Sharp Bitcoin price moves are brewing as BTC volatility drops to a 16-month low

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Open positions on Bitcoin (BTC) options have increased to $ 2 billion, which is 13% below its all-time high. Although the open interest is still heavily focused on the Deribit exchange, the Chicago Mercantile Exchange (CME) has also hit $ 300 million.

In simple terms, options derivative contracts allow investors to buy protection either up (call options) or down (put options). While there are some more complex strategies out there, the very existence of liquid options markets is a positive indicator.

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For example, miners can use derivative contracts to stabilize their income, which is linked to the price of a cryptocurrency. Arbitrage and market-making companies also use the instruments to hedge their business. Ultimately, deeply liquid markets attract larger participants and increase their efficiency.

Implied volatility is a useful and primary metric that can be extracted from option pricing. Whenever traders perceive an increased risk of larger price fluctuations, the indicator shifts higher. The opposite occurs in times when the price is unchanged or more moderate price fluctuations are to be expected.

3 month options contracts implied volatility. Source: Skew

Volatility is commonly known as a fear indicator, but it is mostly a backward-looking metric. The 2019 spike shown on the chart above coincided with the high of $ 13,880 on June 26, followed by a sudden drop of $ 1,400. The most recent increase in volatility from March 2020 came after a 50% decrease in just 8 hours.