The fact that there are cryptocurrency options on the market in the first decade of crypto’s existence represents incredible diversification and cryptocurrency commerce. Many people first heard of cryptocurrency in late 2017, when Bitcoin was soaring and breaking price records every week. Therefore, cryptocurrency options are yet another milestone in the development curve of Bitcoin and other cryptocurrencies. However, before we dive into what options are, let’s first take a look at what derivative contracts are.
What Is an Options Contract?
Options are a type of derivative, a derivative contract in this case being an agreement about an underlying asset – a digital asset, stock, bond, etc. – that is traded on the market as a unique product but whose value is contingent on the performance of that asset.
To cut to the chase, an options contract is a derivative instrument that gives the buyer or the holder the right but not the obligation to either buy or sell the underlying asset at a preset price within a given period of time. The right to buy is the call option, and the right to sell is the put option. Furthermore, when the options contract lacks special features or terms, it is called vanilla. If it is laden with special structures, terms, and conditions, then it is an exotic option. All in all, an options contract offers its holder versatility and is often used to hedge or speculate on underlying asset prices.
To a beginner investor, options are obviously a little complicated and seem more complex than spot trading. This is why they are underused. However, with the proper understanding, they can be very lucrative derivative instruments, albeit expensive if the underlying asset is volatile. These are the associated key terms used in cryptocurrency options trading:
Call: If you are bullish on a cryptocurrency, expecting prices to rise, then you should buy a “call” option. In this arrangement, you exercise your option by buying at the strike price even if prices are higher. Generally, traders buy a call option if they are confident about the cryptocurrency’s future.
Put: If, on the other hand, you are bearish, expecting the prices of a digital asset to tumble, then you can speculate on the future of the cryptocurrency by buying a “put” option. This option allows you to sell the cryptocurrency at the strike price even if prices are lower.
Strike Price: This is the price at which the holder of the option can buy (in a call option) or sell (in a put option) the underlying asset, IF they choose to exercise their option. In a call option, the trader will be “in the money” if the spot price of the underlying asset is higher than the strike price. Conversely, in a put option, the trader will profit if the spot price of the underlying asset is lower than the strike price.
Premium: This is the price the holder pays to own the option. It is based on several factors, including the volatility of the underlying cryptocurrency, the expiration period, and the spread between the current price and the strike price.
Maturity: The maturity date of an option is its expiration date. It is the last date by which the option must be exercised before the right to buy (in a call option) or sell (in a put option) expires. In cryptocurrency options trading, the maturity date is fixed. There is no point in exercising options that are out of money. In such a scenario, one will only lose the premium, or the money paid to secure that option.
Trade Date: This is the date on which the option order is executed on the market, if the holder decides to exercise the option.
Delivery Date: If the option is on the money and exercised, then the date on which that option is realized or finalized is the delivery, or settlement, date.
Bitcoin Options Contracts
A Bitcoin options contract derives its value from Bitcoin, which acts as the underlying asset. Like all Bitcoin derivatives, Bitcoin options have the potential to be incredibly profitable because of Bitcoin’s volatility. Needless to say, however, this volatility comes with risk. A Bitcoin options contract gives its holder the luxury of a right but not an obligation, as would be the case with Bitcoin futures contracts.
A Bitcoin put option grants the holder the right to sell Bitcoin at the stipulated price when the predefined time arrives, while a Bitcoin call option gives the holder the right to buy Bitcoin at the stipulated price.
For example, a user may speculate that the price of BTC will reach $20,000 in two months. They can buy a Bitcoin options at a fee with the stipulated strike price in two months. If they place a Bitcoin put option, they get the right to sell at the strike price upon expiry of the contract. Investors need to pay a premium price for Bitcoin options, and they can leverage them by purchasing a large number of options to profit, should the options end up being profitable. Should the contract expire below the strike price, however, they can record losses. This is a simplified version of events, but it serves to explain the general layout of a Bitcoin options contract.
Why should investors trade with Bitcoin options? These are some advantages of dealing with Bitcoin options:
- Options are better than futures for options buyers, as their maximum loss is limited by the premium. For sellers, the maximum profit is limited by the premium, whereas the loss is unlimited. So, this works as a guarantee.
- Options are the most flexible financial instruments, as they can be used to emulate the behavior of futures (so called “call-put parity”) and implement complex strategies like butterflies, straddles, strangles, and more.
- They are leveraged.
- You can get exposure to pure volatility without taking up directional position risks by using delta hedging.
- Bitcoin and cryptocurrency options trading is legal in the US and other countries where offering companies have the required licenses.
Ethereum (ETH) Options
Similarly, Ethereum options have ETH as their underlying asset, allowing users to hedge or speculate on the price of Ethereum.
Deribit and a few other platforms are notable players in this market. Xena Exchange will begin offering options trading from Q1 2020. Plans are underway, and there are already tons of educational materials related to cryptocurrency derivatives products and guides on how to trade successfully.
Given that the size of the crypto options market in general is still quite small, it is logical that Ethereum options are only a tiny fraction of the overall crypto derivatives scene.
Trading Bitcoin Options
First, it is important to mention that not all Bitcoin options are the same. You can exercise American-style Bitcoin options at any point in their lifetime. On the other hand, European options can also be traded at any time during their lifetime but can only be exercised upon expiry. In the trading scene, all information is vital, hence the distinction.
The basic question is how to buy Bitcoin options. In the market, it is recommended that traders settle for a reputable platform with a proven track record of customer satisfaction, like Xena Exchange. There are a number of options available, and investors just have to choose the options that best fit their investment needs.
A Bitcoin options contract that suits your investment needs is great. Once you find one, you can purchase call or put options of your choice for a premium fee, often priced in BTC. The mode of settlement can vary. Most exchanges settle in BTC, with BitMEX and OKEx as examples.
Here is a summary of popular exchanges offering options:
|Deribit||0.04% of the underlying contract||Up to 10X|
|Binance JEX||0.10 to 0.20% maker’s and taker’s fees, JEX Token 50% Off||Up to 25X|
|LedgerX||$10 withdrawal fee||Up to 10X|
|Quedex||0.03% taker’s fee||Up to 10X|
Trading Bitcoin options involves keeping an eye on the price of the option, the strike price, and the maturity. This way, you ensure that you buy the right Bitcoin options. At this level, you will have already encountered many terms, including “delta” and “implied volatility.” Therefore, if you decide to buy an options contract, you need a decent amount of options knowledge.
Bitcoin options differ from futures in certain ways because when buying a call or put option, you limit your losses to the premium. Options are therefore better for hedging, especially for “participants who have large portfolios on their balances,” according to Alexey Markov, a Moscow-based options trader. This is why they can be complementary to other, riskier investments, like futures, in any given portfolio.
Bitcoin options trading strategies are sophisticated. Let’s take the example of a BTC call option, where you have the option to buy BTC at the expiry date at the strike price. Logically, you would want the price of BTC to go up because the higher it goes, the more your call option is worth.
Bitcoin volatility has an impact on Bitcoin options. Usually, when volatility increases, the options price increases as well.
Bitcoin Options Exchanges and Useful Tips
Different exchange platforms have different options offers. Bitcoin options exchanges are obviously not as numerous as mainstream spot cryptocurrency exchanges because options trading is not as simple as spot trading.
Investors are therefore likely to look at certain factors when picking the right exchange. These include the range of trading options available, the trading fees, the customer support, and the kind of user interface on the exchange dashboard, among others.
In cryptocurrency circles, exchange security is obviously a consideration, given the lucrativeness of digital assets and the devastating recent hacks. Ever since mainstream financial marketplaces like CME (Chicago Mercantile Exchange) begun to offer Bitcoin futures in 2017, the crypto derivatives market has continued to grow.
Xena Exchange will begin offering options trading from Q1 2020. Accordingly, Xena Exchange provides information about all aspects of derivatives trading to ease investors’ entry into this market. The contract trading sector is dynamic, and exchanges like Xena Exchange are at the forefront of this diversity of crypto commerce.