Understanding This Sets You apart from the 99%
The “This” im talking about is options, Options are powerful and can be used in many ways
- Hedging position
- Lower upfront costs
- Cap Downside
- Can be used as “insurance”
- Capital Efficient
These are just a few of the utilities. In this article Im going to explain how options work and give examples of Where and How they can be used. Before diving in, let’s explain how the traditional stock market works.
The stock market is a game of buy low, sell high. 9999 times out of 1000 The reason why people buy stocks is to make a profit. Thats great and all if you have heaps of cash at your disposal but what if you only have 100$? Your Hopes are to YOLO bet on the next meme stocks to win the lottery. We all know how this ends 😉.
What are options
With options instead of having to pay the entire cost of the asset you can pay a “premium” that is a fraction of the cost to have the right but not the obligation, to buy the asset at a certain price by a certain Date.
Before we give some examples lets give some Vocab Terms
- CALL OPTION — The right, but not the obligation, to BUY an asset at a specified price before a specified expiry date.
- PUT OPTION — The right, but not the obligation, to SELL an asset at a specified price before a specified expiry date.
- STRIKE PRICE — The price at which a put or call option can be exercised
- CONTRACT EXPIRY — The date when the options contract expires
- OPTION PREMIUM — The cost of the option contract (put/call)
The easiest way to remember options is that when you think of an option you have a CHOICE to do something, its not required.
The 2 options that you will use are Calls and Puts. Usually Buy a call your bullish an asset, or a put if your bearish. When you buy a call or a put you select the price of the asset as well as the date of the expiration of the contract
In this situation Im bullish ETH because im buying a call. As a trader I want the price of ETH at a minimum to go to 1981$ by september 2nd, This is my break even point after fees and the option premium.
At this point your Probably thinking well this is dumb why would I pay fees to get exposure to ETH when I could just buy the asset. Well it has to do with the upfront capitial and being used as a hedge.
As you can see in the screenshot im only paying a fraction of the cost of ETH to get exposure. Also notice that if the price goes against me, as in if ETH goes to 0 the most I can lose is $176 where as if I bought the ETH the most I would lose much more than $176, It would be 1832$
Now the opposite is true. If your Bearish on ETH and you think its going down, you can buy a put ( The right, but not the obligation, to SELL an asset at a specified price before a specified expiry date).
I can buy a put at 1500$, which will give me the right to sell ETH at 1500$ by september 2nd. So if ETH is at 500$ and I have a Put option, I can exercise my option and sell at 1500$ and profit….. The option only cost me $38 so if ETH goes zoomin to 3k I would not want to use my option and let it expire (the most I could lose is 38$. Where as if I shorted the asset by putting up collateral, I would either need to pony up more collateral or get liquidated (will be much more than $38)
The cool thing about options is that your able to buy and sell these contracts to anyone. Just like assets, these “paper contracts” Have a market place on their own and prices are determined based on the expiration date of the contract and The price of the Asset
Example with Options
You can skip this part if you understand options but for me I would be more confused at this point 😂. Examples always helped me understand things but For this example Im Going to Use Lyra finance
I can basically buy an option to buy 1 eth at 2000$ at the end of october for $323. Now I know your saying “Why the pants would I do that”. Well lets say your bullish on ETh and dont have the 2000$ for 1 ETH, you just have a 500$ pay check to invest. Well at this point you can do a couple of things:
- simply buy .25 eth (Were going to assume ETH is trading at 2k)
- Buy an option for 1 ETH for $323. Can also hedge position with the rest of the money a put option….(more on this later)
- Buy .125 Eth and buy a put option to hedge Eth position
- Do nothing
For simplicity we are just going to resort to option 1 or 2.
Option 1 :
- Risk is Eth goes to 0 (lose $500)
- Reward Eth goes to 4k ( I make 500$)
Option 2:
- Risk Eth goes to 0 (lose $323)
- Reward Eth goes to 4k (make over $1500)
The 1500 Is not a typo, The reason you can make much more with the option in this senario is because your able to get the upside exposure to more that just .25 ETH with the option. You also have less exposure to the downside because the most you can lose is the cost of the option.
Hedging with options
Normally if you want exposure to ETH you can simply just swap some stablecoins for some ETH. This gives full exposure to the upside and the downside.
Option 1:
buying 10 eth at 2k a pop is $20,0000
- 20k out of pocket
- Eth goes to 0 lose everything
- Eth goes to 1000 lose $10,000
- eth goes to 4k I now have 40k
Option 2:
buying 8 Eth for 2k a pop ($16,000) and using the other 4k to buy a put option in the case eth goes to 1000$
- 20k out of pocket
- Eth goes to 1000…… my 16k goes to 8k but my put option will profit me 5.3k after fees.
So instead of being down 50%, with the Hedge im down a little over 33%
- Now if eth goes to 0 I profit $15,412 from the Put. So I basically only lose 4.6k where as If I just went all in on Eth I would have lost everything
- Eth goes to 4k I have 32k on eth- the 4k for my option so would end up with 28k instead of 40k….. sure I may not be up as much but Im still up.
Crypto and investing is not about making a 100x on each play, its about protecting what you have and surviving. Options give you the ability to Hedge your position and Cap your downside. Learning how to use them and profit from them will set you apart from the other 99%.
Most dont like to read words so here are some videos. Also if this brought any value consider leaving a like and dropping a follow to be notified everytime a new one comes out.
Cheers
