Institutional investors are increasingly using crypto options trading to hedge their bets in bear markets
In the current bear market, crypto options trading has been a rare bright spot, building momentum even as crypto prices have plunged.
A number of crypto exchanges have recorded increasing trading volume after hitting lows earlier this year. Options strategies have been prominent among institutional investors and even miners as they try to cope with crypto’s usual volatility and a downturn that could last for months or longer, despite recent hopeful macroeconomic signs.
More recently, traders have been using the crypto options market to stake Ether (ETH) and hedge positions as the Ethereum blockchain’s long-awaited Merge approaches. Panama-based derivatives platform Deribit, which is among the world’s largest exchanges by trading volume for crypto options, told CoinDesk that demand is increasing ahead of the merger.
Earlier this week, in a disappointing second quarter earnings report, crypto exchange giant Coinbase (COIN) even alluded to traders migrating to derivatives-focused platforms as a reason for declining trading volumes. Coinbase’s falling volume led to a 30% drop in the company’s revenue — below most analysts’ estimates.
“A greater amount of trading volume took place on offshore exchanges in Q2,” Coinbase said in its report, adding: “The sequential decline in Q2 institutional trading volume was primarily driven by lower market maker volume on our trading platform. These market participants are gravitating towards products such as derivatives and financing products, which are areas we continue to invest in, but we currently do not have product parity with offshore exchanges.”
A young market?
Bitcoin options trading accounts for just 2% of open derivative contracts across exchanges that trade the cryptocurrency, whose market capitalization is around $462 billion, according to structured products provider Enhanced Digital Group (EDG).
By comparison, traditional stock options trading accounts for 20% of the market capitalization of the S&P 500 on the Chicago Board Options Exchange (CBOE), EDG said. “When you think about everything else [S&P 500]- similar products included [exchange-traded funds]SP Minis, etc., you can see that bitcoin alternatives have multiple growth ahead of them,” EDG quant developer Marcin Maksymiuk told CoinDesk.
Sudden market shocks, technological improvements and a maturing futures market will all contribute to the growth of options, according to Delta Exchange CEO Pankaj Balani.
Delta generates over $200 million in options trading volume per day, and Balani said “options provide a way for people to engage in the market even in a sideways environment.” He predicts options will eventually make up 60% of the crypto trading market.
Peter Wisniewski, managing partner of crypto-focused alternative investment fund Europa Partners, told CoinDesk that the firm expects “the market will continue to mature with greater price efficiency and liquidity.” Wisniewski said the markets are likely to attach options to an expanded range of digital assets.
“Currently, the only crypto derivatives markets with significant liquidity are priced at bitcoin and ether, but we expect to see a continued increase in derivative instruments priced at other types of digital assets, reducing volatility and driving more investment into the space,” Wisniewski added. .
Miners
In recent months, cryptocurrency miners, who have been hit hard by bitcoin’s fall, have been using derivative strategies to hedge price exposure and limit their downside risk. Miner Argo Blockchain even hired an internal derivatives trader in July to manage the market breakout and determine hedging strategies going forward.
Crypto financial services firm Galaxy Digital, which has a division dedicated to lending and risk management for miners, avoided miner-related losses during the second quarter through the use of derivatives strategies, according to CEO Michael Novogratz during the company’s earnings call this week.
Novogratz said he expects to expand these offerings for miners and other customers.
How quickly crypto options trading develops remains uncertain, even as firms add exposure and identify the products and services that can help them manage risk. EDG CEO Chris Bae noted that mining and institutional platforms’ use of derivatives strategies remain at an early stage, and that crypto options trading volumes “have yet to hit the j-curve in terms of their adoption and growth.”
“We see our partners using this sale to hire alternatives and spin-off talent to staff for the opportunity,” Bae said.
Read more: Crypto options trading, explained
