Dubbed as “the perpetual future of options”, the floating strike perpetual option is a novel type of option that doesn’t expire, and that remains relevant in perpetuity. It was originally introduced in May 2021, by Paradigm researcher Dave White, in a paper titled Everlasting Options.
“Perpetual options give traders long-term options exposure without the effort, risk, or expense of rolling positions” — Dave wrote in the paper.
“They work exactly the same way as perpetual futures, with one difference: the funding fee is calculated as the difference of the mark price and the current payoff of the option, so that the funding fee is (mark — payoff) instead of (mark — index).”
The perpetual future, a financial derivative that was once considered novel, but is now known to pretty much every crypto trader, was introduced by Bitmex back in 2016, and has since taken the crypto world by storm. It now trades in the hundreds of billions of volume per day, and makes up more than 95 percent of the overall crypto derivatives volume.
One of the main appeals of the perpetual future is the fact that traders don’t need to worry about expiration dates, but can simply go long or short, and keep their position for as long as they want. A mechanism called “funding” keeps the price of the perpetual future close to the spot price of its underlying asset.
Another, perhaps even greater, benefit, is the fact that the perpetual future consolidates liquidity into a single trading pair. Instead of forcing market makers to spread their capital across dozens of different futures expiries, the perpetual future allows them to dedicate the bulk of their capital to a single market. This often results in better spreads and lower execution costs for the individual trader.
The perpetual option seeks to replicate these benefits, and close the gap between crypto futures and crypto options. In today’s crypto markets, options are completely overshadowed by futures, and make up less than 5 percent of the total derivatives volume. In traditional finance, their share of the total derivatives volume is 53 percent.
A major problem with the perpetual option is the fact that strike prices tend to become obsolete. A year ago, a perpetual option with a strike price of 40,000 would have been very relevant. Today, it would see almost no volume, as it’s simply too far from being in-the-money. Due to the way funding works, perpetual options require immediately relevant strike prices — else, they will become more or less worthless, and will not be traded at all.
Dave White outlined a solution to this problem in his whitepaper: floating strikes. By not fixing the strike prices on a set of predefined numbers, but rather letting them follow the course of the underlying asset, they remain forever relevant, and can be traded in perpetuity.
One practical way to implement this would be to fix the strike prices around an exponential moving average, such as the 100-hour EMA.
A perpetual option with a strike price that is pinned to its 100-hour EMA will continuously oscillate between being in-the-money, at-the-money and out-of-the-money. By multiplying the EMA by a fixed multiplier, you can create new variants of the option that are predominantly in-the-money, or predominantly out-of-the-money.
This is exactly what we have now created at Everstrike. A basket of perpetual options, each with strike prices fixed to the EMA of the underlying asset (plus or minus some multiplier). Due to the way the strike prices are designed, each option in the basket is guaranteed to remain forever relevant. Depending on how the underlying asset is trading, there will be more in-the-money calls relative to puts — or vice versa — but in general, there will always be at least one in-the-money put and one in-the-money call. This effectively allows traders to execute any basic options strategy — at any time in the future — using this particular basket of perpetual options.
If perpetual options succeed, they will become the second crypto-native derivative to dominate crypto. Perpetual futures, while originally proposed by economist Robert Shiller in 1992, were never really tried in traditional finance, and only became widely known in 2016, after Bitmex decided to implement them.
This trend of adopting new derivatives is perhaps quite natural for crypto. Crypto markets are significantly more fragmented than traditional markets, and suffer from the lack of a central clearing house. Market makers are required to spread their capital across multiple venues, which further reduces the amount of products they can effectively quote. In lieu of central clearing, having derivatives that consolidate liquidity is immensely beneficial. And traditional derivatives like plain vanilla futures and European-style options simply don’t do that.