Opyn: Capital Efficient DeFi Options

What is Opyn?

Opyn is a capital efficient DeFi options trading protocol that allows users to buy, sell, and create options on ERC20s. DeFi users and products rely on Opyn’s smart contracts and interface to hedge themselves against DeFi risks or take speculative positions on different cryptocurrencies.

Options are derivatives contracts that give its owner (buyer) the right to buy or sell a specific asset from the option writer (seller) at a specific price at option expiration date for European options.

Key use cases for options:

• Used as a hedging device, options provide DeFi traders with risk-reduction strategies
• For speculators, options can offer lower-cost ways to go long or short different cryptocurrencies with limited downside risk
• Opyn v2 options give DeFi traders more flexible, lower margin strategies such as spreads and combinations that could be potentially profitable under any market scenario

What are options? Why are they important for DeFi?

Options are derivatives contracts that give the buyer the right, but not the obligation, to either buy or sell a fixed amount of an underlying asset at a fixed price on or before a certain date, commonly referred to as the expiry date. In DeFi, underlying assets can include any ERC-20 assets, such as: WETH, WBTC, UNI, YFI, SNX, among others. 

People use options for a variety of reasons. The primary reasons include income generation, speculation, and hedging. Given the volatile nature of cryptocurrencies and DeFi risk, one popular example of using options is to hedge against declining asset prices to limit downside losses. Options are also used to generate recurring income. Additionally, options can be used for speculative purposes, such as making a directional bet on the price of an underlying asset, without having to lock up large amounts of capital.

What are key options trading scenarios?

For simplicity, let’s look at the basics of buying and selling calls/puts. Call options give the holder the right to buy an asset at a set price, and put options give the holder the right to sell an asset at a set price. Let’s take a look at two scenarios: 1) Alexis wants to protect her ETH investment against a downturn in the market, and 2) Mike wants to earn additional income on a portion of his ETH holdings.

Scenario 1: Protective Put (risk-reduction strategy)

Alexis holds 10 ETH that she purchased in October for $100 each. The price of ETH is currently trading at $500 and Alexis wants to lock in a profit and protect herself against ETH dropping back to $100 before December 31st. To reduce her downside risk exposure, Alexis can buy a protective put option with a strike price she’s willing to accept for selling ETH (e.g. $400). The protective put sets a floor price of $400, below which Alexis will not continue to lose any additional money, even if ETH’s price continues to fall until the option’s expiration date (December 31st).

On December 25, the price of ETH falls sharply to $250, and continues to trade at that level until December 31st. Since Alexis purchased a put option with the strike price of $400, Alexis has the right to sell her 10 ETH to the put seller for $400, despite ETH trading at $250.

Takeaway: Hedging with put options allows individuals to reduce risk at a reasonable cost. Think of buying a put as an insurance policy, limiting your downside risk. Long puts can be used to insure your investments against a downturn. To buy this insurance, the options buyer needs to pay some amount of premium upfront. In exchange for this premium, the options buyer limits his / her downside risk and enjoys all the upside in a cost-effective way.

To buy a protective put on Opyn:

1. Select your preferred Options Series from the dropdown in the top left corner of the trading dashboard and select the desired Expiry Date from the dropdown menu
2. Select your preferred Strike Price
3. Scroll down below the options section and enter your position size in the order box
4. Select the Approve USDC button, and confirm with MetaMask. This step authorizes the Opyn platform to use your USDC for the trade.
5. Select the Buy oToken button, and confirm with MetaMask. This step purchases your oToken(s)
6. Select Done, and confirm your position on your Opyn v2 Dashboard or on Etherscan

Scenario 2: Covered Call (income generation)

Mike holds 10 ETH that he purchased in October for $100 each. The price of ETH is currently trading at $500 and Mike is looking for a way to generate additional income. Mike predicts the price of ETH will remain relatively flat or drop until December 31st. To earn additional income, Mike can sell a covered call with a strike price that is out of the money (e.g. $600). In this example, a covered call is constructed by holding 10 ETH and then selling (writing) call options on those 10 ETH. The call option gives the call buyer the right to purchase ETH at a given strike price (e.g. $600) at a set time in the future (expiration date).

On December 25, the price of ETH falls sharply to $250, and continues to trade at that level until December 31st. Since Mike sold a covered call with the strike price of $600, the call option will expire worthless (out of the money), allowing Mike to keep 100% of the option’s premium (the option’s price).

Takeaway: Selling covered call options can generate income from options premiums with the hope the option expires worthless. Selling calls against assets you own (known as a covered call) is a widely used income generating strategy. A call option is out-of-the-money when the underlying asset price is below the strike price. The options writer (seller) keeps the premium as profit.

To sell a covered call with Opyn:

1. Select your preferred Options Series from the dropdown in the top left corner of the trading dashboard and select the desired Expiry Date from the dropdown menu
2. Select your preferred Strike Price
3. Scroll down below the options section and enter your position size in the order box
4. Select the approve WETH Wrapper button, and confirm with MetaMask. This step approves the Opyn platform to wrap your ETH, which will be used as collateral for the trade.
5. Select the Issue oToken button, and confirm with MetaMask. This action issues your oTokens for the selected options series
6. Select the Approve oToken button, and confirm with MetaMask. This action approves the 0xProxy contract to spend your oToken so you can sell it on 0x
7. Select the Sell oToken button, and confirm with MetaMask. This action sells your minted oToken on 0x

Select Done, and confirm your position on your Opyn v2 Dashboard or on Etherscan

How can users access and build upon Opyn?

Opyn is comprised of two parts:

• Gamma Protocol: the most powerful, capital efficient DeFi options protocol
• An updated interface for trading options using Gamma Protocol

The main feature of Opyn v2 is the options chain, where users can buy and sell put and call options, create spreads, and manage positions in their own dashboard.

What can people expect from Opyn in the future?

Throughout 2021 we plan to dramatically improve the capital efficiency of v2 by enabling users to: reduce margin requirements for naked options, trade options on margin, trade options on even more assets, and trade in greater size than ever before. By reducing margin requirements for naked options, users will be able to create the first ever partially-collateralized options positions in DeFi, with margining and liquidations built-in! This significantly reduces capital requirements compared to covered strategies.

Additionally, we’re developing an options-specific AMM, which will be very beneficial for liquidity. At Opyn, we want to focus on liquidity and we feel getting strong competitive liquidity requires an AMM, but we want to support liquidity wherever it comes from (be it AMMs or orderbooks). We want to enable and build the tools that allow robust liquidity from a variety of MMs/LPs/users. Getting more professional market makers involved in DeFi and crypto is helpful for the space as a whole.

Moreover, given options are incredibly versatile financial instruments, we are committed to fostering and incentivizing the developer community to build on top of the Gamma Protocol to further develop the DeFi options ecosystem. We’ve had very successful community projects incorporating Opyn in the past, and we plan to significantly increase resources available to developers in 2021. We’ve already started to share ideas for what you can build with Opyn v2.