Open interest for
Bitcoin options hit their all-time high of $2.14 billion on Sept. 24, a
day before a huge quarterly expiry of 89,100 contracts — i.e., 47% of
existing options contracts at the time. Options are derivative contracts
that give the holder the right (though not an obligation) to purchase
or sell an underlying asset at a predetermined price, also known as the
“strike price.”

Observing the OI trends before every monthly and
quarterly expiry, there are spikes just before the date of expiry, and
they have been incremental after each expiry, pointing toward the
increased liquidity in the Bitcoin (BTC) options market and an increasing number of investors participating.

Since
this past expiry was a quarterly expiry for Q3, it was expected that
the open interest would surge past the OI seen in the prior monthly
expiries of the same quarter. Cointelegraph discussed this further with
Shaun Fernando, the head of risk and product strategy at Deribit — a
crypto derivatives exchange — who agreed by saying that “the trend of
open interest increasing every quarterly expiry signifies a trend of an
increase in liquidity in options,” further adding:

“The
longer an expiry exists for, the more the open interest can increase as
traders take positions in that expiry. So, the March 2021 expiry was
introduced at the end of June, which gives it more time for positions to
be created on than a daily expiry, which would generally have two days
of existence. Hence quarterlies are correlated in open interest.”

Besides
high OI being related to the liquidity of options and the increased
number of market participants, they could also be driven by larger
macroeconomic events within the crypto markets such as the decentralized
finance hype and long term effects of the Bitcoin halving
on the markets. Lennix Lai, the director of financial markets of OKEx
crypto exchange, echoes this evaluation while addressing the reason why
there is an immediate drop in OI immediately after expiration:

“Open
interest is normally correlated with expected uncertainty and events
that are expected to have a fundamental impact on the price of the
underlying. So, the OI on September’s expiry is reasonably larger
because of the major industry-impacting event of the third Bitcoin
halving in May and overall DeFi hype — and so, the larger OI reflects
investors’ needs to hedge with options over the past few months. The
drop in OI afterward indicates that such a need for that type of
event-based risk management is comparably smaller now.”

The
increasing trend in open interest in BTC options seems to be a positive
sign for better things to come for the crypto derivatives market,
according to Lai: “Indeed! The sign of the increasing open interest
potentially reflects that more participants are entering the market.
Furthermore, any additional stimulus to the market can set up an
aggressive stage for BTC options.”

Minimal price movements

Despite the price volatility expected prior to this expiry
where nearly half of all Bitcoin options contracts in circulation were
due for expiration, there was no significant price impact. One main
reason for this could be the size of the options/derivatives market when
compared to the spot BTC market. Although, investors hope that the
options and futures market would grow to be a larger fraction of the
spot BTC market, which has a market cap of $194.11 billion. Lai further
opined that “the price influence is not as strong to create large
variance,” adding: “While there is no direct correlation between OI and
post/pre-expiry price in traditional markets, crypto markets do not
stand aside.”

Apart from this main underlying reason for why there
isn’t a significant price movement is that the put-call ratios haven’t
been heavily skewed toward one side. A put contract is an options
contract that allows the holder the right to sell a specified amount of
an underlying asset at a fixed time within a specific duration, whereas a
call contract gives the holder the right to sell the underlying asset
under similar prerequisites. Dan Koehler, liquidity manager at OKCoin — a
San Francisco-based crypto exchange — elaborated:

“The
growing open interest in BTC options can have a foundational impact on
the spot market if there comes a time where there is a large position
imbalance where the put-call ratio is heavily skewed toward one side.
During such occasions, when expiry occurs, if the large portion of
in-the-money options are exercised, the contract being assigned will
cause price action on BTC at the predetermined strike, this would
pressure the spot market prices in response.”

“In the
money” options refer to options that hold intrinsic value to the
investors. An ITM call option means that option buyers would have the
opportunity to buy the asset below its current market price, while an
ITM put option gives the buyers an opportunity to sell the asset above
its current market price. These are looked at as an “out of the money”
options contract.

The
put-call ratio has been relatively stable, averaging around 0.7 over
the past month, which indicates that there is still a bullish sentiment
among investors despite the BTC spot price contracting $900 earlier in the expiry week. 

Although
these are the major points, there are many factors within options
expiration that play a role in whether the price of the underlying asset
will see a larger price movement. Koehler points to “strike
concentration of the 89K in OI” as being another significant aspect: “If
the strike open interest doesn’t coincide with the current price of
BTC, then the market makers will need to do less last-minute hedging
that could result in pinned or slippery strikes.”

Options impact spot markets

Apart
from options playing a role in indicating market sentiment near options
expiration days, they are often an indicator of this sentiment as well.
Fernando stated that “options can already have had an effect on the
underlying before settlement,” further adding:

“We have
in the past seen whales trade options which could be used as a leading
indicator for the underlying — this effect can be twofold, as
counterparts hedge out the delta in the underlying but also since those
whales might be looking to extract as much value from any large
directional future trades they might be looking to execute.”

Options
serve various purposes for different kinds of investors. Risk-averse
investors use options as a hedging tool that serve to reduce risk in
their portfolios. For speculators, options offer a chance to have
low-cost ways to go long or short on the market with limited, calculated
downside risk. Options also give opportunities to potentially profit
under any market scenario using flexible and often complex strategies
like spreads and combinations.

BTC
options traded on the Chicago Mercantile Exchange are referred to as
“CME options on Bitcoin Futures.” They are often a sign of institutional
interest in Bitcoin, which also seems to have increased leading up to
the Sept. 25 quarterly expiry. Cointelegraph discussed the role of these
options with Tim McCourt, the global head of equity index and
alternative investment products of the CME Group, who stated:

“Our
CME Bitcoin options are off a strong start this year. Since their
January 13 launch, more than 27,000 contacts, equivalent to 135,000
Bitcoin, have traded. Our options are designed to help both institutions
and professional traders manage spot market Bitcoin exposure, as well
as hedge their Bitcoin futures positions.”

The
opportunities that options and the derivatives market, in general, given
to investors have contributed to increased price stability that is
currently being witnessed for Bitcoin. The ability to take a plethora of
opposing positions, through instruments like longs/shorts and
puts/calls, has helped lessen the large and frequent price swings seen
with Bitcoin in the past. Koehler added:

“The growing
development of crypto infrastructure, such as trading, risk and
portfolio management, and liquidity aggregation systems are also helping
to mature traders’ price discovery process. These improving
developments are creating a case where, although we may be reaching ATHs
in OI, BTC prices may move in steady gradual increments than with very
large instant price impacts due to increasing open interest.”