Charm is a decentralized options protocol. It's designed in a radically different way and uses a mechanism that can create liquidity more efficiently. This litepaper describes the technical details of how it works.

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Introduction

Options are incredibly useful for hedging risk and taking leveraged positions. Decentralized options on the blockchain have even more benefits such as trustlessness and composability. However, while decentralized spot exchanges like Uniswap have recently exploded in trading volume, decentralized options have yet to take off.

The main challenge is in designing a mechanism that can provide liquidity efficiently. Centralised options can use order books, however these are prohibitively expensive on the blockchain due to gas fees. For decentralized options, alternative mechanisms therefore have to be developed.

Existing decentralized options platforms suffer from drawbacks. Some rely on Uniswap for liquidity - however, it's hard to attract liquidity providers due to impermanent loss which is magnified for options. Others use pricing formulas like Black-Scholes, which means their prices aren't being set freely by the market.

Charm is a decentralized options protocol designed in a fundamentally different way. We came up with a new mechanism that doesn't suffer from these drawbacks so that it can create options markets that are liquid and cheap for users to trade on. Liquid options on the blockchain would be a game-changer, opening up more powerful and flexible ways to manage risk.

Our solution

Our solution consists of two steps:

  1. Take a pair of options whose payoffs sum up to a fixed amount
  2. Use a prediction market AMM to create liquidity for this pair