Bitmain CEO Jihan Wu unveiled his company’s new marketing strategy on Monday in China, but part of it sounded like pure Texan – or more precisely, a “Texas hedge.”

Trying to hold on to his company’s threatened market dominance in bitcoin miners, Wu announced a series of incentives for buyers of at least 1,000 of Bitmain’s machines, worth $1.5 million. One of those incentives is 62 “put” options with a strike price of $5,000 expiring on March 27.

Owners of puts get the right, but not the obligation, to sell an asset at a specified price (the “strike price”) on a specified date (“expiration”). A put option is essentially an insurance policy for the buyer.

What Bitmain is saying by giving away puts is that its customers’ downside risk will now be limited when buying a pack of 1,000 miners.

For example, if the price of bitcoin falls to $3,000 by March 27, the miner owner will get a payout of $124,000. On the other side of that transaction is Bitmain, which will be obliged to buy those bitcoins from its customers at $5,000 regardless of how low BTC prices fall.

Bitmain is already exposed to the price of bitcoin by the very nature of its business. Demand for miners tends to increase or decrease along with BTC prices. Thus, if bitcoin tanks over the next three months, not only could Bitmain have to pay out on the options it gave to customers, but it may also face fewer sales.

What’s more, the company may have considerable holdings in bitcoin on hand already. In its prospectus, filed last year when it pursued a public offering, Bitmain valued its June 2018 cryptocurrency reserves at $886.9 million. Current balances are not readily available.

Normally, a company would use options to offset risk, not increase it the way Bitmain appears to be doing. Doubling down, rather than offsetting, exposure is sometimes cheekily referred to as a “Texas hedge” among options traders. Everything is big in Texas, as they say, including risk.

Bitcoin options, like those of other assets, tell us a bit about how the market thinks things could go in the future. Based on data from analytics company Skew, traders are betting there’s a 21 percent chance that between now and March 27 BTC will change hands as far down as $5,000. That’s roughly the same probability they’re assigning to the idea that it will trade above $9,000 by then. As of this writing, bitcoin’s market price is close to $7,200.

Conceivably, Bitmain can go into the market and buy a lot of puts with a strike price of $5,000 expiring on March 27. Netherlands-based bitcoin exchange Deribit is pricing each of those options at $197.74 for buyers as late as Wednesday. At Wu’s Monday presentation, he claimed the value was $255. 

Options market's view of where bitcoin prices will fall by late March (via Skew.com)
Options market's view of where bitcoin prices will fall by late March.
Source: Skew.com

Yet there doesn’t appear to be significant activity at the $5,000 strike level. Premiums are in line with other put options at different strike levels if one were to price them based on expected volatility. If Bitmain has taken an offsetting options position, it’s not evident from market data.

There are other ways Bitmain could have hedged instead of buying options in anticipation of its sales.

It’s possible the company sold bitcoins in the cash or futures markets, as options traders often do. Given market prices, the time to expiration and the market’s expected volatility, the company would only have to sell just 7.4 bitcoins for every 62 options it gives away to be effectively hedged. If it expects to sell 500,000 units while the incentives are in place, for instance, Bitmain will need to sell 3,700 BTC – $26 million worth – to offset its options. 

screen-shot-2019-12-11-at-12-13-58-pm
How the March 2020 bitcoin put market looked on Wednesday, December 11, 2019.
Source: Deribit.com

Indeed, there was a bitcoin selloff Monday morning New York time. As the price of the cryptocurrency dropped, BitMEX, for example, saw a spike in futures volume at 15:00 UTC that day. However, this occurred several hours after Wu’s announcement.

CoinDesk reached out to Bitmain to ask how, or if, they hedged their options but the company refused to comment. 

Perhaps audiences will know more if Jihan Wu shows up to his next presentation wearing a Stetson. 

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