Cryptocurrency derivatives exchange BitMEX today announced a new options product called UPs and DOWNs. This marks a significant milestone in the product development history of the BitMEX platform says CEO Arthur Hayes.
The exchange already features futures, swaps, and now adds options. CEO Hayes said, “BitMEX is inching closer to the goal of offering all manner of derivative products for the crypto-coin industry.”
UPs or Upside Profit Contracts, and DOWNs or Downside Profit Contracts are similar to call and put options.
As for launching this product now, BitMEX stated that the liquidity profile of bitcoin derivatives trading has changed dramatically over the past 12 months. The BitMEX XBTUSD Perpetual Swap is now the most heavily traded instrument in the entire crypto trading industry. Average daily trading volumes are in the billions of USD notional.
BitMEX CEO Arthur Hayes added:
“Before non-linear products like options are viable, linear products (Perpetual Swaps and Futures) must be sufficiently liquid. Given the liquidity profile of XBTUSD and the quarterly Bitcoin / USD futures contracts, we now believe there is sufficient liquidity in order to launch a successful options product.”
Use Case
Imagine Bitcoin is currently trading at $10,000 and a trader believes that by the end of the week, it will move 10% higher to $11,000. However, they don’t want any exposure to the price unless it hits the target. Also, they do not want their position to be liquidated before the target is reached, regardless of the intra-week spot movements. For example, if the price drops to $5,000 but recovers to $12,000 by the settlement date, the trader will still profit and will not be liquidated.
Hence, traders want the ability to participate above their target of $11,000 on the long side. The UPs product allows you to express this view, however, this “optionality” comes at a cost which is the premium that must be paid to the seller of the option.
Why Can You Only Buy?
Selling naked (i.e. unhedged) options is one of the fastest and easiest ways to financial ruin given the potential for unlimited losses. On BitMEX, traders are limited to the margin they deposit on the platform, hence if the seller of the option cannot make good on potential losses, then socialized loss systems will need to be put in place which we want to avoid. As a result, we require sellers of the options to post the full notional value of the UP or DOWN contract.
Because no leverage is offered to sellers, it is very expensive from a capital perspective to make a market. In order to guarantee tight spreads at sufficient size, the BitMEX affiliated anchor market maker will be the only entity allowed to sell options initially.
Many users of BitMEX voices concerns that a BitMEX affiliated entity is the sole market maker, the BitMEX team left some points to consider:
“Until our engine performance is fixed, we refrain from listing any new product that exacerbates the issue. (E.g. this is one of the reasons why we delisted a number of our quarterly altcoin futures contracts since the volumes they generated did not justify the engine resources consumed.) Hence, if only one market maker quotes on the UPs and DOWNs product, then the impact will not be meaningful on the engine.”
- Furthermore, this means that the anchor market maker cannot manipulate the UP or DOWN market in any way to liquidate any customer.
- The anchor market maker is tasked with keeping a tight market so that buyers can enter and exit trades as they wish throughout the contract’s length. We want to increase liquidity, having wide markets or an empty order book is not in BitMEX’s interest.
The UPs and DOWNs products need to be fully margined. That is, buyers must pay the premium in full and sellers must post the full notional of the option in the margin. That means that regardless of where the price settles, neither buyers nor sellers will ever be liquidated. If the contract settles in the money, buyers are assured they will always receive their profit.
