Options in the crypto world have seen a meteoric rise, and let’s be real—this isn’t just for Wall Street anymore. This power tool is for crypto ninjas, like you, who want more than just buy and hold. You’re after leverage, risk mitigation, and you want to play volatility. But hey, if you’re just starting out, options can feel like quantum physics.
So here’s the deal—this guide is the ultimate playbook to crypto options. We’re diving deep from the get-go, breaking down the jargon, and decoding strategies from covered calls to protective puts. And we aren’t stopping at theory; we’re talking real-world tactics and examples.
You’re about to unlock a whole new galaxy of trading possibilities with Bitcoin options.
Crypto Options 101
Before diving into strategies, let’s level-set on exactly what options are and how they work.
Here it is – an options contract gives the buyer the right, but not the obligation, to buy or sell the underlying asset at a predetermined price on or before a set expiration date. The seller of the contract is obligated to buy or sell the asset if the buyer chooses to exercise their option.
The predetermined price in the contract is called the strike price. The expiration date when the contract ends is known as the expiry date. Options are considered derivatives trading instruments since their value is derived from an underlying asset, which in our case will be a cryptocurrency like Bitcoin.
There are two main types of options:
- Call options – Give the buyer the right to purchase the underlying asset. Call options will be exercised if the price of bitcoin or other crypto asset rises above the strike price before expiry.
- Put options – Give the buyer the right to sell the underlying asset. Put options will be exercised if the asset price falls below the strike price before expiry.
Options are traded on crypto exchanges like Deribit, Bybit, and Kraken, which offer options trading and act as the middleman connecting buyers and sellers.
Some key advantages that make options a compelling choice for crypto traders include:
- Leverage – Options provide leverage, allowing traders to control large positions while putting up a smaller amount of capital.
- Risk management – Strategies like protective puts can limit downside risks.
- Hedging – Options allow traders to hedge their crypto holdings as a form of insurance.
- Higher profit potential – Successful options trades can result in larger percentage returns versus simply buying and holding assets.
Now that we’ve covered the fundamentals, let’s explore some options trading strategies tailored to crypto.
Popular Crypto Option Trading Strategies
Here are some of the most common options strategies deployed by cryptocurrency traders:
One of the most basic options strategies is the covered call, which involves selling call options against an equivalent long position in the underlying cryptocurrency. Here’s how it works:
- You already own 100 coins of Bitcoin that you purchased at $30,000 per coin.
- You then sell 1 call option contract with a strike price of $40,000 (1 contract controls 100 coins) for a premium of 0.2 BTC per contract.
- If Bitcoin stays below $40,000, the call option expires worthless but you keep the premium.
- If Bitcoin rises above $40,000 before expiry, the buyer will likely exercise the option and you’ll be forced to sell your 100 coins at $40,000. But this sale price is offset by the premium you collected upfront.
Covered calls limit your upside if the crypto price spikes, but allow you to generate income from holdings you already own. It’s a lower risk way to put options to work in your favor.
Protective puts involve purchasing put options as “insurance” against downside moves in your cryptocurrency holdings. Here’s an example:
- You own 2 ETH that you bought at $1,500.
- You’re bullish long-term, but concerned about sudden price drops in the near-term.
- To hedge, you buy 1 put option contract with a $1,200 strike price for a premium of 0.05 ETH.
- If Ethereum stays above $1,200, the put expires worthless but has protected your downside.
- If Ethereum drops below $1,200, you can exercise the put to sell your 2 ETH at $1,200, offsetting losses on your initial position.
Protective puts allow crypto investors to lock in gains and sleep easier during periods of high volatility. While they may appear expensive up front, the protection can be well worth the cost if timed properly.
If you’re bullish on a cryptocurrency and see continued upside ahead, long calls present a great way to profit from rising prices while capping your risk. Here’s how they work:
- Bitcoin is trading at $35,000. You think prices are headed higher.
- You purchase 1 call option contract with a $40,000 strike price, expiring in 6 months, for a premium of 0.5 BTC.
- Over the next 3 months, Bitcoin rallies to $50,000. Your call option is now worth 3 BTC.
- You choose to exercise your call option and buy 1 BTC at the agreed strike of $40,000.
- You then immediately sell that Bitcoin in the market for the higher spot price of $50,000, netting a $10,000 profit minus the initial premium paid.
Long calls provide leveraged upside exposure while capping your loss to the premium paid up front. The longer time until expiry, the higher the leverage.
Bull Call Spreads
Bull call spreads involve purchasing a call option at one strike price while simultaneously selling a call option at a higher strike price on the same underlying asset. Here’s a quick example:
- Ethereum is at $1,500. You buy 1 call contract with a $1,600 strike and sell 1 call contract with a $1,800 strike.
- If Ethereum closes above $1,800 by expiry, your maximum profit is the difference between the two strike prices minus the net debit paid.
- The spread is profitable as long as Ethereum closes above the long call strike at expiration.
- This strategy offers capped upside with reduced premiums compared to a simple long call.
Bull call spreads allow traders to profit from moderate upside moves efficiently. The “bear spread” equivalent would involve puts instead of calls.
The iron condor combines a bull put spread with a bear call spread. It profits from low volatility by shorting options with strike prices both above and below the current price. Here’s how it works:
- Bitcoin is trading at $30,000 per coin.
- You sell 1 put option at $28,000 strike and buy 1 put at $26,000 strike for a net credit.
- You sell 1 call option at $34,000 strike and buy 1 call at $36,000 strike for a net credit.
- Bitcoin must stay between the short strikes at expiration for maximum profit.
- The net credit received up front is your maximum potential gain.
Iron condors produce income in range-bound, low volatility environments – ideal for crypto investing during periods of consolidation.
This just scratches the surface of the advanced strategies available. But it’s enough to get you started applying options to your crypto trading in a meaningful way.
Real-World Crypto Options Trading Examples
Now let’s walk through some real-world examples using live price data to see options trading in action with Bitcoin and Ethereum.
Hedging Bitcoin Exposure with Protective Puts
It’s January 21st, 2024, and Bitcoin is trading around $23,000. You’ve been HODLing 10 BTC since early 2021. But with prices down nearly 70% from all-time highs, you want to hedge against further declines over the next 3 months.
You decide to buy put option contracts with a $20,000 strike price expiring on April 21st. The puts cost a total premium of 0.2 BTC.
- Scenario 1: Bitcoin sinks to $18,000 by April 21st. You exercise your protective put to sell your 10 BTC at $20,000 each, offsetting losses versus holding spot.
- Scenario 2: Bitcoin rebounds to $27,000 by April 21st. Your put expires worthless, but your holdings benefit from the price appreciation.
By sacrificing some potential upside, the protective put limits your exposure to additional downside over the next 3 months.
Generating Income on Ethereum with Covered Calls
It’s December 1st, 2023, and Ethereum is trading at $1,200. You own 10 ETH in a cold storage wallet. With prices stagnant, you want to generate some income from your holdings through covered call writing.
You sell 10 call option contracts with a strike of $1,400 expiring in 60 days to bring in premium income of 0.15 ETH per contract, or 1.5 ETH total.
- Scenario 1: Ethereum stays below $1,400. The calls expire worthless but you keep the full 1.5 ETH premium.
- Scenario 2: Ethereum surges to $1,600 by expiry. Your ETH gets called away at $1,400 but you still profit from the premium while capping your upside.
Covered calls allow long-term crypto investors to offset holding risk by collecting income during consolidation or slight pullbacks in the market.
Trading a Bitcoin Bull Call Spread
It’s mid-August 2023 and Bitcoin has carved out support at $24,000 after a prolonged downtrend. You’re anticipating a bullish run heading into the end of year.
You buy a December expiry 25,000 strike call and sell a December expiry 30,000 strike call to open a bull call spread. The spread costs a net debit of 0.05 BTC.
- Scenario 1: Bitcoin runs to $28,000. The spread nets a profit of around 0.25 BTC.
- Scenario 2: Bitcoin drops to $22,000. The spread loses the 0.05 BTC debit paid upfront.
The defined risk spread allows you to profit from Bitcoin’s upside momentum while limiting capital at risk. Spreads often provide attractive risk-reward ratios.
These examples demonstrate just some of the flexible ways traders can deploy crypto options as part of a layered risk management approach. Make sure to always thoroughly analyze pricing and greeks like delta, gamma, and implied volatility before putting on any options trade.
Options Greeks & Important Metrics to Monitor
Speaking of “greeks”, these metrics are crucial for evaluating the risk-reward profile of a given options position. Let’s explore the key greeks to monitor:
- Delta – The amount an option’s price changes per $1 move in the underlying asset. Calls have positive delta while puts have negative.
- Gamma – The rate of change in an option’s delta. Options accelerating into expiry exhibit higher gamma risk.
- Theta – The time decay eroding an option’s value each day. Theta accelerates into expiration.
- Vega – The option premium sensitivity to changes in implied volatility of the underlying.
- Rho – The impact on option value from changes in interest rates. Low relevance for crypto options.
Let’s review those metrics in more detail.
Delta – The Crypto Option’s “Speedometer”
Delta acts like the speedometer on your option’s value vehicle, indicating how rapidly it reacts to changes in the underlying crypto’s price.
- Calls swing positive deltas, accelerating higher as the asset price increases. It’s like options traders have their foot pressed down on the value acceleration pedal.
- Puts operate with negative deltas, gaining value as the crypto declines. It’s like traders have tapped the brakes on the option value slowdown.
- At-the-money options exhibit deltas around 50, meaning a $1 asset move shifts option value by $0.50. Deep out-of-the-money options have minimal delta.
Savvy traders constantly monitor delta on open positions to anticipate how future price swings will impact their P&L. Is your option value speeding up or slowing down? Delta has the answer.
Gamma – The “Curve” in the Crypto Option Highway
While delta shows the current option value speed, gamma represents the upcoming curve in the option value highway.
- As expiry nears, gamma increases, meaning delta itself becomes more sensitive to price changes.
- It’s like approaching a sharp curve on the highway – a steady foot on the pedal can suddenly whip the vehicle into an out-of-control spiral!
- Large gamma on short options positions introduces acceleration risk. Traders must proactively manage curves ahead.
- Gamma risk expands around the strike price. ATM options exhibit the highest gamma.
Savvy options traders pay close attention to upcoming gamma curves, reducing position size accordingly or exiting before the turn altogether. Don’t get caught slipping on gamma!
Theta – The Tollbooth Draining Crypto Option Value
Think of theta as a daily tollbooth slowly draining value from open options positions as expiry approaches.
- Time decay represented by theta accelerates into expiry, similar to a tollbooth charging more frequent and higher fees near the end of a highway trip.
- Like a leaky gas tank, long options positions lose extrinsic value each day from eroding theta tolls.
- Theta decay hits hardest for at-the-money options with already inflated premiums.
- Traders combat theta tolls through active management, rolling positions forward, or sticking to shorter DTE.
Keep an eye on the theta tolls draining each options trade so you can avoid running on empty into expiration with nothing left in the value tank!
Vega – Turbulence Shaking the Crypto Option Jet
Vega signifies turbulence, measuring how much an option’s value shakes with increases or decreases in implied volatility of the underlying asset.
- Big vega means heightened option value turbulence when crypto volatility takes flight. Traders fasten their seatbelts accordingly.
- Minimal vega points to smooth option value sailing even as volatility changes. Clear skies ahead!
- ATM options again see highest vega, while far OTM/ITM options have detached value from volatility.
- Vega crash-lands as an option nears expiry. Volatility has less time to shake the value.
Traders check vega fit on each option to confirm they can stomach expected air pockets of volatility ahead. Tighten your vega seatbelt before takeoff!
Rho – Negligible Gravity for Crypto Options
Finally, rho quantifies the relatively small impact of interest rate changes on option value, acting like weak gravity with minimal pull.
- Crypto options exhibit little sensitivity to interest rate shifts, with near-zero rho.
- Unlike forex or stock options, crypto options operate free of rho gravity weighing down positions.
- Without dividends or carry costs, crypto options float in zero-g rho environments.
- Traders can basically ignore rho versus other higher-impact greeks like delta, gamma, theta, and vega.
Rho’s negligible gravity gives crypto options traders one less dimension of risk to worry about. Now if only we could eliminate gravity’s impact on Bitcoin’s price!
Beyond the greeks, other vital metrics to analyze include:
- Open Interest – The number of open contracts on an option. Can hint at positioning.
- Volume – The number of contracts traded in a day. High volume signals liquidity.
- Bid-Ask Spread – The difference between bid and ask prices. Tighter spreads have lower friction.
- Implied Volatility – Forward-looking volatility inferred from current pricing. Compare to historical volatility.
Continuously evaluating these metrics allows traders to gain an edge in selecting, managing, and closing options positions across various market environments.
Key Risks and Drawbacks to Understand
While options present unique opportunities in crypto, they also bring inherent risks that must be acknowledged:
- Options are complex instruments – understand how they work before trading.
- Options can expire completely worthless if market expectations are not met.
- Significant leverage means options can amplify both gains and losses.
- Options have time decay, especially as expiry approaches, reducing their value.
- Illiquid options may have wide bid-ask spreads and high slippage on entering or exiting.
- Unexpected volatility spikes can drastically impact options pricing and greeks.
- Assignment risk means options holders may be forced into unwanted spot positions.
- Options don’t make sense for all crypto assets or environments.
With great power comes great responsibility. Use options to complement your crypto portfolio, not dominate it completely. And implement prudent position sizing and risk management principles to avoid getting burned by the unforgiving nature of options trading.
Getting Started to Trade Options
Here are some tips if you’re eager to start putting the power of options trading to work for your cryptocurrency investments:
- Paper trade crypto options first – Practice in a risk-free environment to gain experience.
- Start small – Only allocate 1-5% of your crypto portfolio value to options when first starting out.
- Master the fundamentals – Options pricing, greeks, and basic strategies should become second nature.
- Choose exchanges carefully – Opt for established options exchanges like Deribit with deep liquidity and portfolio margining.
- Define your edge – Come up with a thesis on market direction before putting on trades. Don’t blindly speculate.
- Manage trades actively – Monitor positions closely and adjust or close out as market conditions evolve.
- Hedge risks – Use collars, spreads, and portfolio diversification to minmize downside impact from options trades blowing up.
The learning curve is steep. But options ultimately provide savvy crypto investors with additional tools to thrive across bull and bear markets alike. Put in the work to use them to your advantage.
But before you go…
…if this strategy seems too advanced, it likely means you need to start with the fundamentals. Consider honing your skills in:
Once you’re comfortable with these basic trading styles, come back and check the crypto options again.