Seasoned stock traders are likely attuned to the observation that market corrections are typically accompanied by an uptick in metrics like the VIX index, which gauges volatility expectations.
That’s not the case in the bitcoin market, however, even though cryptocurrency prices tend to be positively correlated to technology stocks.
For instance, as bitcoin’s price has pulled back 10% from over $70,000 in the past four weeks. Deribit’s bitcoin volatility index DVOL – an options-derived measure of expected price turbulence over the next 30 days – has declined from an annualized 53% to 42%, reaching the lowest since early February, per charting platform TradingView.
Implied volatility is positively impacted by the demand for options or derivative contracts that give the purchaser the right to buy or sell the underlying asset at a predetermined price at a later date. A call option gives the right to buy and a put option confers the right to sell.
The slide in the DVOL amid the price correction suggests a calm market environment in which investors are less inclined to panic or seek out protective puts or hedging bets. Moreover, bitcoin’s pullback has been slow and orderly rather than a fast slide, often leading investors to buy options to profit from the volatility boom.
“It is because since BTC fading off the highs, we’ve been stuck in a range-bound market with low realized volatility,” David Brickell, head of international distribution at Toronto-based crypto platform FRNT Financial, told CoinDesk. “There is a lack of appetite to buy volatility into the summer months, and the structural tends to be overwriters selling vol, so in the absence of real demand, we drop lower.”
Volatility selling is a popular crypto strategy where investors sell or write options in a dull market, lowering implied volatility. The seller receives a premium for promising to compensate the buyer in case of wild price swings. Typically, such strategies involve writing calls on top of spot market holdings.
Per Brickell, a renewed upswing in BTC to levels above $70,000 will likely revive demand for options and boost the DVOL implied volatility index. BTC’s price has been positively correlated with the DVOL index throughout this bull cycle.
“We’ll likely need to see BTC testing back towards the top of the range and threaten a break higher to break out of this vol lethargy,” Brickell said.
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