Module 8: Crypto Options
Managing Options Risk
Chapter 14 of 14 · about 7 minutes
14.1 Two ways to lose
Hash told Mint and Node about two traders.
The first bought cheap, far out-of-the-money calls every week, hoping for a huge rally. Each week, most of them expired worthless. Over a year, the small losses added up to most of the account. "Death by a thousand cuts," said Hash.
The second sold options every week, collecting premiums. For eleven months, it worked beautifully: steady income, almost no losses. Then a crash came. Volatility spiked, the options went deep in the money, and in a few days the trader lost more than a year of premiums. "Picking up coins in front of a steamroller," said Hash.
"So buyers bleed slowly and sellers blow up suddenly," said Mint.
"Those are the two classic failures," said Hash. "Options risk management is about avoiding both."
14.2 Risks for option buyers
| Risk | How it hurts | Protection |
|---|---|---|
| Time decay | Options lose value daily (Chapter 8) | Choose expiries that give your idea enough time |
| Overpaying for volatility | IV crush after events (Chapter 6) | Compare IV with realised volatility and history before buying |
| Lottery-ticket habit | Repeatedly buying far OTM options that expire worthless | Prefer strikes with a realistic chance of paying off, or use spreads |
| Wide spreads | Lose value immediately on entry (Chapter 10) | Trade liquid strikes and use limit orders |
| Position size | Total premiums spent can grow large | Treat premium as the amount at risk, and size it like any trade |
The good news for buyers: the maximum loss is always the premium. Risk management for buyers is mainly about not spending too much, too often, on options that rarely pay off.
14.3 Risks for option sellers
| Risk | How it hurts | Protection |
|---|---|---|
| Large, sudden moves | Short gamma losses accelerate (Chapter 7) | Use defined-risk structures like spreads and iron condors |
| Volatility spikes | Short vega losses as IV rises (Chapter 8) | Avoid selling large amounts when IV is very low |
| Margin calls and liquidation | Losses require more margin; positions can be closed at the worst time (Chapter 10) | Keep plenty of spare margin and low effective leverage |
| Naked exposure | Unlimited losses on naked calls | Sell covered calls or use spreads, never large naked calls |
| Correlation in crashes | Many positions lose at the same time | Limit total short options exposure |
| Overconfidence | A long run of small wins encourages bigger positions | Size based on worst-case outcomes, not past results |
"So sellers need to plan for the bad month, not the average month," said Node.
"Always," said Hash. "Every short options strategy should answer one question first: what happens in a 30% crash with volatility doubling?"
14.4 Stress testing
Before holding any options position, estimate its outcome under extreme scenarios.
Example: a short $90,000 put on 1 BTC, sold for $2,251.
| Scenario | BTC at expiry | Result |
|---|---|---|
| Calm | $100,000 | +$2,251 |
| Moderate fall | $90,000 | +$2,251 |
| Sharp fall | $80,000 | −$7,749 |
| Crash | $65,000 | −$22,749 |
| Severe crash | $50,000 | −$37,749 |
A severe crash loses roughly 17 months of premiums at this rate. And before expiry, mark-to-market losses can be even worse, as implied volatility spikes and margin requirements rise.
Now compare a put spread: selling the $90,000 put and buying the $80,000 put. The bought put costs premium (reducing income), but caps the worst case at $10,000 minus net premium, regardless of how far bitcoin falls.
14.5 Sizing options positions
Module 4, Chapter 16 and Module 7, Chapter 14 taught sizing positions by the amount at risk. Options follow the same principle.
For buyers: the premium is the amount at risk. If your rule is to risk 1% to 2% of the account per trade, then the premium should be no more than that.
| Value | |
|---|---|
| Account | $10,000 |
| Risk per trade (2%) | $200 |
| Maximum premium for one trade | $200 |
Note that a single BTC option can cost thousands of dollars. Many venues allow fractional contracts, but if the smallest available size costs more than your risk budget, the trade is too big for your account.
For sellers of defined-risk strategies: size by the maximum loss of the structure, not the premium received.
For sellers of undefined-risk strategies: size by a stress-tested worst case, and keep total exposure small.
14.6 Managing positions before expiry
Options don't have to be held to expiry.
Taking profits early. Many sellers close short options after capturing a large portion of the premium, say 50% to 75%, rather than holding to expiry and carrying the remaining risk for little reward.
Cutting losses. Buyers can sell options that have lost much of their value but still have some, rather than letting them expire worthless. Sellers can close or adjust positions when losses hit a predefined limit.
Rolling. Closing an option and opening a similar one with a later expiry or different strike. Rolling can extend a trade's time, but it can also become a way to avoid admitting a loss. Roll only if you'd open the new position on its own merits.
14.7 An options checklist
- What's my view: direction, size of move, timing, and volatility?
- Which strategy matches that view? (Chapter 13)
- Is implied volatility high or low compared with its history and realised volatility? (Chapter 6)
- What are the Greeks of my position: delta, gamma, theta, vega? (Chapters 7 and 8)
- What's the maximum loss, and what happens in a 30% move with a volatility spike?
- Does the position size fit my risk per trade?
- Is the option liquid, with a reasonable bid-ask spread? (Chapter 10)
- Are there events before expiry that could cause volatility crush or spikes?
- What's my plan for taking profits, cutting losses, or rolling?
- Is this venue available and appropriate in my country?
14.8 Module 8 wrap-up
Mint, Node, and Hash met at the end of the module.
"I've learned what options are, calls and puts, moneyness and time value, what drives option prices, implied volatility, the Greeks, smile and skew, how crypto options markets work, protection, income, spreads and volatility strategies, and how to manage the risks," said Mint.
"And the key lesson?" asked Hash.
"Options let me choose my risk precisely: a fixed maximum loss as a buyer, or steady income as a seller. But every option is priced on expected volatility. To win, I need the market to move differently from what's already priced in, and I need to survive when I'm wrong."
Node, who'd used a collar through a stressful month, added, "And for long-term holders, options can be genuinely useful insurance. As long as you remember insurance has a cost."
"Next, we go into the world where so much of crypto's innovation happens," said Hash. "Decentralised finance. You've seen pieces of it in nearly every module: DEXs, lending, stablecoins, staking, oracles. Now we put it all together."
14.9 Try it yourself
Design one options position that matches a specific view you hold about BTC or ETH over the next month. Use the checklist in section 14.7. Calculate its maximum loss, maximum gain, break-even, and Greeks. Stress-test it for a 30% move in each direction. Don't place the trade. Record it in your journal and review it at expiry.
Key takeaways from this chapter
- Option buyers tend to lose slowly through time decay and overpaying; sellers tend to lose suddenly in crashes and volatility spikes.
- Buyers manage risk by choosing realistic strikes and expiries, checking IV, and limiting premium spent.
- Sellers manage risk with defined-risk structures, spare margin, limited exposure, and stress tests.
- Always stress-test positions for large moves combined with volatility spikes.
- Size by premium for buyers and by maximum or stress-tested loss for sellers.
- Manage positions before expiry: take profits early, cut losses, and roll only on the trade's own merits.
- Use a checklist covering view, strategy, IV, Greeks, worst case, size, liquidity, events, and exit plan.
Coming up in Module 9: DeFi Deep Dive. How decentralised exchanges, liquidity provision, impermanent loss, lending and borrowing, liquidations, stablecoins, staking, liquid staking, restaking, and yield strategies work, and how to evaluate their risks.