MPExplained: Trading Position Tokens
TLDR: Position Tokens have a capped max gain or loss and trade with leverage. You never lose more than expected.
Now that we have explained how Position Tokens are priced, let’s move on to trading. As a reminder, all open Position Tokens have a Price Cap and Price Floor, which provide a capped maximum gain or loss.
Let’s go through some examples. Below is the BTC/DAI token we introduced in our last post:
Name: BTC/DAI 6/30
Reference asset: BTC
Collateral token: DAI
Price Cap = $12,000
Price Floor = $8,000
All prices between the Price Floor and the Price Cap ($8000 to $12,000) are tradable. The price of the Position Token changes as the price of bitcoin moves.
Let’s go through a specific example when the price of BTC is $9,000.
Current Price = $9,000
Price Cap = $12,000
Price Floor = $8,000
Long BTC/DAI 6/30 Position Token:
Price of Long Token = Current Price - Price Floor
Max Gain = Price Cap - Current Price
Max Loss = Current Price - Price Floor
So for our long Position Token:
Price of Long Token = $9,000 - $8,000 = $1,000
Max Gain = $12,000 - $9,000 = $3,000
Max Loss = $9,000 - $8,000 = $1,000
In this example, we purchased a long BTC/DAI 6/30 Position Token for $1,000 (which is also our maximum possible loss).
Let’s go through a few scenarios where the price of BTC changes.
Scenario 1: BTC goes up from $9,000 to $10,000, and we trade out of our position
Price of Long Token = Current Price - Price Floor
Price of Long Token = $10,000 - $8,000 = $2,000
We can sell our long Position Token for $2,000, profiting by $1,000 since the price of BTC (the reference asset) went from $9,000 to $10,000.
The token initially cost $1,000 and represented exposure to $9,000 of bitcoin, implying 9:1 leverage.
If we initiated this trade in the spot market, then we would have been able to purchase just 0.111 BTC for $1,000 ($1,000 / $9,000), resulting in a gain of only $111.11 (0.111 BTC x ($10,000 - $9,000)), rather than $1,000 ($10,000 - $9,000).
Scenario 2: BTC goes down from $9,000 to $7,000, breaching our price band
Price of Long Token = $0
For a long Position Token, if the price of the reference asset falls below the Price Floor, then the token is worthless. In this example, the price of BTC (the reference asset) is $7,000, which is below the Price Floor of $8,000.
As a result, all BTC/DAI 6/30 Position Tokens go to settlement. As a long token holder, we receive our maximum loss, while the short token holders receive their maximum gain.
It is important to note that even though BTC is trading at $7,000 ($1,000 below the Price Floor floor) we only lose the $1,000 we initially paid for the position (when BTC was trading at $9,000) since $1,000 was our maximum possible downside. This concept is covered in more detail in our previous post.
After settlement, all tokens can be submitted to the smart contract for a return of collateral.
Scenario 3: 28 days have elapsed since contract creation, so our position expires
When a Position Token reaches expiration we use an oracle to bring price data onto the Ethereum blockchain. We are currently using CoinCap to aggregate the price of BTC from an index of 70+ exchanges. This will set a final price for long and short Position Tokens.
For example, let’s say after 28 days the contract settles at a BTC price of $8,300.
Price of Long Token = Current Price - Price Floor
Price of Long Token = $8,300 - $8,000 = $300
We paid $1,000 for the token, but it’s now worth $300, so our loss is $700
Let’s consider for a moment the short Position Token. Remember from our previous post the following formula:
Price of Short Token = Price Cap - Current Price
So the value of our short token:
Price of Short Token = $12,000 - $8,300 = $3,700
After settlement, all tokens can be submitted to the smart contract for a return of collateral based on these prices.
This post is part of an educational series that we kicked off with our MPX launch announcement:
- Pricing
- Trading (this post)
- Minting & Redemption (coming soon!)
- Expiration & Settlement
- The MKT Token & Rewards
- Leverage
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If you are interested in listing Position Tokens or making markets, send us an email at partnerships@marketprotocol.io.
