The Other Side Of The Trade: Genesis
Can you briefly introduce yourself?
I co-head the trading business at Genesis, with a principal responsibility for managing our derivatives franchise.
What made you want to enter the crypto space?
After a decade as a portfolio manager overseeing a volatility book at a macro hedge fund, I was introduced to bitcoin in 2013. I stepped away from the hedge fund the year after and have been involved in the digital asset space, more or less, ever since.
We are trying to demystify market makers, can you tell us what is your business? What kind of trades do you focus on?
Genesis is a leading liquidity provider in non-linear cryptocurrency derivatives. We make markets in both listed and OTC options; our business is a client-centric operation that strives to offer the highest level of service to institutional investors in cryptocurrencies.
What type of clients are you working with?
We support a variety of marquee participants within the digital asset ecosystem, from crypto-native asset allocators to volatility-focused funds to treasury protocols to venture investors, cross-over players, entrepreneurs and of course miners.
What is your outlook for DOVs and what implications have they had for your trading business?
We take a holistic view of the still-nascent crypto derivatives ecosystems, both DeFi and CeFi; decentralized options vaults (DOVs) are one of the newest, novel approaches for sourcing liquidity in the non-linear space. We actively monitor the results of DOVs including the volumes on offer, underliers, strikes, premiums and implied vols, and, of course, the status of the venues themselves (for which there has been something of a revolving door in terms of lifespan and legitimacy for some). For example, the top vaults have ostensibly maintained their position in the space across an uncertain period, while other vaults have, as late as last month, announced closures. DOVs have changed both the psychology and the nature of options market flow. It was obvious from inception that market chatter tended to emphasize, perhaps to excess, the gamma effects created by supply of 1wk wings, but it reinforced an obvious propensity for a period of time for dealers to preempt vault activity by pre-selling 1wk options and for many vault participants to sell out of options they’d bought on the vaults via CeFi venues to try to capture an incremental spread. A threadworn conversation for much of 2022 was “why are front end vols so low? Because DOVs”. Furthermore, certain vaults initially offered incentive structures which appeared to cause irrational pricing in order to ‘win’ bonus tokens. Net net, the apparent effect has been to periodically depress shorter-dated volatility or at the very least enhance liquidity in such strikes and tenors. From our perspective, regardless of how much is arithmetically causal or demonstrably circumstantial (if not psychosomatic) we appreciate the ability to access shorter-dated wings from CeFi venues when vault participants themselves recycle liquidity on major exchanges, as it allows us to manage our overall book of risk more efficiently.
What do you see as the main differentiating factors in decentralized options trading venues vs. TradFi for you?
As we’ve observed the development of onchain nonlinear products within crypto, it is apparent that, as far as things have come, we still do not yet foresee a diverse volatility centric DeFi ecosystem without the advent of institutional grade DEXs. Hence, while we know those are coming, it is reasonable to view DeFi non-linear derivs venues as, for the time being, more experimental and therefore to craft risk limits and position management strategies accordingly if one were to participate on those venues. That being said, when evaluating DeFi cryptocurrency options as compared to say, OTC forex options which I spent the better part of a decade trading in Tradfi, it can be said that in some senses, DeFi crypto vols, particularly for majors, are as efficient as (and in certain cases more efficient than) some EM forex vol markets, particularly when you take a look at how closely leading vault options trade compared to centralized listed venues. In that way, DeFi in crypto is more evolved or rational than certain tradfi options markets. For instance, there is an observable surface and pricing is made consistently with respect to that surface, which is coherent (even when looking at the results of DOVs, it’s obvious that size drives spread as does overall market flow and context – there have been cases in which takers have been aggressive purchasers of certain kinds of short dated optionality for which DOV flows have been a natural complement; and when that happens, not shockingly, DOV pricing is incredibly tight to CeFi venues). There is no analogue to such a process, though, for options on underlying emerging market currencies such as the Chilean Peso or Peruvian Sol within LatAm or more esoteric frontier markets in sub-Saharan Africa such as the Zambian Kwacha or Tanzanian Shilling, which I had the opportunity to trade with folks who are now counterparties within the crypto space. For such pairs, there is no, and likely will never be a, centralized venue for pricing; yet there is no decentralized alternative either, and transacting parties in such currencies are likely to face wider spreads and do not have nearly as transparent or coherent pricing as DeFi crypto offers today.
How do you see the overall balance of option market flows evolving from entirely CeFi to a greater inclusion of DeFi? How do you see the diversity of DeFi counterparties evolving, and what kinds of innovation would you hope to see from such venues?
The preponderance of crypto options market flows will remain with CeFi counterparties for some period of time. That being said, the initial tendency was to think that post FTX, post 3AC, post Terra, interest in DeFi and crypto in general might wane and therefore participation on decentralized venues might also wither as a secular trend. Yet with fears about centralized financial counterparty risk being a major consideration, it’s increasingly an accepted narrative within crypto that DeFi, even for nonlinear derivs (and not just linear applications where it has clearly taken off such as with DyDx and GMX), there can be a handful of viable DeFi venues. The observed volumes on marquee DOVs are a testament to that resilience (and antifragility, if you will). There are, purportedly, a number of interesting innovative projects within onchain nonlinear derivs that could also serve as further catalysts for a perpetuation of this trend, and if the pattern of linear derivs marketshare accretion to DeFi venues is anything to go by, there may well be further upside in terms of the marketshare that DeFi has for options, too.
What is your view on the growth of DOVs and DeFi options as a whole?
With the right leadership and product as well as requisite attention to security and compliance concerns, it would appear to be a nigh-on inevitable eventuality that we embrace and look forward to engaging with as participants, subject to the development of complementary regulatory frameworks and the architecting of requisite compliance-centric, transparency-oriented approaches which have already been taken by major Defi projects.
In which areas do you see the largest potential upside for DOVs?
It would appear that, while somewhere between what we can call infancy and adolescence, DOVs could hypothetically serve as a transitional bridge to more perfected forms of DeFi non linear products. There are ways in which DOVs could, effectively, bootstrap liquidity for an entire surface utilizing something akin to pool2 solutions or on-chain RFQs, though it’s not clear that an options DEX would be optimally constructed in such a fashion. Moreover, appetite for generating incremental static return through the granting of options by vault participants is likely to be a secular element of the crypto ecosystem, and DOVs address this need, particularly given lingering fears about managing CeFi counterparty risk post FTX.
Can you tell us about a structural dislocation you are seeing in the crypto volatility space that is not necessarily present in traditional FX or Equity vol?
Chronic myopia with respect to the liquidity and the distributional realities of the underlying asset that often appear not to be incorporated into pricing and/or risk management decisions by industry players. The frequency with which the kind of 1wk 10 delta options, which DOVs sell, expire near, at or even in the money is a testament to this!
What are the main flows that you are observing in crypto vol market?
A resumption of interest in lower delta upside buyers set against bouts of keen interest to grant near-the-money vol. The time series of vol has had a certain diabolical stochastic evolution that remains both challenging but motivating to trade.
What is your favorite trade in the space at the moment?
In the present environment, we maintain a tactical stance for our own desk position management and advocate a similar approach for our clients. The opposite sides of the same trade can suit multiple parties simultaneously depending on their preferences and risk-tolerance. As a market maker, holding optionality on volatility is a position that fits the needs of the business as we intermediate and facilitate disparate, heterogenous flows. By contrast, spot:vol correlation regimes tend to be less stable as an heuristic observation and greater flexibility may be warranted in holding positions exposed to volatility skew.
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