With the unprecedented growth in volume and volatility of cryptocurrencies in general and bitcoin in particular— and perhaps more importantly the business media buzz — it was only a matter of time before a prominent exchange player would step to list derivatives on bitcoin.
That time came with the Cboe Global Markets’ (Cboe) August announcement that it was planning to list futures on bitcoin as early the fourth quarter of 2017. While other exchanges have announced plans—and in some cases have received regulatory approval — to launch derivatives on bitcoin (see “The cryptos are creeping towards the exchanges,” MT November 2017), Cboe is the first established exchange player to do so.
“We have seen tremendous growth in the product. We are expecting this to move towards more maturity and that is one of the underlying reasons we are getting into this market,” says Dave Shulz director of business development of global client services at Cboe and the Cboe point person on bitcoin futures. “We feel the market after eight years is looking for transparency and regulation to make this a mature market and consider it as an asset class.”
Cboe, which would list bitcoin futures on the CBOE Futures Exchange (CFE) once approved by the Commodity Futures Trading Commission, has partnered with digital asset exchange Gemini on the venture. CFE’s bitcoin futures will be cash settled based on the mid-point of the contract’s bid ask spread on the daily close. The contracts, which will initially be offered on a monthly cycle, will settle at expiration based on Gemini’s auction price.
“One of the reasons why we use Gemini is they are regulated under the New York Trust Authority and they designed their cash exchange [to be] regulated,” Shulz says.
Cryptocurrencies have a well-earned reputation as being somewhat of a Wild West market with its early proponents desiring to keep it as an uncentralized market, which is why Cboe partnered with an exchange that embraced regulatory oversight. Despite this reputation, Shulz says that bitcoin traders are ready to accept greater oversight and that there is a world of traditional market participants who want in, but only under a more regulated market structure.
“If you look at the early growth in this market, there certainly were [questionable] institutions involved,” Shulz says. “As the market matured, as it has over the years, people have been looking for more regulation and structure to this market. After looking at the notional amount traded in bitcoin, it gave us a perfect reason, as a regulated exchange, to provide transparency and price discovery and step into this market.”
Cboe has reached out to both traditional market participants and the separate world of cryptocurrencies. “We have been working with the retail customers and the [futures commission merchants (FCMs)] that cover those [customers],” Shulz says. “Certainly there are institutional customers. There are asset managers that are looking at this to put in their portfolio because it is uncorrelated with other assets classes. There is movement in the market, it is something new and interesting. The miners and some of the other early adopters that got into this market are very interested.”
He also points out that there is a nexus for these markets in the proprietary trading community. “Many of the prop firms that trade traditional futures are also involved in trading in this market,” he says. “We believe that the traditional participants in the bitcoin cash market will feel more comfortable trading on a futures exchange and be able to get bitcoin exposure under a futures market. “
The recent surge in popularity is a sign that interest in bitcoin and cryptocurrencies has grown beyond the early adopters. For this growth to continue and solidify beyond a temporary fad will require structure. “The recent growth of the bitcoin market and its widespread tangible usage would not be possible without the interest of bitcoin ownership broadening beyond its original base,” Shulz says. “The continued market growth requires growing interest and demand. We are aware that all the institutions would like exposure to bitcoin and other cryptocurrencies in an existing well-known and regulated market structure. It is really that simple.”
The Options Clearing Corporation (OCC)will clear the contract and is still working on margin requirements. Margin will be a tough issue given the lack of a central market and the volatility (see “Volatile market,” above).
It will be based on traditional margin protocols. “You have to look at the cash market just like an OTC product,” Shulz says. “What is the underlying, what is the movement? We have seen tremendous movement. “
“Most cash exchanges [require you] to fully fund bitcoin futures,” Shulz says. “It certainly will be better than what the existing cash markets offer. We will have a margined product just like any other futures. It could be a little higher [than typical futures contracts] based on the comfort of the FCMs and the OCC.”
While Cboe has more experience with options, and other exchanges (LedgerX) are launching options on bitcoin, it decided to launch futures. “For institutions the potential for exchange-traded cash settled bitcoin futures really presents a viable path for their participation in the market,” Shulz says. “[It allows for] potential upside without directly holding bitcoin itself. We would like to establish an underlying futures. For us, the [opportunity for] early adoption and the potential interest is trading in a futures contract.”
The reasons are numerous. Traders currently have to fully fund their purchases and cannot hedge the volatile market or short bitcoin. “At some point you will want to use our futures market to hedge or protect your upside [and] be able to short the futures market,” Shulz says.
Cboe’s agreement with Gemini also allows them exclusive rights to use Gemini market data for the creation of new indexes. Gemini lists other cryptocurrencies so there are additional contracts and indexes that can be listed. But for now Cboe is focusing on getting bitcoin futures up and running.
“Our first goal is to offer cash settled bitcoin futures in the Q4 or early 2018,” Shulz says. “We are working diligently on this to make sure we launch a successful product. Once we have that we will certainly move on to other things.”