What Gives HBD Value: Derivatives

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We are progressing through our series on what it will take to give the Hive Backed Dollar (HBD) inherent value.

In the first article, we showed the importance of collateralization.

We will now embark upon a very misguided subject that gets a lot of attention, most of it negative. However, when it comes to the financial world, derivatives play an enormous role. For this reason, one of the quests of HBD is to have it serve as the basis for other derivatives.

The media frames these financial instruments as dangerous. They do, nevertheless, serve a much needed purpose for businesses.

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Risk Adjustment

One of the core functions of financial markets is risk allocation. There are different appetites, something that markets seek to fulfill. It is this flexibility which allows business to function.

What is a derivative?

Basically, it is a contract that derives value based upon the price of another asset, one that is not required to be help by the individual. In other words, it is an asset upon an asset.

Most people are familiar with stock options. Let us use Apple (AAPL) as an example. People can buy 100 shares of AAPL or they can invest in an options contract. This gives the person the right to either buy or sell the shares without actually owning them. Thus, the person can gain exposure to the price movement in the stock. For this, a premium is paid (the cost of the option).

How these the derivatives truly work is outside the scope of this article. Yet, we can point to a situation which business use and is not speculation. Actually, this is utilized to reduce risk while avoiding the speculative nature of things.

Everyone knows the price of oil is volatile. This is something we see on a regular basis in watching the markets. It is also something that can be death to an industry such as the airline. They go through more than 600K barrels of oil per day. As we can imagine, a move of $10 or $20 can make a huge difference.

To the executives at these companies, they look for price stability. Here is where they will purchase option contracts to limit their risk. By doing this, they remove the mystery as to what they will be paying for fuel.

It is a way for them to hedge.

In addition to this, derivatives allow for other people to speculate while also providing opportunities to arbitrage.

Enormous Market

How big is the derivative market?

This is something that few have an answer for. It is impossible to know exactly since the banking and financial system are actively creating different assets all the time. Thus, we get a wide range.

The best estimates appear to be a market size of between $750 trillion and $1.5 quadrillion. Even if we go with the low number, it is enormous.

Like was discussed in the previous article, here is one of the areas that makes the USD so powerful. Whatever the number of derivatives out there, a majority of them are priced in USD. Hence, it is the denomination of all activity.

With hundreds of trillions of dollars in contracts out there, do you think the USD is vulnerable to replacement? The answer is no.

With derivatives the base asset is actually strengthened. Here is where value is built beyond any backing mechanism. With the USD, it is a stabilizing factor that cannot be understated.

Consider for a moment trillions in dollars in contracts that pay out in USD. These are varying in length of time. All participants know that USD is going to change hands during the contract. In fact, it is legally obligated to be used.

This is what needs to be replicated.

Crypto Derivatives

We are just getting started in the derivative game with cryptocurrency. There is a lot of talk about synthetic derivatives through tokenization. This can be done with commodities, stocks, and an assortment of other assets. Of course, infrastructure has to be built out to achieve that end.

Keep in mind, these instruments are designed to reposition risk throughout the markets. Since risk tolerance levels differ, we can see how appeasing the spectrum is vital. Here is where derivatives come in.

We already have an example with HBD.

The Leofinance Team introduced pHBD. This is truly a derivative of HBD. The value is derived from the underlying asset. Here it is not a tricky situation since it is basically designed to be a 1:1 correlation. Nevertheless, these are two totally different assets.

Also, as mentioned, one can gain exposure to the price movement by holding pHBD. Since it is a stablecoin it is not meant to be a wide spread. However, we do know there are fluctuations. This also present arbitrage opportunities.

pHBD enhances the value of HBD. Since it is a derivative tied to the underlying asset, the more success the former has, the better it is for HBD.

Part of the road map on Polycub is to provide collateralized lending. Imagine if this was done in pHBD. Just think of how that enhances the value of HBD. Even though it is not involved directly, we can see how the layers start to build.

Consider the value of HBD if this situation was repeated 150 times.

Build Around HBD

As we can see, the development of these assets is what enhances the worth. By building around the coin itself, value is given inherently. When settlement is made in that currency, there is an instant market for it. It will also create the situation where a lot more HBD will be required.

Another area that is starting to get a bit of attention within the cryptocurrency world is Contract for Difference (CFD).

This is what a CFD is according to Investopedia:

A contract for differences (CFD) is an arrangement made in financial derivatives trading where the differences in the settlement between the open and closing trade prices are cash-settled. There is no delivery of physical goods or securities with CFDs.

The "cash-settled" is emphasized to make a point. There is no reason this cannot be set up to settle in HBD. Here we see it at the core of all this activity that could be built on decentralized infrastructure.

Suddenly, the entire world of synthetics is opened upon to HBD. It could be a base token that is used in these contracts. We also showed how even if the mechanism uses a derivative of HBD, it still enhances the value of the core asset.

Derivatives play an important role in both the financial and business worlds. By giving people the opportunity to speculation, hedge, and arbitrage, differing market needs can be met. This is what derivatives excel at.

If we see an assortment of derivatives built with HBD incorporated, we are adding to the strength of this coin. It is fairly easy to see how robust this market can become. Capturing even a fraction of the derivative volume out there will make HBD a heavily utilized coin.

And this should be the ultimate goal. Utility is what will separate HBD from a lot of other things that are being promoted out there.

For this to occur, it requires building. That is the difference. There are no shortcuts.

What are your thoughts? Do you see how derivatives can vastly expand the utility and, hence, the value of HBD?

Let us know in the comment section below.


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52 comments
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One other point to add:

Notice how pHBD adds another level of risk. So there is an adjustment in the return as compared to simply staking HBD on chain.

We can clearly see how this derivative is changing the allocation of risk. People are free to choose whichever one they prefer.

This is just one example of how derivatives serve a purpose.

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I keep reading and learning how important and big HBD is going to be in the future and even now.

That's a really big and enormous market, 750 trillion? 😳 Wow!

Well, I think derivatives can be of great effect on the value of HBD from all I've read here but like you said "There are no shortcuts, building takes time".

I think I need to go read the first part of this post 😅 how did I miss it?

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This is a part of a series. There will be 4 or 5 posts tied to this topic. We are on #2.

HBD does have a great opportunity. The main premise of all this is to generate value for HBD on its own. Then the backing (conversion mechanism) becomes a tool for elasticity, both in the currency and with collateral.

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A 4 or 5? Awesome, more to learn from... I'll be on the look out for the next one 🙂

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Yeah there are two more major use cases for HBD if we are to develop it properly. I went through the more advanced ones first. The next two are a bit easier to grasp but I wanted to show the potential with what we are dealing with.

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While searching for visual representations of the market cap of crypto currency compared to other assets, I ran into this visual representation of the market cap of derivatives on Markets Insider The size difference is astronomical!

I hope we get a small piece of the pie with HBD.

Hey, by the way. It's very cool how you're hyperlinking to a bunch of other insightful posts. Makes it fun to navigate Leo Finance this way 👍

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Hey, by the way. It's very cool how you're hyperlinking to a bunch of other insightful posts. Makes it fun to navigate Leo Finance this way

Helps with the SEO.

The chart you linked to really drives the point home. People need to understand how much things have changed and how all of this is growing exponentially.

If we want to replace the banking industry, we best understand what they do.

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I'm learning how important is the HBD in the crypto market with you man. I wait for more posts like this one

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There will be another one tomorrow. And the day after that.

So far, I have 4 in mind. There might be a 5th depending upon if I break up one topic.

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I've gotta be honest, I am still not sure I understand exactly what derivatives are. Well, besides the ones I worked with in Calc I through III in college. I am going to have to go do some more research. Your explanation was fine for most people, but you know me, I am slow! :)

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Options, warrants, turbos, CFD’s, etc… they are very popular instruments and it would be amazing to see some of those denominated in HBD. But for that a marketplace should be set up. Maybe something for @khaleelkazi to create? It would be a money maker for LEO too, with all costs for purchasing being distributed among the LEO holders, for instance…
Great thinking I must say!

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There is a lot of potential. We need to see a ton of markets.

To truly complete this, we need to deal with decentralized infrastructure with open source software. If not, there are points of vulnerability from the alphabet agencies, especially those with handcuffs.

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For this to occur, it requires building. That is the difference. There are no shortcuts.

Spot on mate..
Their is no shortcut way to success and HBD needs a long way to get there so every small step in the right direction matters.

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It is going to be a long process if we truly want to be a major player. The key is to understand what the potential is and how we can take advantage of it. There is a huge opportunity for HBD to be integrated into this all.

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On the assumption that HBD's peg remains in place and is sufficiently stress tested to ensure added liquidity will not break the peg and that HBD will remain untouched by any regulator (I do not see how it could given its structure), the potential in derivatives is huge.
CFDs are certainly on the cards. It'll be interesting to see which asset will be the first! We could start slowly with Hive based assets, eg LEO and then move on to others.
Fixed income derivatives could also add a lot of potential. These can be packaged in lots of ways to enhance returns. Or not. Depending on the behaviour of the underlying assets.
All pretty exciting stuff!

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I fail to see how HBD can be touched by regulators. It is built on a decentralized ledger that operates outside the scope of any government or central bank.

It actually mirrors the Eurodollar system in this regard, another ledger based banking system.

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pHBD enhances the value of HBD. Since it is a derivative tied to the underlying asset, the more success the former has, the better it is for HBD.

To be honest, I do not undestand this, but I keep building my Hive Dollars (HBD) savings. I understand Hive Dollars (HBD) is a relatively low risk long term investment with a very good (a compounding 20% APR) return.

I currently have $1429.30 HBD in savings.

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Any success that pHBD has will be transferred over the HBD. The two cannot be separated.

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I understand that. But I do not understand the concept behind it. How it is done? And what if pHBD fails for some reason? Will that also be transferred over to the HBD? I have and I am using HBD, but not pHBD.

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I'm a simple pleb, I see HBD I put in savings :P

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Lol, less brain wracking!

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Very nice, man. I am staking some sbd

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Again, very interesting and educational. I really have to read these articles twice, just to grasp some of the concepts. This is not due to your writing, but simply my lack of knowledge on this topic.

This is probably a very dumb question I am about to ask now. But as I said, I'm simply not strong on this topic. Anyways...

You mention that all the stuff built around HBD could enhance the value. I just don't understand what you mean by that. When the HBD price is kept "stable" w.r.t. the dollar isn't the general value of HBD also stable? In the end, one could always buy HBD for 1 dollar.

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Price is different from value.

When I say it adds to the value, it gives people a reason to hold and engage in HBD. It is not so much the price or what the market says.

That is why people are trying to back stablecoins with collateral. The point of these articles is to generate the value for HBD through its utility and what it is involved with.

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I thought I understood the difference between price and value. But with your comment and thinking about it, I think I didn't look at it from the right angle. If I have it right now, it is indeed what you say. That, for whatever the reason is (utility), people want to hold it.

I think I will go through these articles again now, thanks :)

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Taskmaster will pass as an awesome lecturer. I learned a lot from this. I’m anxious however as to when we will begin to see these things in place or even more discussions about it

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No idea how long some of this stuff will start to emerge. A lot of this is to put forth the potential and the ideas that are possible.

Obviously infrastructure has to be built.

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Derivative markets are important because their behavior influences the price dynamics of cryptocurrencies themselves. With Hbd’s potentials, it sure does have what it takes to serve as the basis for other derivatives no doubt. It is a building process however.

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This is a great series on HBD value. HBD is like a swiss knife. It can be multi functional !

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In a way, it makes me kind of remember the argument that Vitalik made about branching out to other chains. It does add a new layer of risk for each derivative you create so I still think it needs to be thought about and enough work is done to guarantee that it is safe. In the case of LEO or HBD, we should have the funds to cover it on chain. However, it still requires the pools to have enough liquidity otherwise all the other pools would also be affected.

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There has to be a lot of infrastructure. So this will have to spread in many different ways. A lot of it will interact with HBD in a way but not directly.

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The importance of HBD really have a long way and impact to play which is really showing it at the moment and I believe there is still more progress to occur with it existence

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You have provided a clear definition of derivatives. This is quite helpful and will benefit many people. HBD has a great future, and this is the time for people to embrace it. Thank you very much, sir.

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