The US Securities and Exchange Commission (SEC) has approved a change in its rules that allowed the Nasdaq International Securities Exchange to offer options on one of the most popular Bitcoin ETFs to date, the iShares Bitcoin Trust (IBIT) managed by BlackRock.
This marks a pivotal moment in the journey of crypto-linked investment products just eight months after the agency green-lighted these exchange-traded funds (ETFs) and could be signaling a softer stance from regulators about the sector’s appeal and safety to investors.
IBIT is the largest ETF by trading volume according to recent stats. On August 5, around $875 million worth of its shares exchanged hands – a figure that accounted for 67% of the total trading volumes of all spot BTC-linked investment products available at the time.
BlackRock has been seeking the approval of options for its BTC products since March this year as a strategy to offer a wider range of alternatives to speculators and institutional investors for hedging and trading with the product.
Options are financial derivatives that provide the holder the right, but not the obligation, to buy (call options) or sell (put options) the underlying asset at a specific price (called the strike price) either on the expiration date (European style) or anytime from the purchase until that date (American style).
SEC Approves IBIT-Linked Options with Certain Restrictions
The SEC and the Nasdaq ISE went back and forth with the terms and conditions of these options as several concerns were raised by the agency about potential market manipulation and excessive-risk taking.
Several characteristics were strictly defined. For example, there’s an exercise limit on IBIT options of 25,000 contracts while the BTC tokens associated with these contracts must physically exchange hands between the writers and buyers of the contracts.
Moreover, these options contracts will be American-style derivatives, meaning that traders can exercise them at any given point, even before the contract expires. The SEC emphasized the need for robust surveillance and real-time monitoring of how these contracts performed by both the Nasdaq ISE and the Chicago Mercantile Exchange (CME).
The former deemed some of these strict requirements as “extremely conservative”, especially the cap that the SEC put on contract volumes, as they expect that the market for these derivatives will be quite large and highly liquid.
BTC-Linked Options Could Suffer a Gamma Squeeze
IBIT aims to give investors more sophisticated tools to manage their portfolio risks. In this regard, options can be used to hedge a trading or investment position. For example, put options could be bought to offset the impact of a large drawdown in the value of BTC as the value of these contracts would rise if the price of BTC drops, offsetting losses from BTC exposure.
Moreover, speculators can use these instruments to open leveraged positions based on their directional predictions for BTC. Traders who believe that the price will rise in the future can buy call options while those who think that it will drop could buy put options and benefit from the outcome if favorable.
“Getting the SEC to come around is a big step toward listing options, which can be a huge help for attracting more and larger investors as well as bringing in more liquidity around the ETFs,” commented Eric Balchunas, an ETF expert from Bloomberg.
Meanwhile, Jeff Park from Bitwise expects that Bitcoin options will see significant demand from institutional investors. However, he warned that a gamma-squeeze could occur with IBIT options as their limited supply may result in supply-demand imbalances at times when the price of BTC is rising rapidly.
Gamma squeezes tend to occur when the price of the underlying asset with limited liquidity or supply increases frantically and market makers are forced to buy it to hedge their exposure to the call options contracts they have sold.
This results in a reinforcing loop that drives up prices until brokers are fully covered.
“With Bitcoin options, investors can now make duration-based portfolio allocation bets, especially for long-term horizons. There’s a good chance that owning long-dated OTM calls as premium spend will give investors more bang for their buck than a fully-collateralized position that could drop by 80% over the same period,” Park commented.
The availability of ETF options also provides an extra layer of credibility and familiarity for institutions looking to gain exposure to Bitcoin through regulated channels.
IBIT Emerges as 11th Largest ETF in the US by Market Cap
IBIT has quickly established itself as the leading force in the BTC-linked spot ETFs market. SEC filings show that the product is already the 11th most liquid ETF in the country by average trading volumes and the 18th largest based on its average notional value.
According to BlackRock’s website, the product held 357,550 BTC tokens as of 20 September with a market value of $22.5 billion. IBIT charges a sponsor fee of 0.25% and registers an average 30-day trading volume of $25.24 million.
Looking ahead, Bloomberg ETF analyst Eric Balchunas speculated that approvals for options on other Bitcoin ETFs may follow “in short order.” This could result in the proliferation of Bitcoin-linked derivative products.
Meanwhile, Nate Geraci, President of ETF Store, suggested that the approval of options for spot Bitcoin ETFs could result in the development of a wider range of products linked to Bitcoin ETFs including buffer or defined outcome ETFs, premium income or yield max ETFs, tail risk ETFs, and convexity ETFs.
Balchunas emphasized that this is just the first step for BlackRock to win the approval of IBIT-linked options as they still need to go through the Office of the Comptroller of the Currency (OCC) and the Commodity Futures Trading Commission (CFTC) and get their nod to list and offer these products to the investment community.
The timing of these additional approvals is uncertain as these agencies do not operate on a fixed clock like the SEC. Industry reactions to the SEC’s decision have been largely positive, with Bloomberg’s Balchunas describing it as a “huge win for the Bitcoin ETFs” noting that it will attract more liquidity and larger institutional investors to the sector.
The SEC’s nod to IBIT options marks another step forward toward the maturity and legitimacy of this growing market and could mark the beginning of a new era in which market participants will be able to access more sophisticated products via traditional exchanges for speculation and hedging purposes.