Backtest Results from a Bitcoin Covered Call Strategy
A Bitcoin simulation involving options, leverage, and everything Warren Buffet told us not to do.
The strategy, if you’ve dabbled in options, is actually quite a simple one.
We use a systematic covered call strategy with generous amounts of leverage.
Every week we simulated selling far out-of-the-money call options for a premium.
Systematic Covered Calls Strategy
The goal is to set the strike price far enough away from the current price so that the call options expire worthless and we collect the premium. The profits are then compounded back into the strategy to maximize returns. We are basically selling a form of price insurance on a weekly basis.
The graph below shows how the strategy performed over the course of 3.4 years. The blue line is the price of BTC in USD and the red line(strike price for the call option) is what you don’t want to cross. Crossing the line at the end of the week means big losses(times the amount of leverage).
Backtest Results
According to our backtests, if you had bought 10 bitcoins in April 2019, costing you about $50k, using our strategy you’d now have 26.7 bitcoins today which would be worth a whopping $640k. That’s a plus 1,000% return a.k.a. a 10 bagger. In terms of Bitcoins you would have 2.6x’d your bitcoins or grew your stack 31.4% per annum.
Strategy Overview
Strategy : High leverage(5x) weekly OTM call selling aka covered calls
Back-tested time period : 3.4 years (2019-April to 2022 July)Starting capital : 10 BTC ($50,500)
Ending capital : 26.7 BTC ($640,800)Total Profitability in BTC : 167%
Total Profitability in USD : 1,168%
Profitability per annum in BTC : 31.4%Profitable weeks : 96.4% (169/175)
Loss weeks : 3.4% (6/175)
Max Drawdown : -53%
Most of the losses occur around the start of the bull run where we see continued upward price action week over week. The options market was clearly not pricing in the upward volatility during this period.
Another interesting point is that starting from 2021 there are almost no loss weeks. This is likely due to the options market over-estimating volatility during the bull run(euphoria) and hence no calls settled in-the-money.
Looking through each of the individual loss weeks, there is one particularly pronounced loss in December 2020. This is the week that bitcoin blasted through its previous 2017 ATH of $19,700 after four years of consolidation.
They say Hindsight is 20/20…
If we were to use the amazing the power of hindsight and skipped this one particular week we’d get the utterly ridiculous graph below. 10 BTC to 48.4 BTC in 3.4 years; 50k to $1.1m and with a sharpe ratio of 5.3(3 and above is considered god-tier).
Obviously this is more akin to wishful thinking than quantitative modeling, but with further research, there may be ways to systematically reduce risk.
Regarding backtesting even further back in time, it would no doubt be helpful, but the data provider only offers option trading data from March 2019. It’s also possible to use historical volatility as a proxy for IV and derive option prices, but currently, I think this is sufficient. The backtest is almost 4 years which is a full Bitcoin halvening cycle and it also encapsulates the full 2020–2021 bull run.
Strategy DIY vs Automation
For those of you that are courageous enough to replicate this strategy, I plan to create an easy follow-along guide, but it will require you to understand some option theory and also carry out the trade on a weekly basis.
For those that would rather automate this strategy, we at Flynt Finance are planning to launch a public version with the same specifications as the backtest. We have been running a pilot strategy in private for the past 3 months and the results are looking rather promising.
Currently, the live pilot strategy has returned 10.4% over the past 100 days equating to an APR of 53% with no loss weeks.
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Disclaimers: The main results are from a backtest, ie a simulation based on historic data. We did however try to model it as conservatively as possible. This is a very aggressive strategy; we use a lot of leverage and options on crypto(the unholy trifecta). Forced liquidations may significantly affect profitability. The private pilot strategy has had changes in its specifications since its inception and hence differs from the backtest models. This post is not financial advice and please remember past performance does not guarantee future results.
