One of the areas in the crypto industry with the quickest growth is the options market. From $5.8 billion in October 2020 to $12.78 billion in July 2022, the amount of Bitcoin options sold has more than doubled, with more than $35 billion traded at the bull market’s height in April 2021.
Even more quickly, the market for Ethereum options is rising, going from $709 million in October 2020 to $11.38 billion in July 2022.
Learning about crypto options trading and how this new market operates is essential. In this piece, we examine:
How crypto option works?
How to use derivatives for crypto options?
Options and derivatives on bitcoin
Options trading techniques
Crypto Options Explained
Options are Cost-Effective and Risk-Conscious Way to Trade Digital Assets or Digital Commodities Like BTC and ETH.
As a derivative, an option stands in for an underlying asset like BTC or ETH. With an it, you have the option but not the obligation to buy or sell the underlying asset. You have two options for exercising the option: either on the expiration day at the predetermined price, or before the expiration date.
Few Important Terms
European options are options that can only be exercised on the expiration date.
American options are those that you can exercise before the expiration date.
Calls are options that grant you the ability to purchase.
Puts are options that grant you the ability to sell.
The strike price is the price at which the buyer of the option can purchase or sell the underlying asset when it expires.
The option price is what the buyer pays the seller in exchange for the right to purchase or sell the asset at the strike price on the expiration date.
Cryptocurrency or fiat money can be used to settle options. They are exchanged as call and put options by an options seller. There is a strike price and an expiration date for each. Consider this:
30 October 22 at 25000 BTC, C
This is a call option with a strike price of 25,000 on Bitcoin that expires on October 30, 2022.
Consider that we wish to purchase a single option at this strike price, which is currently $23,000. Ten options are purchased at a premium of 0.003 per contract. The result is:
At $25,000, 0.003 Bitcoin equals $75.
Moreover, given that we are purchasing ten choices:
10*$75 = $750
The cost of our alternatives is $750. We can buy one full Bitcoin (10*0.1) at the strike price on the expiration date because each option provides us the right to buy 0.1 Bitcoin for $25,000.
Now let’s examine two distinct possibilities.
Upon expiration, BTC will cost $26,000. If we choose to execute the option, we will receive $1,000 ($26,000 – $25,000). Our net profit is $250 when the premium is subtracted.
In case B
The price of bitcoin is $24,000 on the expiration date. We decide against exercising the option and incur a loss of $750 as a result.
The option is in the money if the strike price is less than the current value of the underlying asset.
The option is out of the money if the strike price is higher than the current value of the underlying asset.
If the strike price is more than the current value of the underlying asset, the option is in the money.
Option is out of the money if the strike price is less than the current value of the underlying asset.
If the strike price for both calls and puts is the same as the current value of the underlying asset, the option is in the money
With cryptocurrency options, your risk is constrained but your upside is limitless. For instance, suppose the call option in our case expired at $30,000.
Upon expiration, the cost of BTC is $30,000. If we choose to execute the option, we will receive $5,000 ($30,000 – $25,000). With the premium subtracted, we generate a $4,250 net profit.
We will only lose the $750 we paid for the price premium even if the option expires at a price below $24,000. The interplay between risk and return is what makes cryptocurrency options so intriguing.
Options Derivatives: What Are They?
Simply put, options are a type of derivative. A financial contract known as a derivative derives its value, risk, and fundamental term structure from an underlying asset.
For instance, when an option reaches its expiration date, you have the option to buy or sell the underlying asset.
Futures are contracts to purchase or sell an asset at a future date.
Simply put, when you bet on options, your potential loss is limited, however when you bet on futures, your potential loss is unlimited.
Options for Bitcoin Explained
Options that trade Bitcoin as the underlying asset are known as bitcoin options. You can still write put or call options, in which you wager that the price will decline (you bet on the price going down).
You also need to be aware of the Greeks while dealing with Bitcoin options (and all other options, too). Greek terminology is used to describe the variables that affect an option’s pricing. Those are:
Delta: Measures how sensitively the option’s price will change in response to a one-point change in the price of bitcoin.
Gamma: Calculating how much the option’s delta would change if the price of bitcoin moved by one point.
Theta: Calculating the rate of price deterioration of an option. A high theta, for instance, indicates that the time has come to expire.
Vega: Measuring the sensitivity of a certain option to the implied volatility of the bitcoin price. For every 1% change in unpredictability, it calculates the change in an option’s premium.
Rho: Determining the degree to which the price of an option is affected by changes in interest rates.
Explaining Bitcoin Derivatives
Options are not the only bitcoin derivatives; futures, perpetual futures, and swaps all exist. Similar to other assets, the value, risk, and fundamental term structure of Bitcoin derivatives are determined by BTC as the underlying asset.
Trading Strategies for Cryptocurrencies
Your success in options will depend on your approach. To name a few
In order to make money, you can sell call options on stocks you already own using the options method known as a covered call. You will set a strike price and an expiration date for the call options you sell. You will still earn because you sold the option for more than the strike price even if the stock price rises and the call buyer exercises their option to purchase your stock at the strike price. But you will still benefit from the option premium you received even if the stock price declines.
2. Naked Puts
Selling put options on a stock without owning the underlying shares is known as a “naked put” options strategy. Because you are wagering that the stock price will increase, this is a bullish strategy. The put option will expire worthless and you will keep the premium if the stock price does increase. You might be assigned and forced to purchase the stock at the strike price if the stock price declines, but you will still profit from the premium you paid.
3. Call Bull Spread
In a bull call spread, you purchase call options and then sell them at a higher strike price. Because you are wagering that the stock price will increase, this is a bullish strategy. The call options you sold will expire worthless if the stock price increases, and you will keep the profit resulting from the difference between the strike prices. You might lose money on the call options you bought if the stock price declines, but you’ll still make money on the call options you sold.
4. Bear Put Spread
When using a bear put spread, you purchase put options and then sell them at a lower strike price. Because you are wagering that the stock price will decline, this is a bearish approach. The put options you sold will expire worthless if the stock price does decline, and you will keep the profit resulting from the difference between the strike prices. You might lose money on the call options you purchased if the stock price increases, but you’ll still make money if you sell the put options you bought.
5. Iron Condor
Selling call options and put options with various strike prices is known as the iron condor options strategy. You wager that the stock price will remain within a specific range, making this a neutral strategy. Both the call and put options you sold will expire worthless if it stays within the range, and you will keep the premiums as profit. You might lose money on the options you sold if the stock price moves outside of the range, but you’ll still make money on the options you bought.
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