crypto strategy

Bitcoin traders expect high volatility, here’s how to take advantage of it

Analysts who closely watch traditional markets have started calling for a spike in cryptocurrency volatility due to dire macro conditions. Signs of stress from credit markets surprised investors after the pound hit a record high against the US dollar on September 26 and liquidity issues surrounding big global banks like Credit Suisse and Deutsche Bank reinforce the bearish sentiments of traders.

According to the Labor Department, unemployment in the United States hit 3.5% in September, the lowest in 43 years. While this may sound positive at first glance, it indicates that the economy has continued to overheat despite rate hikes and quantitative tightening by the US Federal Reserve (FED). Meanwhile, eurozone retail sales fell for the third consecutive month in August, a 2% contraction from a year earlier.

All of these developments confirm analysts’ call for a spike in volatility. Volatility is a statistical measure commonly used by investors and traders calling for an increase in the metric and expecting sharp price swings.

In the above example from October 5, Otto Suwen, a tokenomics expert and NFT influencer, expects a potential breakout either way, but in his opinion, a breakout upside is very likely. On October 6, Scott Minerd, global chief investment officer at Guggenheim Partners, declared that the Fed should pivot its policies “when something breaks”.

Volatility could impact the price, but it doesn’t distinguish which side

Realized (or historical) volatility measures the magnitude of daily price fluctuations, and higher volatility indicates that the price may change drastically over time in either direction.

Realized volatility over 50 days of Bitcoin. Source: Trading View

Volatility does not discriminate between bull and bear markets as it exclusively measures absolute daily swings. Moreover, the volatility of cryptocurrencies is much higher than that of stock indices, currencies or commodities.

Expecting high volatility for the next two weeks indicates that some participants have no confidence in the direction of the markets. There is an options strategy that fits this scenario and allows investors to profit from a strong move on either side.

The reverse iron butterfly (short) is a limited risk, limited profit options trading strategy. It is important to remember that options have a set expiry date, which means that the price increase must take place during the set period.

Profit/loss estimate. Source: Derisory Position Generator

The prices above were taken on October 7, with Bitcoin trading at $19,422. All options listed are for the November 25 expiration, but this strategy can also be used using a different time frame.

The suggested bullish strategy is to sell 11.8 BTC contracts of $17,000 put options while simultaneously selling 11.7 call options with a strike price of $23,000. To finalize the transaction, 13.5 call option contracts of $20,000 and another 10 put option contracts of $20,000 must be purchased.

While this call option gives the buyer the right to acquire an asset, the seller of the contract gets negative (potential) exposure. To fully protect against market swings, one needs to deposit 1.26 BTC (about $24,470), which is the maximum loss for investors.

Volatility conviction is key, as the risk-reward ratio is reversed

For this investor to profit, the price of Bitcoin must be below $17,720 on November 25 (down 8.9%) or above $22,070 (up 13.6%). Essentially, the trade has an extremely profitable zone, but loses more than double the potential gain if Bitcoin fails to move significantly in either direction.

The maximum payout is 0.50 BTC (roughly $9,710), but if a trader is confident that volatility is imminent, a 15% move in 48 days seems doable.

Note that the investor can cancel the trade before the options expire, preferably right after a big change in the Bitcoin price. All you have to do is buy back the two options sold and resell the other two previously purchased.