps.

Derivatives, by their nature, allow traders to enter larger positions than their capital would allow in the spot market. As well as being a useful hedge against crypto market exposure to reduce traders’ risk, derivatives enable investors to deploy advanced strategies to pocket potentially bigger profits. Little wonder they’re on the march given recent developments in the wider crypto market.

Interestingly, it’s not just the crypto-native companies that are embracing the derivatives trend: tradfi giants are also making a foray into the industry. We saw this play out last month, when Deutsche Börse’s FX arm, 360T, launched its own crypto derivatives offering. Effectively, the move allows the company’s global institutional client base to engage with the crypto market. Two years ago, Goldman Sachs also unveiled a derivatives product linked to Ethereum (ETH) – and it’s reportedly expecting a substantial increase in crypto-asset trading volumes in the next few years.

On the blockchain-native side of the fence, Orbs’ recent expansion into on-chain derivatives through a strategic partnership with Symm.io was notable. Symm.io specializes in developing solutions to address the capital efficiency problem of on-chain derivatives platforms, and it will co-develop with L3 public blockchain infrastructure project Orbs fresh use-cases in the on-chain derivatives space using the latter’s novel technology. These could include off-chain/on-chain communication oracles and the introduction of a bidding system for hedgers.

Orbs followed up its Symm.io announcement with another collaboration, this time with leading decentralized on-chain OTC derivatives exchange IntentX, which supports 250 tradable markets and up to 60x leverage. This particular partnership will explore use cases such as integrating Liquidity Hub, Orbs’ decentralized optimization layer that operates above AMMs, into IntentX for RFQ spot trading. The partners are also looking to expand IntentX spot trading via Liquidity Hub to the Base and Arbitrum chains.

The implications of such developments are profound. On-chain derivatives could enhance the defi space by furnishing users with more sophisticated financial instruments, greater liquidity, improved price discovery, and enhanced risk management tools. Moreover, the involvement of tradfi bellwethers indicates a growing recognition of the legitimacy and potential of these products.

Of course, this fast-growing market is not without its challenges. Lingering regulatory uncertainty, scalability issues, and the need for robust risk management mechanisms are some of the hurdles that must be addressed. But given the pace of innovation and collaboration and an influx of new players and capital, these challenges may soon be overcome. 

Increasingly, we are seeing more innovative derivatives products emerge, including decentralized perpetual futures trading and structured products, pre-packaged investments that typically include assets linked to interest plus one more derivatives.

On-chain derivatives are clearly already a significant part of the booming defi landscape, and as the market continues to mature, it’s easy to imagine a more dynamic and efficient ecosystem blooming. Particularly as derivatives and structured products are suitable for a wide range of portfolios. 

The next few years will be crucial in determining how on-chain derivatives reshape the broader landscape of defi, both for crypto-natives and the institutions that have followed in their wake.