Bitcoin Futures and Options: Trading the Hype!

Bitcoin futures and options are arriving at your broker as soon as this year. The CME – Chicago Mercantile Exchange – is planning to list Bitcoin futures and the CBOE – Chicago Board Options Exchange – is planning to list options this year, pending approvals. This means, if you have a futures and/or options account, you can trade Bitcoin.

Can you make money from all the hype and emotion surrounding Bitcoin? I believe you can. This is a long story based on my own experience with new instruments, and one that could point to a new trading opportunity.

I was a broker with E.F.Hutton in 1982 when the first stock index futures contract was listed. The Value Line futures contract was listed by the tiny Kansas City Board of Trade. There were no electronic orders, no high frequency trading, there was little arbitrage, there were no baskets of stock to trade against the futures, there was little algo trading. And importantly, it was filled with novice and naive index futures traders. This was a brand new experience for the futures community.

It was wild. The futures would easily swing several percentage points above and below “fair value” of the underlying cash index. Money was flowing all over the place to those traders who abandoned all the normal trading strategies and traded the raw market energy. It took guts and the ability to handle abrupt and rapid price changes in a sometimes volatile and illiquid market.

But, it was awesome for my clients who knew how to trade in that environment.

I went on to become a trader on the CME and the CBOT, and market maker on the options floor of the Pacific Stock Exchange. While at the PSE, as an exchange director, I also chaired the New Products Committee where I helped create the PSE Technology Index. I brought it to the options floor where I was the primary market maker.

Here is where this became very interesting. The PSE Technology index did not have a futures market…just numbers generated by the index. The options were “cash” settled which means they would be priced on the closing of the index at expiration. Normally, what I would do would be to buy and sell option premium (implied volatility) and then hedge my directional risk with the underlying stock or futures. In this case there was none! So, with my familiarity with the Value Line futures contract, I used it to hedge my delta (directional risk) positions.

The Value Line trading become very profitable in and of itself. How? The futures market volatility was my cash register. Even though the Value Line futures contract was a very imperfect hedge for the PSE Technology Index, there was so much slop in the market it just didn’t matter. None of the other market makers or the trading public paid attention to the Value Line futures contract. So, as it went whipping back and forth, I priced my option values off of it, not the cash price of the Technology Index. I could buy calls and sell the Value Line Futures and then undo them when the Futures careened the other way, all with my options budging hardly at all. Low risk, high reward.

What does this mean for you and Bitcoin futures? We may see a repeat of the opportunities that I was able to take advantage of with the Value Line futures and options. Bitcoin futures have some of the same features of the Value Line futures when they were first listed and more.

• There may be no clear path to arbitraging against the underlying values.
• The market will be filled with novice retail traders who are true believers in Bitcoin.
• There are Bitcoin skeptics who believe Bitcoin is going to zero.
• The underlying security itself is belief and emotionally based.
• The volatility could be huge.

The most money I ever made was trading emotional binges in the market. I believe we could have a couple of years of great trading opportunities as emotions drive Bitcoin prices during feeding frenzies and panic sell-offs. Eventually the opportunities will be squeezed out of it by high frequency trading, arbitrage and artificial intelligence applied to the markets. But in the meantime…

This will be the wild west. Trading Bitcoin is not for the cautious strategy trader. This contract will be for the trader who has honed their instincts over the years and is able to trade the market quickly and flexibly, depending on their years of trading experience.

This will be a very high risk market. Bitcoin could move 20% during a day. You will need significant capital reserves to manage risk. How much? I don’t know yet.

In fact, there is a lot I don’t know. There was a lot I didn’t know about trading the Value Line Futures, or the PSE Technology index, but both had tremendous opportunities before the financial community figured it all out and tightened the edge for the independent trader.

Do you have the emotional resilience to trade Bitcoin? If you have significant trading experience, are able to stay centered when everyone else is panicking or in a feeding frenzy, then consider learning about how to trade this new futures contract.

I have started an open Bitcoin futures trading list for those interested in learning about trading Bitcoin futures and options. Consider joining the list if you are curious and want to stay informed. You can stay connected and up to date on futures contract developments, regulatory issues, contract specifications and other Cryptocurrency information and opportunities for the independent trader.

Now understand, I have a lot of questions, and not all of the answers. A great deal of the information we need to know as independent traders just isn’t available yet, but my gut says this is the place to be for the next year or more.