Options On Strike Finance
Initial Approach: Peer-to-Peer (P2P)
The initial version of our options protocol on Strike Finance was based on a peer-to-peer (P2P) model. This approach allowed users to directly interact with each other to create and trade option contracts. While P2P systems offer certain advantages, such as direct user control and potentially lower fees, we encountered limitations that prompted us to reconsider our strategy.
Community Feedback and Market Analysis
After launching the P2P version, we gathered valuable feedback from our community and conducted a thorough market analysis. The key insight we gained was that the limited liquidity available on the Cardano network for options trading was a significant barrier to the growth and efficiency of our platform.
Transition to Automated Market Makers (AMM)
In response to these challenges, we have redesigned our options protocol to leverage Automated Market Makers (AMMs).
Key Features of the AMM-Powered Protocol:
Enhanced Liquidity: Users can now provide liquidity to our protocol, creating deeper and more robust markets for options trading.
Instant Execution: Buying and selling of option contracts will be filled instantaneously, eliminating the need to wait for a matching counterparty.
Incentivized Participation: Liquidity providers will earn a percentage of the fees generated by the protocol, encouraging active participation and ensuring consistent market depth.
Improved Price Discovery: The AMM model facilitates more efficient price discovery, leading to fairer and more accurate option prices.
Scalability: This model allows for easier scaling of the platform, accommodating a growing user base and increasing trading volumes.
Stablecoins
All options on Strike Finance must involve a stablecoin on at least one side of the contract:
For put options, assets must be bought with a stablecoin.
For call options, assets must be sold for stablecoins.
Using stablecoins as the base currency for these contracts helps reduce overall volatility. Without a stablecoin component, both sides of the contract would be subject to price fluctuations, making it more difficult for traders to assess risk and potential returns.
Example Scenario
An issuer creates a put option that gives the right to sell 100 ADA at a strike price of $0.40 per ADA, with an expiration date set one month from now. The issuer offers this option for sale at a premium of $10 for the entire contract.
A trader, anticipating a drop in ADA's price over the next month, purchases this put option for $10. The issuer immediately pockets this $10 premium without having to give up any assets in the process.
Sometimes later, ADA is trading at $0.50 per coin in the market. At this point, the option holder has no incentive to exercise the contract. They have the right to sell ADA at $0.40 per coin, but they could sell it on the open market for $0.50 per coin instead. Exercising the option would result in a loss of $0.10 per ADA.
The trader still hopes the price will fall below $0.40 before the option expires, which would make it profitable to exercise. If the price doesn't drop below $0.40 by the expiration date, the option will likely expire worthless. In this case, the issuer keeps the $10 premium as profit, while the trader loses their $10 investment.
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