During DeFi’s most innovative and exciting year, a new kind of trading experience has exploded onto the scene. Hegic is an on-chain, non-custodial platform for options trading, launched by the enigmatic Molly Wintermute. The platform has grown significantly in recent months, after its inauspicious start in April. The first iteration suffered from buggy code, which required Wintermute to return almost $50,000 in locked funds to users. Since then, Hegic has been running smoothly, and volume has rapidly grown. It is poised to become one of the key players in the crypto trading ecosystem.
Hegic allows users to buy put and call options on ETH and WBTC. Currently, total options volume for WBTC exceeds that of ETH. For those who are unfamiliar with options trading, calls and puts are essentially bets on the future price of assets. Buying a call means you have the right but not the obligation to purchase an asset at a certain price (the “strike price”) for an agreed-upon length of time. You pay a premium to purchase the option.
Let’s say you buy a call for ETH at $500. The call option expires one month later. If the price of ETH shoots up to $1,000 during this window of time, you can exercise the option for a profit of $500 less the premium cost. Put options work the opposite way. You reserve the right but are not required to sell $ETH at $500 one month later. If ETH plummets to $250 during this time, you can go buy some ETH at market price then turn around and sell it for $500 as agreed. You profit $250 minus the premium you paid. Premium costs depend on the length of the options contract and the “moneyness” of the option (basically, how far the strike price and the actual price deviate at the time of purchase).
Why would anyone want to use options? Well, for starters, it allows you to trade with leverage and still manage your risk. The beauty of options trading is that traders can use them when they are extremely confident or extremely uncertain, as options can be used as a hedging measure in combination with other trades. The price of a crypto-asset can go parabolic rather quickly. Options allow you to capture all of the upside (or downside) with only the cost of the premium. You are also protected from the asset going against your thesis to an astronomical amount. At worst, you choose not to exercise the option and the only money you’re out is the sunk premium cost. One key aspect of Hegic that experienced traders will need to consider is that the premium is priced in ETH. As the price of ETH fluctuates, the value of the premium also changes, which will impact your P&L.
To offer a viable trading experience, Hegic requires a deep well of liquidity from which traders can draw. Without sufficient liquidity, traders will be unable to enjoy the same experience provided by centralized exchanges, and liquidity providers will be exposed to even greater counterparty risk when writing contracts. Hegic aims to accomplish this by incentivizing liquidity providers. LPs are called ‘writers’ in the Hegic ecosystem. Writers share the premiums paid in their pools. Hegic also incentivizes liquidity provision with the native HEGIC token.
Wintermute envisions HEGIC to become a governance token for the protocol at some point in the future, but currently the token is only a requirement for purchasing a staking lot. 888,000 HEGIC buys a staking lot and with it, the right to the protocol’s settlement fees. There is one additional incentive available to writers. By providing liquidity, you are credited with writeBTC or writeETH tokens. These tokens can be staked to earn rHegic token, which is essentially a vested version of HEGIC that can be sold at a hefty discount before the vesting period ends in late 2021.
Hegic is one of the more complicated DeFi protocols on the market today. It involves a lot more levers and cranks than discussed here, including a bonding curve that controls the new supply of Hegic. To learn more about Hegic, you can check out Hegic’s documentation. You can also try it out for yourself; All you need is an Ethereum wallet. The protocol does not require KYC or account verification. Hegic is proving to be a worthy rival for Deribit, although they are likely to grow in unison given the unique advantages that each provide. Hopefully, there will be plenty of opportunities for arbitrage between the two platforms headed into the future.