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How can I use Crypto options for speculation and hedging?

The potential returns you generate with crypto options hinges on your understanding of how to use them correctly. Our next step will therefore explore a variety of popular crypto options strategies and the best scenarios for each of them.

Speculation

Speculation tends to be a more short-term strategy, and is often deployed with the goal of realizing a bigger gain for a bigger risk. Crypto options allow you to speculate on the price movements of the underlying asset for a varying degree of risk depending on your appetite for it.

Speculative strategies with Crypto options

Long Call = Buying a Call Crypto option

Long calls can be great options if you’re bullish or believe the underlying crypto asset will go up over a longer period of time. It gives the options contract a longer period of expiry, and therefore more time for the asset to reach or exceed the strike price. 
 

Example

If Bitcoin is currently trading at $10,000 and you believe it will go up to a higher price before the crypto option expiry date, you can take a position by purchasing a crypto call option.


 

 

Risk/Reward: In this case, the potential gains from your long call would be unlimited, and much higher than if you had invested in Bitcoin directly. Your loss, on the other hand, is limited to what you paid for the crypto option since it cannot go below 0, even if Bitcoin’s price is well below the strike price of the crypto option upon expiry.

Note: This strategy can be replicated if you believe that the price will go down over time via the form of selling/shorting a crypto put option. As the price lowers, the value of your put option would increase but the gain would be limited, since the value of the put cannot go below 0. 

Long Put = Buying a Put Crypto option

This trading strategy is used when you’re bearish or believe an asset’s price will decrease in value. Furthermore, long puts enable you to leverage your positions since the change in the value of the option tends to be greater than the change in the value of the underlying asset.

Example

Continuing with the above example, if Bitcoin is currently trading at $10,000, and you believe it will be trading lower before the crypto option expires, you can purchase a put crypto option.

 

Risk/Reward: In this case, the potential gains from your put option would be unlimited, and much higher than if you had invested in Bitcoin directly. Your loss, on the other hand, is limited to what you paid for the crypto option since it cannot go below 0, even if Bitcoin’s price is well above the strike price of the crypto option upon expiry.

Note: This strategy can be replicated if you believe that the price will go up over time via the form of buying a crypto call option. As the price goes higher, the value of your call option would increase.

Straddle = Buying a Call and a Put Crypto option with the same strike price and expiry simultaneously on the same underlying asset

You can use this strategy if you expect that the volatility of an asset will increase, but are not sure of the direction. Straddling is therefore a commonly used approach around important announcements or news that can influence crypto prices sharply. 

Example

Using Bitcoin as an example again, let’s say that there are a new set of regulations being discussed in the US that could affect the crypto market. As a trader, you may not know how it will influence crypto prices, but you expect them to move substantially in one direction or another. In this case, you straddle by purchasing both call and put crypto options with the same expiry for Bitcoin.




 

Risk/Reward: Let’s assume that after the actual announcement, the markets react positively and the price of the underlying crypto asset that you purchased options contracts for shoots up. You’ll incur a small loss on the put crypto option equal to the price you paid for it, and a large gain on the value of the call crypto option. The opposite would be true if prices dropped. You’d incur a loss on the call crypto option equivalent to the price you paid for it, and a gain on the put crypto option. In the case that the markets don’t respond to the event and prices do not change, both crypto options would slowly decrease in value as their expiry approaches.

Hedging

Hedging is an attempt to mitigate losses from your portfolio by taking reverse positions in the case of adverse price changes. One of the central purposes of options is to allow traders to hedge their positions at an attractive cost ratio.

Hedging strategies with Crypto options

Let’s imagine that you’ve made a profit on an investment in Bitcoin. Say that you want to go on an extended holiday and don’t want to follow the markets or trade during this time but also don’t want to sell your investment either. In that case, you can keep your Bitcoin holdings and additionally purchase some Put Crypto options on the same underlying asset.

If Bitcoin goes up, you’ll make a profit on your holdings and a small loss on the Put Crypto option, thus maintaining the overall value of your holdings somewhat stable. Conversely, if the Bitcoin goes down, your losses on the index will be compensated by the gains in the price of the Put Crypto option. Finally, if Bitcoin remains flat, the value of the Put Crypto option will also not change much, and your holdings will remain relatively stable. 

A note on leverage

As we hope we’ve made clear by now, crypto options are more volatile than their underlying assets, which can give traders more profit and loss potential. In fact, from one perspective, crypto options can be seen as taking leveraged positions in the underlying assets. Consequently, you must be careful when using leverage with crypto options. For extra precaution, we’ve capped the multiplier for trading crypto options on StormGain and recommend that you carefully consider the risk you’re willing to take before opening leveraged positions.

Now that you know the basics of Crypto options, the reasons why you may be interested in using them, and the strategies you can utilize, you’re ready to place your first few practice trades

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