A Delta-Neutral Strategy to Profit from Volatility around the Merge

In this article, we present “volatility swap”, an exotic derivative providing pure exposure to volatility.

Orbit Markets
4 min readAug 22, 2022

With the Merge expected to land in mid-September, the ETH market has been on a roller-coaster ride, doubling from 1000 to 2000 in one month, before giving up half of the gains back down to 1500 in a week. ETH’s realized volatility has been hovering around 100 vols and is unlikely to abate as the Merge draws nearer. Whether the Merge exceeds expectations or disappoints, the market is bound to see wild swings both ways.

The risk premium for the event, presumably the most important of the year, still looks cheap. The implied vol for expiry 30 Sep (post-event) is only 9 vols more expensive than that for 2 Sep (pre-event), making it appealing to buy vol over the event. If you are unconvinced of the direction in which the spot will go and just want to bet on higher volatility around the event, one of the simplest ways is through volatility swaps.

ETH Volatility Term Structure

A volatility swap, or “volswap”, is a derivative contract that pays the difference between the realized volatility and a pre-agreed strike volatility.

Payoff = Notional * (Realized Vol - Strike Vol)

For example, if you expect the market to be choppy in September, you can buy a September volswap in 1,000 USDC notional at a strike of 115 vols. Starting on the 1st of September, till the 30th, if ETH’s realized vol during this period is above the strike, say at 125, you would reap a profit of 1,000 * (125 - 115) = 10,000 USDC . However, the trade doesn’t come without risk. If the realized volatility turns out to be below the strike, say at 105, the payout would be 1,000 * (105 - 115) = -10,000 USDC, i.e. you lose 10,000 USDC.

Volswap Payoff Chart

One benefit of buying a volswap over vanilla options would be that you are purely exposed to the direction-agnostic volatility. The magnitude of spot moves affects your P&L, but not their direction. In option’s lingo, your delta is constantly zero no matter where the spot is. Volswaps let you isolate and express your vol views in a simple format.

Furthermore, OrBit can provide additional customization to further cheapen the vol strike by adding a cap to the payoff. For example, if you think vol will be higher but only mildly, you can add a cap at 135 vols, which lowers the fair strike from 115 to 105. This means that if ETH vol realizes at 125, you will receive a payout of 1,000 * [Min(125, 135) - 105] = 20,000 USDC. On the other hand, you are giving up some upside in case of an extreme squeeze. If volatility realizes at 155, which is above the cap, you would only get 1,000 * [Min(155, 135) - 105] = 30,000, instead of 1,000 * (155 - 115) = 40,000 USDC in the case of a normal volswap without a cap.

Capped Volswap Payoff Chart

Volswaps are fully customizable products. Don’t hesitate to contact us for variations in the underlying asset, contract period, caps and strikes. Email us at info@orbitmarkets.io or via twitter @OrBit_Markets.

About OrBit

OrBit Markets is an institutional liquidity provider of exotic options and structured products in digital assets. Founded by a strong team of leaders in trading and computer science, and backed by Matrixport and Brevan Howard Digital, OrBit brings its expert know-how in options to the crypto market. Headquartered in Singapore, OrBit serves institutions across CeFi, DeFi and TradFi looking for more sophisticated investing and hedging solutions in digital assets. For more information, visit www.orbitmarkets.io.

Important Disclaimer

This article is intended for educational purposes only and does not constitute the provision of investment advice and is not intended to do so. OrBit specifically disclaims all liability for any direct, indirect, consequential or other losses or damages that may arise from any reliance on this article.

Trading in cryptocurrencies, derivatives and structured products may involve a high degree of risk and may not be appropriate for all investors. Under some market conditions, it may be impossible to liquidate a position. Investors may suffer substantial losses and even lose the entire amount of your investment.

The product described in this article is intended for sophisticated investors capable of evaluating the merits and risks of the product, its suitability and appropriateness and its legal, taxation, accounting and financial implications.

Prices provided in this article are illustrative only and do not represent a firm bid or offer price.