August 25, 2023
Introduction to Crypto Options
Crypto options are similar to TradFi options. They’re financial instruments that give you the right to buy or sell a cryptocurrency at a predetermined price on or before a predetermined date.
Crypto options can be settled in cash or crypto and, like TradFi options, they give you a relatively low-risk, low-cost method for trading crypto, because option prices are usually small, and your risk is limited to what you pay for the option.
Investors often buy options to speculate, because you can make quick outsized returns with them. But, options are also an important tool in overall portfolio risk management, which we'll get to a bit later below. In the crypto world, you can trade options on crypto and crypto futures.
Two Types of Crypto Options: Put vs. Call
There are two basic types of options, a “Put” and a “Call.”
A put option gives its holder the right to sell a given amount of crypto within a specific time at a certain price, called the “strike” price. You’d buy a put if you think the price of the underlying crypto is going to decrease. Buying a put gives you the right to sell the crypto at the strike price, while selling a put obligates you to buy the crypto at the strike price if the buyer exercises the option.
Similarly, a call option gives its holder the right to buy crypto under the same conditions. You’d
buy a call if you think the price of the underlying crypto is going to increase. Buying a call gives you the right to buy the crypto at the strike price, while selling a call obligates you to sell the crypto at the strike price if the buyer exercises the option.
Overall, put and call options are used for different purposes and have different risk profiles. Puts protect against a decline in the crypto’s price, while calls profit from an increase in the crypto’s price. You can use both types of options to manage risk and speculate on market movements.
In-, out-, and at-the-money: Understanding crypto options prices
When talking about options, you’ll hear the phrases “In-, Out-, and At-the-Money.” These refer to the underlying crypto’s price relative to the strike price of the option.
In-the-Money (ITM)
A call is in the money when the strike price is lower than the current price of the underlying crypto. A put is in the money when the strike price is higher than the current price of the underlying crypto. ITM options have intrinsic value, which is the difference between the strike price and the current market price of the underlying crypto.
At-the-Money (ATM)
An option is at the money when its strike price is equal to the current price of the underlying crypto. ATM options have no intrinsic value, only time value. (That is, you have time until the option expires, and you may still get a profit out of it.)
Out-of-the-Money (OTM)
An option is out of the money when the strike price is higher than the current price of the underlying crypto. For a put, this is when the strike price is lower than the current price of the underlying crypto. OTM options have no intrinsic value, only time value.
Measuring Crypto Options Risk with the Greeks
No, not actual Greeks, bearing gifts or otherwise. In options trading, the Greeks are a set of risk measurements that can be used to measure the sensitivity of an option's price. They’re called Greeks because they are named after letters of the Greek alphabet.
If you know any math, you know that “delta” is a measurement of change. And so it's here. Delta measures the change in an option's price resulting from a change in the underlying crypto. Delta is a number between zero and one for calls and between zero and -1 for puts.
Gamma measures the rate of change in an option's delta over time and the rate of change in the underlying crypto. Theta is the rate of time decay of an option's price as time passes. It’s always a negative number.
Vega measures the sensitivity of an option's price to changes in implied volatility; it’s always positive. Implied volatility gives you the market’s prediction of the likely price movement. It’s used to price options—high implied volatility means higher premiums and vice versa. Here is a recent discussion on volatility and implied vol. Rho measures the sensitivity of an option's price to changes in interest rates. Rho is expressed as a positive number for calls and a negative number for puts.
Understanding an option’s Greeks enables you to measure the risk and potential reward of an option position.
Benefits of Crypto Options
Crypto options offer you many benefits, including:
Leverage: Because you are typically putting up a premium, which is a fraction of the underlying crypto price, you can get a lot of leverage and big returns if the markets go your way.
Risk management: The primary benefit of options over outright ownership or futures contracts is lessened, measurable risk. If the market moves away from you, you can choose not to exercise the option, in which case you lose only what you put up (the option premium). Additionally, options can help you mitigate trading risk by giving you a very powerful and flexible tool to use in hedging and other risk management strategies.
Portfolio diversification: By adding options to your portfolio, you can diversify the portfolio and reduce the portfolio’s overall risk.
Price discovery: Options can give you another window into markets by providing additional information about sentiment and market structure.
Crypto Options Trading Risks
There are always risks to crypto options…
Options can be less risky because they require a smaller financial commitment than their associated spot crypto. However, they can be deceptively costly, since you pay a premium for every new contract you buy, and if you aren’t making money on these options, the premiums can add up.
The inherent leverage in options combined with the extreme volatility of crypto can make crypto options markets fast and furious. Be prepared, cautious, and do your homework before you drive in.
Another risk is simply that options are more complex than spot trading. As we’ve seen above, you need to understand the Greeks to accurately measure your risk and the meaning of price movements. Education here is a must.
The crypto options market is less regulated than TradFi markets. This lack of regulation can expose you to a number of risks, including market manipulation, fraud, and security breaches.
Crypto options markets can be less liquid than spot markets. This can result in wider bid-ask spreads and more slippage. Then there’s counterparty risk. With options, you always have a counterparty. If the counterparty, for whatever reason, doesn’t fulfill their obligations, you can be left holding the bag. Choose reputable platforms and counterparties to mitigate this risk.
…but here’s how Amberdata can help you mitigate them
Amberdata provides valuable data and insights for crypto options traders, helping them make informed decisions and mitigate risks. By leveraging Our data and analytics, you can gain a competitive edge.
We provide real time and historical transparency into options on all the major exchanges, keeping you abreast of trends, understand market dynamics, and make better informed decisions.
We provide comprehensive options data and insights, including volatility and risk metrics, open interest, and historical data. This data can help you analyze market trends, identify potential opportunities, and avoid potential risks.
Our options analytics tools were designed based on our team’s years of deep options trading expertise. These tools can help you analyze options pricing, implied volatility, and other key metrics to assess the potential profitability of different options strategies. Our order book Greek endpoints offer a detailed and comprehensive analysis of the state of the crypto options market. Our IV order book provides insights into the implied volatility of various strike prices, while our IV Orderbook Greeks endpoint delves deeper into understanding the risk and reward associated with different option positions.
Our quarterly options reports provide valuable information on market volatility, including the potential drivers of volatility in the options market. You can use this information to adjust your strategies and manage risk accordingly.
Amberdata datasets can also help you with risk management and compliance. Accurate, up-to-date data enables you to assess the risk associated with different options strategies and ensure compliance with regulations.
In summary, Amberdata's data and insights provide traders with comprehensive options market data, analytics tools, and valuable insights into market volatility. With Amberdata, you’ll make more informed decisions, develop effective options trading strategies, and manage risk more effectively.
To learn more about Amberdata, please contact us to book a demo, hear about our products that can help your business, or receive pricing information.
