Bitcoin Options - Part II
In Part I we explored BTC options at a high-level.
We are going to continue our study of BTC options here in Part II. The ultimate aim for me is to launch a dedicated BTC options fund as a brand new wealth engine and use this series to document the buildout.
I want to take the monthly return from this fund and sweep it into bitcoin purchases, I also want to reinvest a portion of the operating profit back into the fund to slowly increase the monthly purchase amount as I manage risk and work to grow the portfolio.
This strategy is designed to provide a consistent yield of new bitcoin via the monthly conversion of trading profit. 50% of the profit will be converted into Bitcoin each month and the rest will stay inside the fund.
If the fund trades successfully and operates efficiently (trading costs, time spent managing positions, tax implications, etc…) the forces of compounding returns will gradually increase the bitcoin purchase amount. My belief is that the underlying bitcoin will appreciate as well, giving the potential to have the “parked” money in BTC outperform the active fund.
Why operate the fund at all then?
To create an engine with the potential to convert fiat into BTC on a regular basis! If I can get this strategy working profitably, and continue converting dividend income to bitcoin, then my wealth system will constantly accumulate bitcoin stemming from multiple recurring revenue sources.
Last time out we ended Part I with this:
“In Part II we’re going to start looking at actual BTC options chain data now that trading has begun.
We’ll also talk more about which specific strategies I plan on leveraging personally, including building out long call ladders.
This strategy involves buying one call option at a lower strike price, selling one call at a middle strike price, and selling another call at an even higher strike price. All options have the same expiration date. This creates a scenario where your profit potential is unlimited if the underlying asset's price skyrockets above the highest strike price. However, losses can also be substantial if the price stays below the lowest strike.”
The Trading Strategies
We’re going to look at the different income generating and capital appreciation strategies I plan on having “in my bag” when the fund begins operating in early Q1-2025.
Let’s do a quick rundown of the different strategies we may employ.
Short Naked Call
What it is: You sell a call option without owning the underlying stock.
Your outlook: Neutral to bearish. You believe the stock price will stay flat or go down.
Maximum profit: The premium you receive when selling the call.
Maximum loss: Unlimited. If the stock price skyrockets, you're obligated to buy it at the market price and sell it at the strike price of the call you sold.
Risk: Very high. This strategy is best used only by experienced traders who understand the risks and have a plan to manage them.
Since I have a lot of faith in BTC as an underlying, you can expect we won’t be doing this much. Perhaps later on we’ll develop a thesis about the bitcoin miners that will call for pairing bearish positions on weaker names with long bullish ones on the more successful ones under certain market conditions.
Short Straddle
What it is: You simultaneously sell a call option and a put option with the same strike price and expiration date.
Your outlook: Neutral. You believe the stock price will stay within a narrow range.
Maximum profit: The combined premiums you receive from selling the call and the put.
Maximum loss: Unlimited to the downside (if the stock price plummets) and substantial to the upside (if the stock price soars).
Risk: High. You're exposed to losses on both sides if the stock makes a significant move in either direction.
Premiums on both side are a great way to double your income… but if the steamroller moves in either direction you can get squished.
Short Strangle
What it is: Similar to a short straddle, but you sell a call and a put with different strike prices (the call strike is higher than the put strike). Both options have the same expiration date.
Your outlook: Neutral. You believe the stock price will stay within a wider range than with a straddle.
Maximum profit: The combined premiums you receive from selling the call and the put.
Maximum loss: Unlimited to the downside and substantial to the upside.
Risk: High, but slightly less risky than a short straddle because the strikes are further apart.
I actually like these a great deal more than straddles due to the much smaller “pain” window.
Calendar Spread - Credit
What it is: You sell a short-term option and buy a longer-term option with the same strike price. You receive a net credit (premium) because the short-term option has a higher time value.
Your outlook: Neutral to slightly bullish or bearish, depending on the strikes you choose. You primarily profit from time decay.
Maximum profit: The net credit received.
Maximum loss: Limited to the difference in strike prices minus the net credit received.
Risk: Moderate. Risk is limited, but you can still lose money if the stock moves significantly against you.
Diagonal Spread - Long leg expires first
What it is: You buy a long-term option and sell a short-term option with a different strike price. The long-term option expires after the short-term option.
Your outlook: This strategy can be bullish or bearish depending on the strikes you choose. It can also be used to take advantage of time decay.
Maximum profit: Varies depending on the strikes and premiums.
Maximum loss: Limited to the net debit paid for the spread.
Risk: Moderate. Risk is limited, but potential profit is also generally limited.
Ladders and Wheels
Since I am very bullish on bitcoin I plan on using strategies that “win” if BTC goes up.
I also want to generate income consistently (when I can) so I always have something to convert to BTC at the end of the month.
There are two great strategies I am going to leverage.
This first strategy involves buying one call option at a lower strike price, selling one call at a middle strike price, and selling another call at an even higher strike price — it’s called a long call ladder. All options have the same expiration date. This creates a scenario where your profit potential is unlimited if the underlying asset's price skyrockets above the highest strike price. However, losses can also be substantial if the price stays below the lowest strike.
The Ladder
How it Works
You're essentially combining a bull call spread with a long call. Here's the breakdown:
Buy a call option at a lower strike price (long call): This is your base position, giving you the right to buy the underlying asset at this price.
Sell a call option at a middle strike price (short call): This generates income and reduces your net debit.
Sell another call option at an even higher strike price (short call): This further reduces your cost and caps your potential profit if the stock price goes beyond this strike.
Your Outlook
Bullish: You anticipate a significant upward price movement in the underlying asset.
Potential Profit and Loss
Unlimited profit potential (theoretically): If the stock price explodes above the highest strike price, your profit keeps increasing.
Limited loss potential: Your maximum loss is limited to the net debit paid for the position (premiums paid minus premiums received). This occurs if the stock price stays below the lowest strike price.
Advantages
Leverage: Options provide leverage, allowing you to control a large number of shares with a smaller capital outlay.
Defined risk: Your maximum loss is capped at the net debit.
Unlimited profit potential: Offers the chance for significant gains if the stock price moves strongly in your favor.
The Wheel
The Options Wheel strategy is like a continuous cycle of generating income with options, aiming to profit primarily from time decay (theta) while also potentially benefiting from stock price movements. Think of it as a wheel that keeps spinning, generating income with each rotation.
Here's how it works: