Digital Options
Digital options, also known as binary or bet options, offer a predetermined risk and reward for the holder. Digital calls and puts are minted as Spear and Shield tokens, respectively.
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Digital options, also known as binary or bet options, offer a predetermined risk and reward for the holder. Digital calls and puts are minted as Spear and Shield tokens, respectively.
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The Game is a win-or-lose battle, where bullas and beras combat with Spears and Shields, for prizes claimable at expiry. -- anon
Divergence v1 offers European-style digital options, each backed by an ERC-20 token collateral. They are exercised at expiry, paying a fixed amount or nothing at all.
Long
Premium
Premium
Short
1 - Premium
1 - Premium
Price ≥ Strike
Gain 1 - Premium
Lose 1 - Premium
Lose Premium
Gain
Premium
Price < Strike
Lose Premium
Gain Premium
Gain 1 - Premium
Lose 1 -
Premium
When using Divergence v1 smart contracts, one can come across:
Each Battle mints Spear and Shield, ERC-20-compliant options tokens of a specific underlying, strike price, collateral, and expiry. A Battle's contract address is not re-used after expiry. A new Battle can be created for the following expiry.
The v1 interface is one of the many ways one may interact with the protocol. The following pages provide concise, step-by-step guides on how to trade digital options:
There's not a one-size-fits-all theoretical price model that works at all times.
Commonly used pricing models typically require discretionary inputs and real-time adjustments. The costs of these adjustments need not be imposed on all participants. Instead, the calculations can be done off-chain by individuals, before a transaction.
Spear and Shield tokens are priced between 0.01 and 0.99 collateral units. Their prices suggest market expectations about the direction of the underlying price.
A crucial underpinning of Divergence v1's design is the price parity of digital options:
In other words, at maturity, the probability of a call being profitable and the probability of a put being profitable add up to 100%. One can expect the payoff for a long or short digital option to be:
Long Digital Call = Short Digital Put
Long Digital Put = Short Digital call
Digital options can be used to replicate the payoff structure of any financial asset. They are useful as a hedge against sudden, large price movements in illiquid underlying assets.
Cash-or-Nothing when pool collateral is a stablecoin;
Asset-or-nothing when the underlying asset is used as collateral;
In some cases, a pool may be funded with a collateral asset that is different from the underlying asset, and in this case, the payout is a correlated or uncorrelated asset.
Standard European call = Asset-or-Nothing call - Cash-or-Nothing call where the cash-or-nothing call payoff equals the strike value
Standard European put = Cash-or-Nothing put - Asset-or Nothing put
where the cash-or-nothing put payoff equals the strike value
Battle an AMM pool for digital options
Arena deployer and admin of Battle
Spear a European digital call option token
Shield a European digital put option token
Simply put, each and every individual user of the protocol decides the price, as they buy and sell tokenized digital options. The protocol does not use a theoretical pricing model to arbitrarily set option prices. The price for an option is simply the amount of collateral paid divided by the number of options received. enables real-time price discovery:
For more theoretical and practical guides to digital options pricing, see the section.
Spears and Shields can be considered as:
Digital options are the basic components of many structured products. One can use a basket of digital options, or combine digital options with other financial products to compose defined risk strategies. They can be a versatile, powerful tool for .
Digital Options are also . As noted in above video explainers, Asset-or-Nothing and Cash-or-Nothing options can replicate vanilla options:
Therefore they also present opportunities to arbitrage or hedge against standard options available in DeFi and beyond.
Digital Call
Premium costs less than 1 collateral
Buyer has the right to claim 1 collateral, if the underlying price settles at or above the strike.
Otherwise, it expires worthless.
Digital Put
Premium costs less than 1 collateral
Buyer has the right to claim 1 collateral, if the underlying price settles below the strike.
Otherwise, it expires worthless.
