How Is the Concept of “Collateral” Critical in Decentralized Option Writing?

Collateral is critical because decentralized option writing is non-custodial and trustless. To ensure the option writer can fulfill their obligation if the option is exercised, they must lock up sufficient collateral in a smart contract.

For a covered call, the collateral is the underlying asset itself. For a naked option, the collateral is typically a stablecoin or another asset that covers the maximum potential loss.