Market Update: 28 Dec 2021

While spot prices have been trading in a relatively tight range (before the dip today), vols have been telling an interesting story.

Thursday, 23 December, right after we posted our last market update, we saw a mini short-squeeze with BTC crossing above 50,000 and ETH crossing above 4,000.

Vols spiked up 4% on the back of this. A great opportunity to short vols.

Chart 1

Friday, Christmas Eve, started with aggressive selling of 600x BTC March 40k Puts in thin liquidity, causing March vols to drop from 81% to 75%. Risk Reversals flipped to a call skew as well. (Chart 1)

Evening saw the usual Friday Defi Option Vault (DOV) flow. Even after buying up most of the gamma (short-tenor options) across all the DOVs, we were still short ETH gamma (from aggressively selling the vol spike on Thursday).

We went into the weekend long gamma in BTC and Altcoins against short gamma in ETH, earning some theta (time decay). This was a good position to have over a thoroughly uneventful Christmas weekend.

Monday, 27 December, front-end vols spiked 10% from aggressive buying of BTC 7-Jan 52k-55k Calls.

Tuesday, 28 December, front-end vols were sold back down in Asia morning.

So over the Christmas week, we saw vols spike hard twice and get sold down even harder each time. And we are asking ourselves why.

A few possible reasons:

  1. Realised vol (RV) has been underperforming. 1-month RV 60+%, 10-day RV 30–40+% for both BTC and ETH. (Chart 2)
Chart 2

2. Market is rolling short-vol carry positions ahead of the massive year-end expiry this Friday.

3. We reckon market makers are getting increasing long Altcoin vol as the founders and foundations of projects and protocols are increasingly selling call options on their native token treasuries as an effective method of generating yield. In the absence of vol markets for these native tokens, market makers are forced to sell vol in BTC and ETH instead as a proxy.

4. DOVs getting exponentially larger will have an increasing dampening effect on vols.

Our concern here is that this is sign of a structural shift in vols where implieds will trend downwards toward 60% handle (parity with 1-month realised). If this happens, sell option strategies (short gamma, short vega) would be a clear winner in the near-to-medium term.

In spite of this pattern, our position into the new year is nett long gamma, short vega (in BTC and ETH) and long the wings (far strikes). We haven’t really seen that massive short squeeze that we’ve been expecting but perhaps the calendar turn would produce some fireworks in thin markets.

Do look out for our year-end research pack in the next few days. We wish all our readers a very happy new year!



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