The options market is signaling an impending change in the market focus – from bitcoin to relatively undervalued ether and other alternative cryptocurrencies.
The spread between the six-month implied volatility (IV) for ether and bitcoin – a measure of the expected relative price volatility between the two – has risen to a record high of 46%. That surpasses the previous peak of 45% seen on Feb. 21, 2020, according to data provider Skew. The three- and six-month spreads have risen to an 11-month high of 32% and 23%, respectively.
The widening of the IV spreads indicates that the market expects ether and other alternative coins to chart bigger percentage moves than bitcoin in the near term.
“Traders are expecting increased volatility for ether relative to bitcoin,” Skew CEO Emmanuel Goh told CoinDesk. “This is consistent with decreasing correlation and a pick-up in interest across alternative cryptocurrencies.”
Implied volatility is the market’s expectation of how risky or volatile an asset would be over a specific period and is driven by net buying pressure for options and historical price volatility. Ether is the second-largest cryptocurrency by market value, and many other so called altcoins are based on Ethereum’s blockchain technology. As such, alternative cryptocurrencies tend to trade in line with ether.
The one-month spread has seen a five-fold increase since Dec. 30, alongside a weakening positive correlation between ether and bitcoin.
The three-month realized correlation has declined from 67% to 56% in the past five days to hit the lowest level since March 2018, according to data source Skew. The trend looks set to continue, as suggested by the widening of the IV spreads.
While rising volatility spread implies scope for relatively bigger percentage moves in altcoins, it does not tell us anything about the direction of the moves.
That said, alternative cryptocurrencies are now looking cheap compared to bitcoin and the market is extremely bullish. So alts could soon be charting bigger percentage gains than the crypto market leader bitcoin, as predicted by analysts earlier this week.
Despite having rallied from $700 to $1,200 this month, ether is still nearly 20% short of its record high of $1,432.88 reached in January 2018. Similarly, litecoin, stellar, chainlink and other prominent coins are yet to set new lifetime highs. At its current price of over $37,000, bitcoin is up over 60% from the previous lifetime high of $19,783 registered three years ago.
Some may argue that implied volatility reflects investors’ expectations of price turbulence and may not turn out to be reflected in the charts going forward. However, historical data shows implied volatility spreads are reliable indicators of upcoming shifts in the market. For example, the ether-bitcoin IV spread nosedived in the second half of September 2020, warning of a big move in bitcoin. The cryptocurrency outperformed most other cryptos by a significant margin in the final quarter of last year with a 168% rally.