Institutional Portfolio Netting

Portfolio netting is an opt-in collateral program for options trading available for LedgerX institutional accounts. Netting increases collateral efficiency by netting risk exposures by netting options contracts of the same type and tenor. This enables investors to hold long and short options positions at LedgerX and only lock the maximum potential loss from offsetting positions. 

Overview 

The LedgerX Platform will conduct collateral checks prior to the execution and entry of each Order. By default, each Order is individually collateralized without respect to a Participant’s overall position.

LedgerX provides an optional netting program (the “Netting Program”) for its Participants. The Netting Program increases collateral efficiency by netting risk exposures and allowing Participants to fully collateralize subsets of their portfolios, rather than fully collateralizing each individual position. However, it also exposes Participants to the risk of loss as the result of forced position exercise.
For a Participant that opts into the Netting Program, the Platform will net short call and put risk against long positions of the same type and term. Any such Participant will be required to post collateral that covers the Maximum Potential Loss among those netted risks.

The Netting Program enables a Participant to hold short positions at LedgerX without locking the required deliverable. At expiration, however, such Participant may be required to deliver on the short positions using USD or bitcoin derived from the forced exercise of the long positions.

Participants must post the full premium at trade time for all contracts purchased, regardless of the collateral regime.

Forced Exercise Risk and Mechanics

In the event of an assignment on a short position, LedgerX will first check to see if the Participant has sufficient available collateral to deliver to the long holder. If the Participant has the available collateral, that collateral will be used to satisfy the short obligation.

If the Participant does not have sufficient available collateral, LedgerX will force the exercise of the Participant’s offsetting long positions until the Participant has received sufficient bitcoin, in the case of calls, or USD, in the case of puts, to satisfy the Participant’s delivery obligation. There is no netting across terms, so any required forced exercise will take place with respect to options in the same term in which the assignment occurred.

LedgerX’s forced exercise process seeks to minimize the overall costs to the Participant whose exercise is being forced. In the case of call options, LedgerX will force the exercise of the lowest strike long call position first. In the case of put options, LedgerX will exercise the highest strike long put position first.

While the methodology for forced exercise minimizes costs to the Participant, the Participant may still incur a loss depending on which strikes are long and which are short. For example, if a Participant is short a lower strike call option and long a higher strike call option, the forced exercise process may result in the Participant buying bitcoin at a higher strike in order to satisfy delivery at a lower strike. Similarly, if a Participant is short a higher strike put option and long a lower strike put option, the forced exercise process may result in selling bitcoin at a lower strike in order to receive sufficient funds to purchase at a higher strike.

A given forced exercise may result in an unexpected assignment to another Participant. For example, an out-of-the-money call option may be force exercised in order to satisfy delivery for an in-the-money call option. If the unexpected assignment is to another Participant who has opted into the Netting Program and that Participant does not have sufficient available collateral to satisfy delivery, it will trigger a force exercise for that Participant. That force exercise and assignment may trigger continued force exercises until ultimate delivery has been met. Any of those force exercises may result in negative “PNL” to the Participant who is being force exercised, depending on the strike price of the exercise and the strike price of the assignment.

If a force exercised position is assigned to a Participant who has not opted into the Netting Program, that Participant will satisfy delivery with the full collateral that was being held against the position. That Participant may benefit from an assignment on an out-of-the-money position, but a Participant who has not opted into the Netting Program will never lose money due to the force exercise process.
For a given exercise of a long position, whether a forced exercise or a regular exercise, the assigned Participant is chosen at random from the pool of short positions.

How to see Negotiated Trades
Negotiated trades are broadcast through the API and displayed on the WTI trade blotter in the same way as any other limit order trade, with the order type indicating that the trade was negotiated.
Risk Monitoring
Each Participant that opts into the Netting Program will be responsible for monitoring its own risk of forced exercise. A Participant can view their “Maximum Potential Loss” for each term on the Risk view of the Web Trading Interface.

Examples of Portfolio Netting

Long Call Spread

Long 1x $10,000 call, Short 1x $12,500 call

Maximum Potential Loss: 0

Collateral requirements: A Participant will not need to have any collateral against this position.

Settlement: At expiration, if the Participant is assigned on the $12,500 call, they will need to deliver BTC. If the Participant has not exercised the $10,000 call, and the Participant does not have available BTC, then LedgerX will force exercise the $10,000 call in order for the Participant to deliver on the $12,500 call.

Short Call Spread

Short 1x $10,000 call, Long 1x $12,500 call

Maximum Potential Loss: $2,500

Collateral requirements: A Participant will need to post $2,500 to collateralize this position.

Settlement: At expiration, if the Participant is assigned on the $10,000 call, they will need to deliver BTC. If the Participant has BTC, that BTC will be used to satisfy delivery. If the Participant does not have BTC, then LedgerX will force exercise the $12,500 call in order for the Participant to deliver on the $10,000 call. This could result in a potential $2,500 PNL loss to the Participant.

Long Put Spread

Long 1x $12,500 put, Short 1x $10,000 put

Maximum Potential Loss: 0

Collateral requirements: A Participant will not need to have any collateral against this position.

Settlement: At expiration, if the Participant is assigned on the $10,000 put, they will need USD to purchase BTC. If the Participant has not exercised the $12,500 put, and the Participant does not have available USD, then LedgerX will force exercise the $12,500 put in order for the Participant to deliver on the $10,000 put.

Short Put Spread
Short 1x $12,500 put, Long 1x $10,000 put

Maximum Potential Loss: $2,500

Collateral requirements: A Participant will need to post $2,500 to collateralize this position.

Settlement: At expiration, if the Participant is assigned on the $12,500 put, they will need USD to purchase BTC. If the Participant does not have available USD, then LedgerX will force exercise the $10,000 put in order for the Participant to deliver on the $12,500 put. This could result in a potential $2,500 PNL loss to the Participant.

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