What Is Basis Risk in the Context of Hedging an Altcoin Derivative with BTC?

Basis risk is the risk that the price of the altcoin derivative and the price of the BTC used as a hedge do not move perfectly in sync. Since the altcoin is not perfectly correlated with BTC, the hedge will be imperfect.

If the altcoin price moves significantly relative to BTC, the market maker can incur a loss on the hedged position. This risk is inherent when using a proxy asset like BTC to hedge an illiquid altcoin position.

It must be priced into the option premium.