Bitcoin Options Could Be One Thing That Could Calm This Beast

Quite frankly, today is one of the most anticipated market events of my lifetime.

Never before has there been a singular event as watched as the introduction of bitcoin futures.

Futures are a welcome addition to investors looking to invest in bitcoin.

However, the derivative that would have the most impact on the bitcoin bubble, is options.

Let me explain for what I mean.

Futures reals are not set up to deal with the volatility that comes with these bitcoin prices.

CBOE began trading them on Sunday, and shortly they will be trading on the CME.  It is rumored that large, mainstream brokers like ETrade, E*Trade and Ally will also allow bitcoin futures to be traded on some accounts.

According to the way futures rules work, the price movements from this past Thursday would have temporarily suspended trading.

To enhance the price stabilization needed for bitcoin, you need to introduce options.

A one-month futures price of $18,000, only tells you that if you sell a bitcoin when it goes to $18,604, and buy a futures contract expiring in a month, you’re effectively earning a 41% rate of interest, annualized.

It is up to the individual investor to judge if that is too high or too low, give all of the puny interest rates in the current economy,  That could be nothing to someone who thinks bitcoin is going to $100,000 in a month or beyond.  What futures markets won’t tell you on the dispersion of expectations and their probabilities.

Pelham Smithers Associates and Albert Maass, have done a complete analysis of bitcoin options on futures contracts that currently trade on Deribit, a European derivatives bourse for the digital currency. They constructed an at-the-money “straddle” around a strike price of $12,000 on Dec. 5 by buying two bitcoin call options for that amount and one put. The structure would only make money if the March futures price went above $18,000 in a month (i.e., by early January), or fell to $9,000 or less.

An Evil Smile… 

An ATM straddle on bitcoin options on Deribit on 12/5 was profitable only if the price of the futures contract rose by at least 50%, or fell by at least 25%, in a single month.

Currently, bitcoin options only reward expectations of massive abnormalities: price gains of 50% or more, or price losses of 25% or more, in one month.  As these analysts remarked, “options are so rich, you need a big move up or down in bitcoin to justify their price.”

A straddle on a currency like the British pound would pay out if there was a small 2% move.

To put this differently, completely extreme views are presently ruling bitcoin.  For now, and it will change, the only way to tamp down this craziness is for the major players, CME, CBOE, etc.. offer options.  This will cut down on the irrationality, and move this all to more tolerable price movements.

And like bitcoins in general, their options are still a game for wild-eyed speculators,  If they could just get things right, bitcoin prices could finally calm down.

 

 

— The Option Specialist

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About the Author: The Option Specialist