Exploring DeFi Options - Alexis Gauba

up next we have uh one of my favorite people in crypto space uh alexis calva she's gonna be talking to us about the d5 options hi alexis hey mariano oh so good to see you it's good to see you as well uh so you recently launched v2 of open right you did yes yeah not too long ago just about a month ago so congratulations thank you for following that and i can't wait to see what uh you talk about today so with that i'm gonna i'm gonna leave you uh to do your presentation best of luck good thanks mariano thanks for the kind words um very excited to chat with everybody today about d5 options um so we'll be talking a little bit about what options are and then also how they fit into this whole d5 landscape so we can go ahead and dive right in um so the premise of this talk is we're going to chat a little bit about how one of dfi's killer apps will be derivatives and then we'll hop into options in particular um and we'll talk about how not only are options going to be a big unlock for d5 but how d5 can be a big unlock for options in general um which is pretty exciting options are these traditional finance primitives that have been around for so long but with d5 we actually have ways to elevate them to the next level and we'll kind of dive into that a little bit today so let's start with what are options so options are a derivative instrument and we'll chat a little bit more about what a derivative instrument is in a second but in terms of how people use options people will often use options as tools for protection and financial insurance and they can also be used for speculation and because options have this wide variety of use cases they create this massive market where we're seeing over 300 trillion dollars in yearly volume for these instruments and these are extremely extremely versatile which we talked a little bit about earlier but we'll get into a bit more so in terms of the versatility of options they just have a ton of different use cases and i'll mention a couple of interesting ones right now so one really interesting example is that using options you can remove risk from different portfolios so say i have a portfolio of a number of different financial instruments i can use options to create a risk-free rate which can basically help me remove risk from my portfolio the other thing that you can do is you can remove risk from trading options themselves using a strategy called delta hedging another exciting thing that you can do with options um is trade on volatility itself so as we know especially in crypto we see a bunch of different volatility um but what an interesting thing that options kind of let you do is trade on this volatility itself uh without necessarily taking a bet on the directions so you can hedge yourself against volatility um you can speculate based on what you think will happen with volatility uh so options kind of give this this really cool volatility playground um and then the other thing is that you can create any other payoff in the world just using options which is kind of crazy so there's this theorem that shows that using options you can create any other payoff so it kind of makes them the ultimate ultimate synthetic and i think we're just scratching the surface of what we can do with options so we've been talking about what options can do but now we can go back and kind of get into what is an option and an option is a type of financial instrument called a derivative and a derivative unlike you know a typical asset like eth or bitcoin um which we can call underlying assets a derivative derives its value entirely from this underlying asset so i could have a future on eath or an option on eath and that future or option that derivative asset gets its value entirely from the underlying asset which in this example is eve so the derivatives that y'all might be most familiar with are probably options and features these are the ones that are the most popular that we talk about most um and the similarity between both of these different derivatives is they're both based on a future trade which hasn't even happened yet so with a futures contract you've got a buyer and a seller and both of these parties are obligated to make a trade in the future say they're exchanging each for usdc so one of them is buying that each i use the usdc and the other one is selling that eve so in this case both of the different parties the buyer and the seller are obligated into this trade in the future um so upon experience one of them is going to make a loss each price will have gone a certain way but they'll both still be obligated to make that trade um so typically there isn't any kind of upfront premium because with the future both of these people have this obligation so now let's kind of look at options and see how they're a bit different in options kind of like the name suggests one side has an obligation and the other side has an option um so the person selling the option has to make the trade of the future they have this obligation but the person buying the option is the one that has this option so the person buying the option can decide if they want to make the trade in the future but they're not obligated and because the person buying the option has this choice upon whether they want to make this trade in the future they have to pay a premium for that optionality or for that choice you can kind of think about it in life it's like really nice to have a bunch of options it's it's the same in in the finance world where the more options kind of a better and so you do have to pay extra for that optionality so there are two main kinds of options there are put options and call options and so let's chat a little bit about what each of these options are so a put option is the option to sell an underlying asset for example eth for a specific price which we call the strike price and this is helpful when you think that an asset could go down in price um so let's take an example say we have eth at a thousand dollars um and i'm afraid that you know i might wake up in some time in like the next couple of weeks and eat will have fallen to like 500 uh what i can do is i can use this put option i can go buy one which gives me the right to sell eighth for a thousand dollars upon the expiry date so in that situation um at xbre if ethan's at 500 i can still sell my eep for a thousand dollars using this put option so i've given myself this hedging against eve price falling now on the other side we have call options and call options give me the option to buy the underlying asset eth for a specific price which again is called the strike price and this is pretty useful for when you think the asset is going to increase in value um so say that i think eath eats is going to go up i'm like bullish on eth maybe i buy a call option for 2 000 um so then say that like eve has this like massive bull run it goes up to five thousand dollars um i can still buy each for two thousand dollars by using my call option even if it's worth a lot more on the market um and so that is kind of the power of call options so i want to just chat quickly about one of the common misconceptions so the opposite of buying a put is not buying a call it is selling a put so there are kind of four different payoffs that we're looking at here you can buy a put you can sell a put and then you can buy a call and you can sell a call and each of these four different actions has a distinct payoff so as a reminder when you're buying the option you're paying the premium for the optionality but when you're selling the option uh you're getting paid that premium to take on the obligation um so just to keep in mind that there are those four different paths okay cool so we kind of already chatted about an example a little bit um but let's let's let's look at this this example that we were talking about earlier um where we had this put option of uh where we had a strike price of a thousand usdc and this was a put option on eighth say it's expiring on february 26th um so as the buyer or the holder of this put option i can sell eth for a thousand dollars upon expiry on february 26th so i'm basically creating a price floor for myself and we can see that this kind of gives me an asymmetric upside payoff so in this case as ethan's going up in value i'm still holding my eid it's making me money as it goes up but in the case that there's some sort of event where each goes down in value i've kind of capped myself here at a thousand dollars so a thousand dollars using that this option is the lowest that i'd be selling my eighth for so we've talked about buying puts and you know buying options and it seems pretty clear like hey like if i were to buy an option it gives me this optionality i've got this asymmetric upside seems like a pretty good situation so you might be thinking now why would i sell a option um so let's chat about the other side of this trade a little bit so let's take a it looks like we're looking at a different put option we're looking at a 200 strike uh usdc you put option expiring on december 31st um but regardless of kind of the kind of which option when you're selling the put option you're believing that hey etha is probably going to go up in value so if i sell this put option um if eth goes down in value if eve hits two hundred dollars in this situation i am going to have to the the holder of the opt is gonna exercise so i'm gonna have to sell each to them um at that price but if i think east is going to go up in value then i can earn a premium for selling this option um and if he continues to increase in value i won't have to uh exercise basically or i won't have to like uh i won't have to be exercised i can just redeem my collateral and head on my way and there like i kind of mentioned there's a number of different reasons why people will be selling puts um it's a way to monetize your views if you believe that eat will go up and some people even see it as monetizing a limit order um depending on the kind of settlement for an option sometimes uh upon exercise as an option seller um you will you basically you'd be putting down usdc as collateral uh and then if it's physical settlement upon exercise you'd receive the option buyers eat while they receive your usdc so if it's that kind of settlement some people see it as a way to monetize limbo orders okay so now how are options typically traded and treated in traditional finance um so in traditional finance it's pretty similar to you know other financial instruments if i want to trade a stock i could go to the new york stock exchange which is a centralized exchange if i want to trade an option i could go to the chicago mercantile exchange or the cme or the chicago ford options exchange and i could trade on these centralized exchanges and they run as you typically you know think they would they've got a centralized operator uh classic centralized exchange situation uh but what's really interesting is that in centralized finance uh the other way which is even more popular to trade options is otc or over-the-counter trading and so this is where people are making legal deals for large derivatives off an exchange so these are never touching the exchange in the first place and people talk a lot about how defy is going to impact centralized exchanges we're seeing this incredible decks boom um but we don't we don't talk as much about otc so i want to just spend a couple minutes chatting about that okay so to understand this better let's chat about kind of why people do otc trading in the first place in traditional finance so there are a couple of key reasons one is slippage so if i'm like a big whale i've got a bunch of money for me to go to the the centralized exchange or the decentralized exchange um there might just not be enough liquidity there to handle the amount that i'd want to sell and so i could actually get a better price by negotiating with someone else who's willing to do this over-the-counter trade with me the other reason that people typically think about doing this is for customization purposes if i'm making this otc trade i can choose any strike any expiry any underlying asset i can think about different exotic kinds of options so it gives me a lot of freedom in the kind of instrument that i'm trying to purchase um the next thing is collateral so say that i am actually conducting this otc trade with someone who's my friend who i trust then maybe we can actually reduce our collateral requirements a little bit by relying on that trust so i can create a more capital efficient trade and then another reason is custody um so in especially in traditional finance if i'm you know trusting some sort of centralized exchange with my funds maybe i don't want to do that so an otc trade is another way for me to kind of not necessarily have to do that and so the cool thing with ethereum is that it's literally a trusted collateral like it's a layer where i can settle and it's a layer where i can create arbitrary financial contracts so it's this huge unlock for otc trades that i don't think has really been tapped into yet uh because in traditional finance to create these kind of otc trades you're looking at 40 to 60 page legal documents this whole process it's kind of gated you have to know these kind of like dealers in order to like put on these otc trades but in d5 you can literally just like go to a website um you know create an otc trade like send send your uh like kind of uh trade filling string to your counterparty and they can immediately fill it so this is something that's possible um on open with open v2 today for um options which is really cool so i wanted to chat a little bit about this because i think it's exciting and something that will in one of the key ways that um uh option d5 will actually be a big unlock for the option space in general because it crea makes the creation of these kind of bespoke trades so much easier i can just go ahead and put in the strike price and the parameters i want and mint some oh tokens which are erc20 options and trade them with a specific counterparty so we kind of touched on a little bit of stuff today we didn't leave but there's like a lot more to learn um so we talked about like put in call options we talked about derivatives we talked about atc but if you want to learn more there's like a whole world of options out there so to get started you can go to open.co where you can trade put in call options on each and some other assets um you can join us on discord at tiny dot cc slash open discord and that's a great great place to come ask questions have discussions i promise it's really friendly and then you can keep up to date with us on twitter um awesome so thanks y'all if you have any questions definitely like ping me on discord more than happy to chat hey um alexis i see a question here in chat says what what oracle's network are you using for your price fields good question um so openv1 doesn't use any oracles it's completely physically settled but for openv2 we're using chain link excellent let's see if there are any other questions it is really interesting uh options i didn't understand how they worked uh up till maybe a couple of months ago and now with this uh raging bull market i uh i mostly had to learn you know to participate a little bit more efficiently oh my gosh yeah they're super interesting there's so much you can do with them so i think it'll be good to bring more options education and get more people able to use these things yeah i agree um oh here's one more let me see are fees high for options trading or do you need to move that to a layer two very good question um i think kind of like all of d5 is seeing right now gas is kind of crazy so just like with any other application that's impacted by the gas situation options are as well so eventually i definitely think that all of this is going to need to move to layer 2 but for now i think everyone is trying to make do on layer one as we figure out how to switch over yeah i agree um do you have a favorite tail too or is that too much alpha oh my gosh we're honestly we're still like doing a lot of exploring to see what's gonna work best um so there isn't like one in particular that we're thinking about at this point but just try to explore what's out there great um let's see uh i see one here uh any plans for progressive decentralization very good question um yeah so you know what's really interesting is like i got into this space and like my whole team kind of got into the space because we were excited about crypto like our first grant came from a dow the maker down which is awesome and so like we are definitely like huge proponents of like community governed protocols and so it's definitely something that we'd like to work towards progressively yeah that is perfect and i think that is the right way to go it's uh there are so many things that uh you know the so many moving pieces uh absolutely these protocols that uh when they start out it's like slowly slowly uh giving it away to the community because also you have time to form a community and exactly understand and come vote responsibly in things right no absolutely i think 100 true like the protocol has to be there and the community has to be there and so both both different elements excellent uh well i think we're good on questions unless um oh there's one more where the benefits of having chaining be in oracle good question yeah so basically with v2 um we do cash settlement and so we need to get the price of eth at the very specific time of experience and chain link was able to provide that so that's kind of the reason that we went with them great um some questions about so that was that was the of the oracles well i uh i think we're all done with questions so uh thank you so much uh alexis absolutely thanks for having me and uh yeah hope to see more of open in the future heck yeah thanks so much marianna bye all