The stock market has been like a weathervane in the past week, buffeted this way and that by global headwinds.
US equities were trending upwards, to everyone’s relief, before the latest episode of superpower rivalry hit the headlines and poured cold water on a recovery.
It’s clear that a lack of ‘safe haven’ investments in the present is pushing institutional investors into futures and options, some to hedge risk and some in search of handsome returns.
The crypto market epitomizes this moment of uncertainty, with much ink having been spilt over its crash earlier this year.
Yet, prophecies of an ever-bottoming market have been proven premature.
Instead, the crypto industry has been thinned out, with unserious, overleveraged firms and exchanges being picked off as liquidity dried up in an onrushing bear market.
For the crypto exchanges who have come out the other side, options trading seems to be the service best suited to the needs of the day. Recently, ahead of the ETH 2.0 news, ETH options open interest is, for the first time, higher than BTC.
The challenge in the past, however, has been how crypto investors fund their options trading.
In a game where speed is of the essence, institutions were having to convert fiat into cryptocurrencies like Bitcoin to then trade options in the same or other digital assets.
This was needlessly cumbersome and has thankfully been revolutionized, with exchanges like Bit.com now rolling out USD-margin trading, to the relief of their users.
What this means is that users can now buy and sell options in cryptocurrencies which are denominated and settled with US dollars, or USDC, rather than with the crypto itself.
In terms of efficiency, the improvement is obvious, but options trading, especially in USD, is also a win for both flexibility and risk management.
First and foremost, trading options is inherently flexible, as the trader has the choice, or ‘option’, to buy or sell an asset on a specific date. In current macroeconomic conditions, where markets can turn on a dime, this breathing space is priceless.
Options likewise enable investors to fund multiple positions in a given market by letting them put up collateral to fund their trades, instead of surrendering hard cash.
An investor seeking to profit on a potential upswing in future stablecoin values, for example, may also want to gain exposure to the altcoin market. By trading options, they can do both.
Options are also noted to be an excellent tool for investors to hedge risk, a particularly useful feature in volatile crypto markets.
Take a scenario where an institution is holding a popular cryptocurrency like Bitcoin but is uncertain if the price will hold.
To hedge risk, they could ‘write’ (this means sell) options at a specified price on a specified date, providing them with an insurance policy against a downturn in prices.
On the subject of insurance, the risk management potential of USD-based options trading likewise relates to the level of collateral that is required to cover a trader’s position up to the agreed date.
Cryptocurrencies, like most other equities, are fluctuating as the market moves this way or that. This means that an asset like Bitcoin doesn’t make for ideal collateral, as falling prices will require more and more of it to be put up.
In contrast to skittish markets, the dollar is a place of respite for investors, especially with a now hawkish Fed committing itself to taming domestic inflation.
The ability to use dollars as collateral, therefore, allows investors to trade options on a solid footing – they can focus on the rationale of the trade, rather than having to look behind them as their collateral ebbs and flows.
In sum, while options trading on crypto exchanges isn’t new, it’s certainly an underappreciated service.
Why? Because options offer investors the flexibility both to chase higher returns and hedge against risk, a necessity in such an uncertain market.