ZmnSCPxj [ARCHIVE] on Nostr: 📅 Original date posted:2019-01-03 📝 Original message: Good morning Lawrence, ...
📅 Original date posted:2019-01-03
📝 Original message:
Good morning Lawrence,
While true, on Lightning, interest earnings are ***tiny*** enough that the premium "paid" in this manner is minimal.
Increase in alternative interest earnings for Bitcoin on non-Lightning alternatives would also cut down the available liquidity on Lightning and increase Lightning fees.
Further, the current nature of cryptocurrency assets is highly speculative and large swings in exchange rates in short time frames are typical.
Thus the premium paid is minimal compared to the upside of the speculative call option.
Finally, the massive problem here is that the exchange, which enables cross-asset swap, is itself obligated to lock the asset to be called in the contract.
In particular, the "premium" is ***not paid*** to the exchange node; instead, the "premium", such as it is, is split between both the exchange and the user of the American Call Option, and is paid as a temporary decrease in the supply of both assets to the rest of the economy.
The galling part is that it violates the principle of "initiator pays", since the exchange, which passively advertises its service, does not initiate the creation of the American Call Option yet is forced to pay for its existence by locking its own assets.
Given this, the logical consequence is that on-Lightning exchanges will increase, probably greatly, their bid/ask spreads on Lightning compared to custodial exchanges, increasing market friction on cross-asset payments on Lightning.
This means that rational payees may find it more lucrative to accept the more popular asset, identify a "trustworthy" custodial exchange, and use the lower bid/ask spread on such a trust-based exchange to get more of their desired target asset compared to being paid on Lightning.
The end result is the Lightning network primarily settling on the most popular of the assets, i.e. Bitcoin.
Regards,
ZmnSCPxj
Sent with ProtonMail Secure Email.
‐‐‐‐‐‐‐ Original Message ‐‐‐‐‐‐‐
On Thursday, January 3, 2019 8:07 PM, Lawrence Deacon <lawrence at commerceblock.com> wrote:
> Do cross-asset lightning nodes do not offer premium-free American call options?
>
> =============================================================
>
> I would argue that cross-asset lightning nodes do not offer premium-free American call options for the following reasons.
>
> Say I wanted to set up to purchase 1 WJT for P bitcoins at time t < T where t is the time I close the contract and T is the expiry time.
>
> In order to set up the contract I must pay P bitcoins to the contract, incurring an opportunity cost of x_i1. Assuming we set up the contract at time t_0=0, this will be equivalent to the money I could have earned by loaning the currency at interest during the period t.
>
> I must also pay the issuer of the contract a premium x_p (in the case where I am both recipient and issuer, see further down).
>
> If S(t) is the spot price at time t and K = S(t) - P then the payoff for me is as follows:
>
> S(t) > P: K - x_p - x_i1
> S(t) < P: -x_i1 - x_p
>
> If x_i2 is the opportunity cost of paying 1 WJT to the contract for time t then the payoff for the other party (issuer) is as follows:
>
> S(t) > P: -K + x_p - x_i2
> S(t) < P: x_p - x_i2
>
> If x_p = 0 then the issuer is guaranteed a loss. Therefore no rational contract issuer will issue an American call option for free.
>
> In the case where I am both recipient and issuer of the contract, to get the payoff we add the above payoffs:
>
> S(t) > P: -x_i1 - x_i2
> S(t) < P: -x_i1 - x_i2
>
> This is a guaranteed loss.
>
> Conclusion
> ========
> Lightning nodes do not offer premium-free American call options because whether or not the contract and issuer are the same person, setting up a premium free American call option using a HTLC guarantees a loss for one or both parties. Even if the opportunity costs were 0, then setting up a contract with myself would have a guaranteed 0 payoff.
📝 Original message:
Good morning Lawrence,
While true, on Lightning, interest earnings are ***tiny*** enough that the premium "paid" in this manner is minimal.
Increase in alternative interest earnings for Bitcoin on non-Lightning alternatives would also cut down the available liquidity on Lightning and increase Lightning fees.
Further, the current nature of cryptocurrency assets is highly speculative and large swings in exchange rates in short time frames are typical.
Thus the premium paid is minimal compared to the upside of the speculative call option.
Finally, the massive problem here is that the exchange, which enables cross-asset swap, is itself obligated to lock the asset to be called in the contract.
In particular, the "premium" is ***not paid*** to the exchange node; instead, the "premium", such as it is, is split between both the exchange and the user of the American Call Option, and is paid as a temporary decrease in the supply of both assets to the rest of the economy.
The galling part is that it violates the principle of "initiator pays", since the exchange, which passively advertises its service, does not initiate the creation of the American Call Option yet is forced to pay for its existence by locking its own assets.
Given this, the logical consequence is that on-Lightning exchanges will increase, probably greatly, their bid/ask spreads on Lightning compared to custodial exchanges, increasing market friction on cross-asset payments on Lightning.
This means that rational payees may find it more lucrative to accept the more popular asset, identify a "trustworthy" custodial exchange, and use the lower bid/ask spread on such a trust-based exchange to get more of their desired target asset compared to being paid on Lightning.
The end result is the Lightning network primarily settling on the most popular of the assets, i.e. Bitcoin.
Regards,
ZmnSCPxj
Sent with ProtonMail Secure Email.
‐‐‐‐‐‐‐ Original Message ‐‐‐‐‐‐‐
On Thursday, January 3, 2019 8:07 PM, Lawrence Deacon <lawrence at commerceblock.com> wrote:
> Do cross-asset lightning nodes do not offer premium-free American call options?
>
> =============================================================
>
> I would argue that cross-asset lightning nodes do not offer premium-free American call options for the following reasons.
>
> Say I wanted to set up to purchase 1 WJT for P bitcoins at time t < T where t is the time I close the contract and T is the expiry time.
>
> In order to set up the contract I must pay P bitcoins to the contract, incurring an opportunity cost of x_i1. Assuming we set up the contract at time t_0=0, this will be equivalent to the money I could have earned by loaning the currency at interest during the period t.
>
> I must also pay the issuer of the contract a premium x_p (in the case where I am both recipient and issuer, see further down).
>
> If S(t) is the spot price at time t and K = S(t) - P then the payoff for me is as follows:
>
> S(t) > P: K - x_p - x_i1
> S(t) < P: -x_i1 - x_p
>
> If x_i2 is the opportunity cost of paying 1 WJT to the contract for time t then the payoff for the other party (issuer) is as follows:
>
> S(t) > P: -K + x_p - x_i2
> S(t) < P: x_p - x_i2
>
> If x_p = 0 then the issuer is guaranteed a loss. Therefore no rational contract issuer will issue an American call option for free.
>
> In the case where I am both recipient and issuer of the contract, to get the payoff we add the above payoffs:
>
> S(t) > P: -x_i1 - x_i2
> S(t) < P: -x_i1 - x_i2
>
> This is a guaranteed loss.
>
> Conclusion
> ========
> Lightning nodes do not offer premium-free American call options because whether or not the contract and issuer are the same person, setting up a premium free American call option using a HTLC guarantees a loss for one or both parties. Even if the opportunity costs were 0, then setting up a contract with myself would have a guaranteed 0 payoff.