Can You Trade Options on Crypto? Here’s How

Trading options on cryptocurrency assets is indeed possible, allowing participants to engage with the digital asset market in various strategic ways. These financial derivatives offer avenues to speculate on the future price movements of cryptocurrencies like Bitcoin and Ethereum without directly owning the underlying asset. By leveraging options, individuals can gain exposure to potential price appreciation or depreciation, or even generate income, depending on their market outlook and risk tolerance. This approach provides flexibility beyond simple spot trading.

Core Concepts of Crypto Options

A cryptocurrency option represents a contract that grants the holder the right, but not the obligation, to buy or sell a specific amount of an underlying cryptocurrency at a predetermined price by a certain date. This contractual agreement allows for participation in market movements with defined risk parameters.

Two primary types of options exist: call options and put options. A call option provides the holder the right to purchase the underlying cryptocurrency, while a put option grants the right to sell it. Each option contract is based on a specific underlying cryptocurrency, which is the digital asset whose price movement dictates the option’s value, such as Bitcoin or Ethereum.

The strike price, also known as the exercise price, is the fixed price at which the underlying cryptocurrency can be bought or sold if the option is exercised. An expiration date defines the final day on which the option contract remains valid; after this date, the option becomes worthless if unexercised. For the right to hold this contract, the buyer pays a non-refundable amount to the seller, known as the premium.

An option’s profitability relative to its strike price and the current market price determines its “moneyness.” An option is considered “in the money” if exercising it would result in an immediate profit. Conversely, an option is “out of the money” if exercising it would lead to a loss. An option is “at the money” when its strike price is identical or very close to the current market price of the underlying cryptocurrency.

Executing Crypto Options Trades

Engaging in crypto options trading involves specific processes for both buyers and sellers of these contracts. A buyer initiates a position by paying the premium to the seller, securing the rights conveyed by the option contract. This premium represents the maximum loss for the option buyer should the market move unfavorably.

When an option is “in the money” at or before its expiration, the holder may choose to exercise it. Exercising a call option means the buyer purchases the underlying cryptocurrency at the strike price, regardless of the current market price, potentially realizing a gain if the market price is higher. Similarly, exercising a put option means the holder sells the underlying cryptocurrency at the strike price, which is advantageous if the market price is lower.

Options that are not exercised by their expiration date become worthless, and the buyer forfeits the premium paid. The seller, or “writer,” of the option has the obligation to fulfill the contract if the buyer chooses to exercise. This means the seller must buy or sell the underlying cryptocurrency at the strike price, potentially incurring losses if the market moves against their position.

Crypto options can generally be categorized into two styles based on their exercise flexibility: American-style and European-style. American-style options provide the holder the flexibility to exercise the option at any point before or on the expiration date. European-style options, conversely, can only be exercised on the specific expiration date. Due to the added flexibility, American-style options often command a higher premium.

From a tax perspective, the Internal Revenue Service (IRS) generally treats cryptocurrency as property, not currency, for federal income tax purposes. This classification means that gains or losses from crypto options trading are subject to capital gains tax. If an option is exercised and the underlying crypto is acquired or sold, the basis and holding period of that crypto become relevant for future tax calculations.

Profits from crypto options held for one year or less are generally considered short-term capital gains and are taxed at ordinary income tax rates, which can range from 10% to 37%. If the options or the underlying assets obtained through exercise are held for more than one year, any profits are typically treated as long-term capital gains, which are taxed at lower rates, currently 0%, 15%, or 20%, depending on the taxpayer’s income level. Taxable events, such as selling an option or exercising one that results in a gain, must be reported on IRS Form 8949, Sales and Other Dispositions of Capital Assets, and then summarized on Schedule D, Capital Gains and Losses. Starting January 1, 2025, cryptocurrency exchanges are expected to begin issuing Form 1099-DA to report digital asset sales and exchanges to the IRS and taxpayers.

Accessing Crypto Options Markets

Individuals seeking to trade crypto options can access these markets primarily through two types of platforms: centralized cryptocurrency exchanges (CEXs) and decentralized finance (DeFi) protocols. Each type offers distinct characteristics and accessibility requirements. Centralized exchanges operate similarly to traditional financial brokers, providing a regulated environment for trading.

For centralized exchanges, getting started typically involves creating an account and completing identity verification procedures. These procedures, known as Know Your Customer (KYC) and Anti-Money Laundering (AML) checks, are mandated by regulations to prevent illicit activities. Users generally need to provide personal data such as their full name, date of birth, and address, along with government-issued identification and proof of address. These platforms also perform sanctions screening and ongoing monitoring of transactions to comply with financial regulations.

The Financial Crimes Enforcement Network (FinCEN) classifies many crypto exchanges as Money Services Businesses (MSBs), requiring them to register and adhere to AML compliance programs. Once an account is established and verified, users can fund it by depositing either fiat currency through bank transfers or credit/debit cards, or by transferring existing cryptocurrency from an external wallet. These platforms often provide advanced trading tools and greater liquidity, making them suitable for active traders.

Decentralized finance (DeFi) protocols offer an alternative, operating on blockchain networks without a central intermediary. These platforms utilize smart contracts to facilitate options trading directly between users. Accessing DeFi options markets typically requires a self-custody cryptocurrency wallet, which users connect directly to the protocol.

Funding a DeFi options trade involves holding the necessary cryptocurrency in the connected wallet, as transactions are processed directly on the blockchain. While DeFi platforms generally do not impose traditional KYC/AML requirements, users are responsible for managing their own private keys and understanding the smart contract risks involved. The DeFi options market, though growing, is still considered nascent compared to its centralized counterparts, with many protocols built on networks like Ethereum.