Thoughts on the Future of Options in DeFi
18-years of TradFi experience counts, even in crypto!
The future is so bright fo the DeFi market, it feels like we are Christopher Columbus discovering a new world, and boom — in 2 years’ time DeFi will be completely unrecognizable (yes, I equate 2 years in crypto to 450+ years realtime)!
When Fraser and I started looking at the DeFi derivatives markets in general, and options specifically, around 6-months ago, I wondered how long it might take for the true innovation that has been witnessed in TradFi to permeate into DeFi?. After all, the principles of pricing and risk managing derivatives have long been established by such mathematical geniuses as Fischer Black & Myron Scholes (the Black-Scholes options pricing tools) and game theorists like John Nash (he of A Beautiful Mind fame). What was not then clear was the innovation coming through in using these models in the blockchain coding world, where each line of code has a cost to it for deployment and interaction, and adding complex mathematical computations to code causes outrageous cost implications for users so as to make them unusable. This is still somewhat of a conundrum today, and the genesis of this note.
What if developers came together to solve many of the issues that are limiting the market’s expansion into the next-generation derivatives markets such as Structured Investment Products, multi-options strategies like collars, call/put spreads, butterfly spreads, and the 4th generation derivatives subset, known as binary options, with such features as one-touch, no-touch and other event-driven outcomes which TradFi options traders and clients so enjoy for risk management?
Collateralized Options Trading
Most of the market operates on the concept of a fully-collateralized options market, where users provide liquidity and are rewarded for providing liquidity through aggressive offerings.
We want our v2 to contemplate issues such as settlement currency standardization — perhaps it’s ETH, perhaps a stablecoin like USDC regardless of the currency pair — fulfilment of buy/sell orders and cash-settlement of the underlying rather than trading through collateral tokens are all (relatively) new concepts to DeFi, and there is zero reason they can and should not be adopted.
Product Explainer
It is critical to remember that asset traders of all types like to shroud their “genius” in cool language, interesting acronyms and funky names. Much like any industry in the world with purported high barriers to entry, this is a smokescreen and the concepts are relatively simple — let’s explore each in a couple of lines:
- Structured Investment products: a trader embeds an option into a regular investment for a user. A user will sell an option — usually for a currency in which they have the capability to deliver (think a UK exporter selling in USD and needing to regularly sell the USD for GBP) — and then use the premium received to enhance their investment rate of return. This would work for an crypto trading pair where the option seller can deliver the underlying in need.
- Collars; call/put spreads; butterfly spreads etc: these strategies are formed through the purchase and sale of different option types, in order for a user to pay a simple premium and build exposure to a risk profile. For example, a collar is the simultaneous purchase of a call or put, and the sale of a put or call. The user simply sells the opposite of that which they bought for a simple premium and a desired risk exposure.
- 4th generation or event-driven derivatives: these strategies are deployed when a user has a strong bias to a certain event happening, and wants to take financial advantage of that event. Let’s say they believe that ETH will drop to $1,950 for a split second before rebounding, but they don’t want to short the currency. they could purchase a digital one-touch option that pays out a defined value should $1,950 be touched just once.
There are a lot more ideas to get into, but these are the basis of our next-level thinking.
Learn More
Gitbook: https://options-market.gitbook.io/options-market/
Website: https://options.market
Telegram: https://t.me/options_market
Twitter: https://twitter.com/osmtoken
Discord: https://discord.gg/jPvQYdGU4h
