CME Head Tim McCourt Explains How Bitcoin Options Work
The CME released the specs for its 2020 Bitcoin options product today, as well as details on how options work.
Still in its infancy, the cryptocurrency market currently only offers a fraction of the trading and investment products available in traditional financial markets. Over the past few years, however, the crypto space has continued to develop with products around Bitcoin (BTC) and other crypto assets, such as BitMEX futures and Deribit options.
Mainstream financial entities have also continued to enter the growing sector with crypto trading and investment products, including the Chicago Mercantile Exchange’s (CME) cash-settled Bitcoin futures and Bakkt’s physically-settled Bitcoin futures.
Back in September 2019, CME announced plans to launch Bitcoin options on its Bitcoin futures trading products in early 2020.
In a recent interview, CME Group Managing Director and Global Head of Equity Index Alternative Investment Products Tim McCourt explained CME’s upcoming Bitcoin options product, as well as options trading in general.
CME launched cash-settled Bitcoin futures trading in December of 2017, based its Bitcoin Reference Rate (BRR). CME’s BRR essentially gives a price for Bitcoin, based on various factors including its spot trading volume on multiple exchanges at a specific time.
“We’re working to launch options on those futures,” McCourt said. “The option on the Bitcoin future will give the holder of that option, either a put or a call, the right — but not necessarily the obligation, to either purchase or sell the underlying futures contracts at maturity.”
“It’s very similar to the way other options in the marketplace work. The difference here is the underlying, or the deliverable, of the options contract, is a CME Group Bitcoin future.”
Similar to its Bitcoin futures, CME’s Bitcoin options will have expiration dates. If a trader holds an option through expiration, that trader will receive settlement in the form of a CME Bitcoin futures position, which will then settle into cash if the trader holds that futures position through expiration, McCourt explained.
According to CME’s recently posted preliminary Bitcoin options specifications, CME Bitcoin options expire at the same time as the underlying monthly BTC futures. This means if a trader holds chooses to exercise an option at expiration (buy or sell the underlying position), then that position, in turn, will immediately expire into cash.
The CME options specs state:
“Option exercise results in a position in the underlying cash-settled futures contract. In-the-money options are automatically exercised into expiring cash-settled futures, which settle to the CME CF Bitcoin Reference Rate (BRR) at 4:00 p.m. London time on the last Friday of the contract month.”
This lines up with CME’s BTC futures specs. “Trading terminates at 4:00 p.m. London time on the last Friday of the contract month. If that day is not a business day in both the U.K. and the U.S., trading terminates on the preceding day that is a business day for both the U.K. and the U.S.,” according to CME’s website.
CME’s Bitcoin futures have monthly expiration. McCourt explained that monthly options lining up with CME’s Bitcoin futures would also expire on the same date. “If you have an option that has the same expiration date as the future itself,those expirations would line up and you would take or make delivery on the future that would then also simultaneously expire,” he said.
Options trading concepts in more detail
In general, traditional market options products house to the ability to buy and sell calls and puts. Buying a call speculates that the price of the underlying asset will go up, similar to a long position. Selling that call closes the given position.
Inversely, when a trader buys a put, he or she makes money when the price of the underlying asset goes down (depending on entry or strike price in this case), by selling that put to close the trade. This concept is similar to shorting an asset.
In its simplest form, an option is the ability to buy or sell an asset at a future date for a predetermined price.
Regarding physically-settled Bitcoin options, buying a Bitcoin call option at $8,000 gives the trader the ability to buy Bitcoin in the future for $8,000 if he or she holds that position through expiration.
“If you or I were to purchase a call option on an underlying asset, that would give us the right, but again, not necessarily the obligation, to purchase that underlying asset at a predetermined price, which is referred to as the strike price, at a certain point in time. Conversely, if you or I had purchased a put option, that would give us the right to sell the underlying asset at a predetermined price, at a predetermined time.”
McCourt described options products in general as “a way to gain exposure, but without having to necessarily purchase or sell the underlying asset.” He also noted risk management and position management as a possible rationale for participating in options products. McCourt elaborated by providing the following example:
“If I’m long the outright asset and I want to protect against the downside, I may, say, purchase a put so that as the price of that asset moves adversely against me, I know I can sell that at a certain time and have that downside protection.”
CME Bitcoin options specs
According to CME’s recently released preliminary Bitcoin options specs, each options contract is the same size as each Bitcoin futures contract, equating to 5 BTC per contract.
The minimum price fluctuation for a standard tick is five index points, equaling $25, for premium greater than 25 index points, as stated on CME’s website. Regarding a reduced tick, the minimum price fluctuation is one index point, equalling $5, “for premium at or below 25 index points.”
Trading hours for CME’s BTC options are listed as the same as its futures trading product, also housing the same listing cycle. Trading ends on the final Friday of each contract month. The CME website also states that some of the specifications discussed may change as it does not plan to launch its BTC options product until 2020.
The views and opinions expressed here are solely those of (@benjaminpirus) and do not necessarily reflect the views of Cointelegraph. Every investment and trading move involves risk. You should conduct your own research when making a decision.