How Can Options Be Used to Hedge against the Operational Risks of Smart Contract Failures in Decentralized Finance (DeFi)?

Hedging against smart contract failure with options is an emerging but complex field. One way is through specialized DeFi insurance protocols, which function like put options.

A user pays a premium to buy coverage on a specific smart contract; if that contract is exploited or fails, the protocol pays out a claim to the user. Another theoretical way is to use options on the protocol's native governance token.

A trader could buy put options on the token, speculating that a smart contract failure would cause the token's value to collapse, with the option gains offsetting other losses.