Large Bitcoin Options Positions May Boost Price Volatility This Week

As long as these options remain open in the market, the next couple of days could be volatile for bitcoin.

Large Bitcoin Options Positions May Boost Price Volatility This Week

Bitcoins options market continues to grow along with an institutional-led bull run in the leading cryptocurrency. Yet, while many use options to hedge their positions, the large amounts of bitcoin options slated to expire in a few days may themselves lead to wild price swings as January draws to a close.

There are 120,300 contracts worth $4 billion set to expire this Friday on major exchanges Deribit, CME, Bakkt, OKEx, LedgerX, according to data source Skew. Much of that amount can be found on Deribit, the worlds largest crypto options exchange by trading volume. It is on track to register a record monthly bitcoin (BTC, -4.67%) options expiry of 102,162 contracts (nearly $3.5 billion).

A call option gives the holder the right but not the obligation to buy the underlying at a predetermined price on or before a specific date; a put option represents a right to sell. An out-of-the-money (OTM) call is the one with the strike price higher than the spot price. As of press time, call options at strike prices above the current spot price of $34,500 are OTM. Meanwhile, put options at strikes below the spot price are OTM as well.

Market makers may inject volatility

Option expiries seldom have a direct impact on the spot price. However, when open interest is concentrated in out-of-the-money (OTM) call and put options, which is the case with bitcoin, a sudden pre-expiry move forces market makers to hedge with the underlying asset. That leads to more significant price turbulence.

Over 80% of the Deribit-based Jan. 29 expiry open interest is set to expire out-of-the-money, or worthless. Notably, more than 52,600 call option contracts and 29,800 put option contracts are currently OTM, as noted by Swiss-based data provider Laevitas.

“If BTC rapidly jumps to all-time highs within the next few days, its expected market makers will aggressively hedge their out-of-the-money short call option exposures, which would likely increase overall market volatility and momentum in the underlying price,” Samneet Chepal, quantitative analyst at the quantitative and systematic digital asset investment firm Ledger Prime, says.

Market makers are individuals or member firms of an exchange that create liquidity in the market and take the opposite side of the transaction initiated by traders/investors.

Given the recent strong bullish sentiment and massive buying in higher strike, out-of-the-money call options, market makers across the board are likely to be net short gamma (call sellers), according to Chepal.

Options gamma is the rate that delta will change based on a $1 change in bitcoins price. Delta measures the sensitivity of options prices to the changes in the spot market price.

Being short gamma means being an option writer (seller) regardless of whether call or put. In this case, market makers are short gamma due to call selling. That makes them vulnerable to a sudden move to the higher side.

Therefore, if bitcoin rallies while heading into Fridays expiry, the market makers may aggressively hedge their OTM short call exposure by taking a long position in the spot market, leading to heightened price volatility and stronger bull momentum.

The market makers will likely spring into action if bitcoin jumps to all-time highs above $42,000 ahead of Friday, as most open interest is concentrated in higher strike price calls. “A massive chunk of open interest is in deeper OTM call strikes above $44,000,” Chepal said.