Bitcoin Volatility Likely as Options Worth $4B Expire on Friday

Market makers selling the options may need to buy more bitcoin in the spot market to cover their positions if the cryptocurrency rises further.

AccessTimeIconMar 30, 2023 at 11:30 a.m. UTC
Updated Mar 30, 2023 at 8:03 p.m. UTC

Bitcoin (BTC) could see wild price swings heading into the weekend as options contracts worth billions of dollars tied to the cryptocurrency are set to expire on Friday.

At press time, the quarterly expiry on the dominant crypto options exchange Deribit comprised 81,052 call options worth $2.24 billion and 60,261 put options worth $1.73 billion, according to data from Amberdata. Deribit, which accounts for almost 80% of the global crypto options activity, will settle the quarterly options at 08:00 UTC on Friday. On Deribit, one options contract represents 1 BTC.

"There is massive quarterly options expiry tomorrow," said Dick Lo, CEO and co-founder of TDX Strategies. "The Street is potentially short gamma on the top side. That plus thin liquidity could lead to big chops in both directions."

Options are derivatives contracts that give the purchaser the right, but not the obligation, to buy or sell the underlying asset at a predetermined price on or before a specific date. Call options give the right to buy; puts the right to sell. Investors use options to hedge their positions in the spot or futures market against adverse price movements and speculate on future trends in valuations and volatility.

On the other side of the transaction are dealers or market makers, who provide liquidity to an order book by creating buy and sell orders. Market makers earn money from the spread between the bid and ask price and trade the underlying asset to keep their net exposure market neutral. Their hedging activity often breeds volatility, especially in the lead-up to major expiries, like the one due on Friday.

Bitcoin has rallied 23% this month, predominantly because of the U.S. banking crisis and resulting reduction in Federal Reserve interest-rate expectations. The rally spurred demand for call options at higher strike prices, leaving market makers with a large negative or "short gamma" position on the top side. Being short gamma on the top side means holding a sell position in call options, which offer holders protection against price rallies.

If bitcoin were to extend gains ahead of the weekend, market makers will be forced to hedge their short gamma exposure by purchasing the cryptocurrency in the spot or futures market. That, in turn, could bring more upside volatility.

"Due to bitcoin's price rally caused by the banking crisis in mid-March, a large amount of negative gamma was in the hands of market makers," said Griffin Ardern, a volatility trader from crypto asset-management firm Blofin. "There is a lot of negative gamma at strikes $28,000 and $29,000, which means the upward price movement will push market makers to buy.

"When the gamma is the most negative and the price rises/falls by 1%, market makers have to buy/sell about $50 million worth of BTC spots or futures to hedge their exposure," Ardern said.

The chart shows the dollar value of number of call and put options contracts due for settlement at various expiries.
The chart shows the dollar value of number of call and put options contracts due for settlement at various expiries.

Bitcoin rose past $29,000 early Thursday, only to fall back quickly to $28,300 in a two-way move reminiscent of the volatile bull market days of early 2021. The gamma squeeze by market makers likely caused the pop and drop, according to Ardern.

The impact of market makers' hedging could be more pronounced than ever, thanks to worsening liquidity conditions. Liquidity, as measured by the 2% market depth, slipped to 10-month lows early this month, making it hard for traders to execute large deals without causing big price movements.

At press time, bitcoin was changing hands near $28,650, a 1% gain in the past 24 hours, CoinDesk data shows.

Edited by Sheldon Reback.


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Omkar Godbole

Omkar Godbole is a Co-Managing Editor on CoinDesk's Markets team.