A decentralized finance (DeFi) mechanism that enables users to generate yield by programmatically writing and selling call options on their held cryptocurrency assets. The protocol ensures that the underlying assets are locked as collateral, hence “covered,” providing an immediate premium to the seller.
Mechanism
A covered call protocol operates via smart contracts on a blockchain. A user deposits a specific cryptocurrency asset into the protocol’s vault, which then automatically mints and sells call options against these assets at a predetermined strike price and expiry. If the option expires out-of-the-money, the seller retains the premium and their collateral. If in-the-money, the collateral is automatically exercised and transferred to the option buyer. This process is fully automated and transparent on the ledger.
Methodology
The strategic implementation of a covered call protocol aims to generate income from existing asset holdings, particularly in neutral or moderately bullish market conditions. The methodology involves selecting appropriate strike prices and expiry dates based on volatility forecasts and risk tolerance. It seeks to balance premium income against the opportunity cost of potential upside gains from the underlying asset’s price appreciation beyond the strike price, systematically managing the risk-reward profile through smart contract execution.
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