Bitcoin Options – Forex Academy

Introduction

Investing and trading cryptos is not just about buying and selling these currencies, there are other alternatives as well. Bitcoin options trading is a lucrative alternative for the same. It offers more flexibility and extensive strategies in comparison to trading on cryptocurrency exchanges. However, trading Bitcoin options is not as easy as buying Bitcoins on exchanges. In this article, let’s understand some of the basics of trading Bitcoin options.

Bitcoin Options – An Overview

Options are a form of derivative, which implies that they are centered on an underlying asset like cryptocurrencies, stocks, or commodities. Depending on the contract type, buyers will be provided with the opportunity to purchase or sell the asset at a particular value called the strike price within a particular time period.

We will come across two forms of Bitcoin options, just like while trading the traditional options. And they are, Call & Put Options. Call Option holders get the chance to purchase assets at a fixed price within a specific window of time. Put Options offers the chance to sell at a particular price in a specific time frame.

When purchasing Bitcoin options, traders have to pay a specific premium for the chance to sell or buy Bitcoin at a price set in the future. This provides a smart way to go short or long BTC, allowing investors to gain even when the market is declining, and multiply their profits.

How Do Bitcoin Options Trading Work?

If the underlying investment is trading more than the strike price, it is considered to be in the money for a call. Investors have the right to buy Bitcoin at the lower strike price. They can later sell the same at a higher price and keep the difference. If there is a price that goes under the strike price beyond the expiration date, it will not be worth anything. But the loss investors incur is limited to the premium they have paid.

In case of a put, the price must be under the strike price to be “in the money.” Traders have the right to sell the Bitcoin at a higher value than the strike price. To leverage it, investors need to purchase the asset at market price. In the future, they can sell them at a value higher than the strike price and keep the profit.

Where Can Traders Bitcoin Options?

Bitcoin options are not available on the crypto exchanges. Presently, the three primary Bitcoin option trading platforms that include:

Quedex in Gibraltar | LedgerX in New York | Deribit in Amsterdam

Why Trade with Bitcoin Options?

The following are the reasons to trade with Bitcoin Options:

They are better in comparison to futures as their loss is limited to the premium paid.
Bitcoin options are extremely flexible as they can be leveraged to reflect the future pattern and use different types of strategies.
You can harness volatility without bearing a directional position via delta hedging.

It is important to understand that not all Bitcoin options work similarly. While traders can exercise the American Bitcoin option anytime they want, European options can only be exercised upon the expiry. When it comes to buying Bitcoin options, traders should select a credible platform with a proven track record.

The key to Bitcoin’s allure as an investment is its price fluctuations. The fluctuations give investors the choice to buy when the price is bearish and sell when the price is bullish.

But after the 2017 incredible bull run, Bitcoin seems to have adopted a more predictable price action. While the coin experiences volatility, it’s not up to the level where many investors would consider “exciting.”

For this reason, speculators looking for, well, more exciting trades are flocking to Bitcoin derivatives. Global trading of these products already even surpassed Bitcoin.

So what are derivatives exactly? Read on.

What are Derivatives?

A derivative is a tradable security whose value is derived from or relies on an underlying asset. Derivatives are not a modern phenomenon. Indeed, they go as far back as medieval times when merchants all over Europe would use them to facilitate trades and take part in periodical fairs.

Today, derivatives have become an integral part of everyday trading. Generally, they belong to the more sophisticated and high-risk realm of trading. Examples of derivatives include swaps, futures, options, swaps, and warrants.

With that,

Let’s explore Bitcoin derivatives

#1. Bitcoin Futures

Bitcoin futures are an agreement or contract to sell or buy Bitcoin at a predetermined price at a predetermined date in the future. Bitcoin futures give investors the opportunity to participate in the Bitcoin market without having to purchase the underlying currency.

By trading in Bitcoin futures, investors get certain benefits as opposed to if they were trading in Bitcoin directly. First, trades take place on an exchange regulated by the Commodities Futures Trading Commission, which would give investors who are risk-averse more confidence to participate. Second, futures are settled in Fiat, which means investors do not need to sign up for or invest in a Bitcoin wallet.

Of all Bitcoin derivatives, futures were the first to really explode into the market, and they remain the most actively traded today. Before they caught on, BTC futures were trading in lesser-known platforms. It’s only in 2014 when increased demand prompted major exchanges such as CME Group Inc and Cboe Global Markets to start offering the service. Bitcoin futures today lead other Bitcoin derivatives in terms of adoption and market activity.

#2. Bitcoin Perpetual Futures (Swaps)

The Bitcoin market also supports derivatives known as perpetual futures or swaps, which are a lot like the standard futures discussed above, except they do not have an expiry date, a predetermined date on which they are to be settled.

Since the contract will never expire, both the parties can hold the position indefinitely, as long as their BTC count holds enough funds to cover them.

Perpetual futures use a mechanism called funding rate, which is a small fee that keeps the price of a contract near the underlying spot price index to cushion against major deviations. Funding rates usually correlate with market sentiment. When the market is bullish, funding rates will be positive, and when the market is bearish, funding rates will tend to be negative.

The funding rates are exchanged between the two participants in a contract (long and short parties) – it’s not a fee collected by the exchange.

Note: Both perpetual features and the funding rate phenomenons were invented by crypto exchange Bitmex.

#3. Bitcoin Options

Bitcoin options are derivatives that track the Bitcoin market over time. A trader invests in an option by buying the “option” or right (but not obligation) to sell or buy the asset at a set price (known as the strike price) in the future.

Options contracts can either be of two types: call and put. Call options give you the right to purchase underlying assets before or on a specific date. Put options give you the right to sell it.

Options contracts can also be either European or American. An American option allows you to exercise options rights at any time during the life of a contract (before and on the date of expiration), while the European option can only be executed on the day of expiration.

Owning the rights to an option means that you reserve the right to buy or sell on the expiry date. If you don’t, the contract simply lapses. However, you lose the money you paid for the contract.

Just like futures, options are settled in cash but bear very little risk compared to futures. With futures, both parties (buyer and seller) have unlimited risk and reward (since the price of Bitcoin can go any direction before the settlement). For options, however, only buyers have an unlimited reward for a limited risk, while sellers have unlimited risk and very limited reward.