BTC has undergone a healthy correction dropping nearly $1500 in 8 days. $9500 and $9200 support levels both failed. We do not know how low it will go. It would be healthy to test 7500–8000 level. The contango came in by about half to a third. We would look to levels close to flat contango as a contrarian indicator. Once the leveraged longs capitulate, we would like to re-establish length. We continue to believe we are in a bull market. However, a healthy shakeout is necessary to continue the advance.
10-day realized volatility is up to a healthy 64%. However, only the short-dated options are catching a bid. March, June and September IV is down -0.75%, -4.5% and -3.0% respectively. This is very surprising behavior and a further indication that derivative demand was driven by leveraged longs and call buyers.
Put skew is stronger across the board. Call skew is up slightly in June but down in September. We think June calls strengthened relative to straddles because IV at 62% is too low to sell wings.
Let’s review our last week’s recommendations:
- Stay long March, June and September put skew via leveraged put spreads. We recommend flat overall Vega position. For example, selling June 10,000/8,000 1x2 put spread you collect around $365 now on CME ($45 more than last week) and it is Delta flat, slightly Vega short (and slightly negative put skew).
- Traders should consider using contango in the futures to enhance portfolio returns. The contango is still very attractive.
The June 1x2 is a loser and is now worth around $407 vs 9045 Future. The Vega impact outweighed gamma and delta gains. We do not mind owning Vega at 62%. However, as a trade it has been wrong. Given under performance of vol, one can continue manage the trade by trading delta and Gamma or buy back the short leg to get into a straight hedged puts position.
Contango has come in substantially with Feb/June under $400 from trading as wide as $700 8 days ago.
We continue to like puts and put skew. However, given the fall in IV the calls in June and September are starting to look reasonable.
- Stay long March, June and September put skew via leveraged put spreads or outright. We recommend flat to long overall Vega position. Given the outright level of vol, Calls in June and September look fair. Exit shorts in the call skew if you had them.
- Traders should consider using contango in the futures to enhance portfolio returns. However, start looking to unwind the trade if it drops below 5% annualized. That has been the level in previous corrections.
The entirety of this report attempts to identify the best option structures available. Readers should overlay it with their directional view by under-hedging or over-hedging their preferred option structure.