Now we’ve covered the basics of cryptocurrency put options, it’s time for some more live examples. These next two examples will be on Deribit, and will be very similar to the examples in section 4, except this time of course we will be trading cryptocurrency put options instead.
In this first example we are going to buy a bitcoin put option live on the Deribit website. We will walk through the process of navigating the Deribit option chain, locating the option, using the option order form, and placing the trade. We will then look at our potential profit at expiration, taking into account the premium we pay and the strike price, and we will then let the option expire. Once the option has expired we will analyse how the position performed and calculate how much profit/loss was made.
Let’s take a quick look at the current bitcoin price. This is a chart of the bitcoin price on Coinbase.
This is a four hour chart, so each candle represents four hours. Today is Thursday the 21st January 2021, and bitcoin is trading at about $31,684 on Coinbase. The price of bitcoin has been decreasing all day so far. Let’s say we’re not sure if the price is going to rebound, as has happened a couple of times recently, or if this decrease in price is going to continue. But either way we would like to partially hedge our account’s USD value against further downside, while still maintaining our long spot position if price does indeed rebound higher. To achieve this, we’re going to buy a bitcoin put option with a strike price of $30,000, that expires in 2 days (on Saturday the 23rd January).
Back to Deribit
Let’s head back over to the Deribit option chain. As a brief recap, we have strike prices in the middle column, with call options to the left, and put options to the right.
The equity in this account is currently 0.2 BTC, and we have no other positions, so we will use a quantity of 0.2. This way if the price of bitcoin continues strongly to the downside, we will be protecting the USD value of our account for any moves significantly below $30,000.
As you can see in the top left, I have the 23rd of January option chain expanded, so every option we can currently see expires on Saturday at 0800 UTC. We want the $30,000 strike, which we can find in the middle column. And we want the put so we move right from here.
The current best bid is shown in the bid column in green, and the current best ask is shown in the ask column in red. These prices shown are an amount of bitcoin. For example a price of 0.015 means 0.015 BTC, or 1.5% of a bitcoin per contract.
The option order form
We can click the $30,000 put in the option chain, which brings up the option order form for this option. This includes the orderbook of bids and asks on the right, which is the list of other trader’s orders that we can execute against if we choose to.
As we want to buy this $30,000 put option, it is the current asks that we are interested in. The current best ask for this option is fluctuating between 0.015 and 0.0155 BTC, so let’s use 0.015 and we should get a fill. As we mentioned, our desired size is 0.2 so we will also enter an amount of 0.2.
Once we’ve entered this amount, and checked the price is correct, we can click the BUY button. This will bring up the order confirmation screen, where we can double check everything has been entered correctly. Everything is correct here, so I will click the BUY button to create the buy order.
The order has been executed immediately. The pop up in the top right of the screen lets us know the order was filled. We can see our position in the position column in the option chain, and we can also scroll down to the positions table to see our long put sitting in the account.
What could happen
Time to take a look at what could happen at expiry. Let’s remind ourselves of the option parameters we have for this position.
-The underlying asset is bitcoin
-The option type is put
-The expiry date is 23rd January 2021
-The strike price is $30,000
-The option price (or premium) is 0.015 BTC per contract
The fee was also 0.0003 BTC so we will use 0.0153 BTC as the total cost.
Given all the parameters we just covered, this is the PNL chart at expiry for this option position.
For any price of bitcoin above our strike price of $30,000, we will make the maximum possible loss. This maximum loss is limited to the premium we paid, plus the fees. We paid a premium of 0.015 BTC per contract, and the fees were 0.0003 BTC per contract. This gives us a total cost per contract of 0.0153 BTC. As the contract multiplier is 1 and we purchased 0.2 contracts, this equates to a total maximum loss of 0.00306 BTC.
If bitcoin is any price below our strike price of $30,000 at expiry, we can calculate our profit/loss using the formula from lecture 6.2:
=((Strike Price – BTC Price)/BTC Price – Premium)*Position Size
Except instead of just using the premium paid per contract, we can use our total cost per contract including the fee. We’ve also added on the position size multiplier, which is just the number of contracts (in this case 0.2).
The profit/loss line increasing to the left of our strike price is just this same formula plotted for each underlying price of bitcoin at expiry.
As an example, if the price of bitcoin continues moving down, moving all the way to $26,000 at expiry, we can calculate our profit as:
=((30000 – 26000)/26000 – 0.0153)*0.2
= 0.0270 BTC (rounded to 4 decimal places)
This would leave us with an account equity of about 0.227 BTC, which with a bitcoin price of $26,000, means the USD value of the account is about $5,902.
Without this put option the account would still have just 0.2 BTC in it, which would have a value of only $5,200.
So while this account hasn’t retained quite as much of it’s USD value as it would have done with a simple 1x futures short as a hedge (due to the premium paid for the option and the put being out of the money), the put option has helped the account retain more of it’s USD value than would otherwise have been the case with no hedge at all. It has also done so while still enabling the account to participate in any further upside, which the futures short would not have done.
Don’t worry if you’re not quite following this talk of hedging, this example is really just a gentle hint at the subject, and we will go into this in much more detail later in the course.
In lecture 6.3, we gave the formula for the breakeven point of a cryptocurrency put option as:
Cryptocurrency Put Option Breakeven = Strike Price/(1 + Premium)
As with the profit calculations, instead of using just the premium paid, we will use the total cost including fees, which is 0.0153 BTC per contract. The breakeven point is then calculated as:
= 30000/(1 + 0.0153) = $29,547.92
This is the point at which the profit/loss line crosses the x axis.
What actually happened
Now we’ve had a quick look at what could happen, let’s jump forward and find out what actually did happen. Here we have the same 4 hour price chart of bitcoin we looked at just before placing the trade. Except now of course, it is two days later on Saturday 23rd January 2021, and our option has expired.
We can see the point in time we bought the call option on the 21st. Initially, price did continue to the downside, past our strike price of $30,000 as well. However it then rallied higher for the next day, eventually delivering at a price of $32,889.75, well above our strike price of $30,000.
This means the option has zero value at expiry, resulting in the maximum possible bitcoin loss for this trade of 0.00306 BTC.
Remember that earlier we described our motivation for buying this put, as wishing to gain some protection against a further decrease in the bitcoin price, while still getting to participate in any increase in price. So, how have we performed in that regard?
Well, when we bought the put option, we had 0.2 BTC in the account, and the bitcoin price was roughly $31,700. This meant our account was worth about $6,340.
We spent 0.00306 BTC on the put option, which was worthless when it expired, leaving us with 0.19694 BTC in the account (a small loss in bitcoin terms). With a bitcoin price of $32889.75 (using the delivery price when the option expired), this left our account worth $6,477.31, which is $137.31 more than we would have had if we had simply sold all the BTC instead of hedging the downside with a put option. So we had some downside protection from the put, but did still gain in dollar terms from the bitcoin price increasing.
This is very much just scratching the surface of hedging and is just meant to spark a few thoughts on what is possible with options for now.
The Transaction Log
If we go to the menu, and click ‘Transaction Log’, we have access to every transaction in the account.
We can see the transaction where we initially bought the option here. The option details can be seen in the instrument column. It was a buy order to open the position. The amount was 0.2, and we can see the total change to our account in the ‘Change’ column which was 0.00306 BTC including the fee.
In the row above we have the expiry of the option. If the option had some value, this is where we would receive the value of the option back into our balance. As the option had no value at expiry though, nothing was received.