Market Update: 12 Jan 2022
Bearish sentiment spilled into the week across macro markets with equities selling off hard on Monday as US opened.
BTC and ETH tumbled in suit, breaking below 40,000 and 3,000 respectively. However, there was no follow through on the downside and spot quickly bounced back above.
On the back of strong support, we saw a flurry of option activity:
1. A counterparty who had been buying huge amounts of downside risk reversals (buy put / sell call) started taking profit on the position (sell put / buy call).
Since December, they had been buying BTC March 40,000 puts against selling 80,000–100,000 calls and buying ETH March 3,000 puts against selling 8,000–10,000 calls.
2. Large call buying mostly in BTC January 44,000–48,000 strikes.
This had a significant impact on risk reversal levels with a sharp normalising of the put skew. BTC moved from -8% to -1% and ETH from -12% to -2%. (Chart 1)
Vol levels were also elevated as spot prices moved higher into the US CPI print released earlier today.
CPI numbers came in largely in line with expectations at 7% year-on-year. Crypto markets rallied on the back of this with BTC trading around 44,000 and ETH trading around 3,400.
While crypto twitter has been screaming for a short squeeze on this bounce, the vol markets are suggesting otherwise. Post-CPI, front-end vols collapsed to weekend levels (BTC from 70% to 60% and ETH from 85% to 70% — Chart 2 & 3)
On our books, we’ve been able to realise long gamma (short-tenor options) decently well, trading the sharp spot ranges across the board. We’ve taken profit on the long gamma and maintain our long vega position across the board.
Two observations/takeaways from an eventful few days of trading:
1. The crypto option market has reached a critical size where it is starting to have material impact on spot markets.
For instance, one key reason for the lack of follow through in BTC and ETH below 40,000 and 3,000 is possibly the few large players owning strikes around those levels. They naturally create support as they bid for spot to trade the delta there. And when they take take profit on those option positions, the upside impact on the market is very clear as well.
Additionally, a sharp options player who had bought 42,000 January calls started taking profit on those around the 44,000 spot level, naturally creating some resistance there.
We think option activity will increasingly dictate spot movements as the option market continues to grow. It might be worth keeping a close eye on this market (if you aren’t already doing so).
2. We are increasingly convinced that there is structural downside pressure on vols.
We have been long gamma and long vega expecting a much larger rally in vols given the macro uncertainty and choppy price action. Not only was there no convincing rally in vols, but the front-end has collapsed even as spot threatens to break the topside.
We remain long vega but would be keen to flip short if vols continue to underperform.
