Bitcoin appears to be struggling at the $ 58,000 level, which is leading some traders to fear that a more significant correction could occur.
While the performance of Bitcoin (BTC) 2021 has been incredibly strong, its current 696% gain and comments from the United States Treasury Secretary Janet Yellen, suggesting that cryptocurrencies are used to finance terrorism may be enough to let somewhat cautious investors.
Reducing the size of open positions is generally the method that most investors use to reduce exposure, but another way to manage risk is to use BTC option contracts to provide protection. Buying a put (put) option is the easiest way, but it is quite expensive considering the current scenario of high volatility.
For example, a March 26 put option with a strike of $ 56,000 is traded at $ 5,300, and its holder would only profit if the BTC trades below $ 50,700 in 32 days. That would be 12% below the current price of $ 57,500. This hedge cost depends on the number of days until maturity and the implied volatility, or traders’ expectation of substantial price changes.
By using call (buy) and put (sell) options, a trader can devise strategies to reduce that cost. There are endless possibilities, but for now, let’s focus on a low-cost one.
Protection put options can generate profit on the downside
This bearish strategy consists of buying a protective put option to profit from the fall and, at the same time, selling call options at higher strikes. These additional trades will cover the cost of the put option, but will result in losses if the BTC exceeds a certain limit.
The above deal consists of the purchase of 1 March 26 put option BTC contract with $ 56,000 exercise, while selling 1 March 26 put option BTC contract with $ 64,000 exercise.
As the estimate above shows, the final result between $ 56,000 and $ 64,000 is neutral. The trader would not incur losses, but neither would he profit from the strategy. On the other hand, if the BTC drops to $ 46,000, or more than 20% from $ 57,500, the contract holder will earn $ 10,200.
For the trader to incur a loss of $ 5,000, the BTC would have to reach $ 69,000 on March 26, which is equivalent to a 20% gain from the current price. Therefore, even if this is a bearish strategy, traders would only incur losses above $ 64,000, or 11% above the current price level.
This strategy offers a good risk-reward for those seeking protection against losses. In addition, there is no zero advance involved for these trades, except for margin deposit or guarantee requirements.
The views and opinions expressed here are exclusively those of author and do not necessarily reflect the views of Cointelegraph. Every investment and trading movement involves risk. You must conduct your own research when making a decision.