Galen Moore is a member of the CoinDesk Research team. The opinions expressed in this article are those of the author himself.
The following article was originally published in Institutional Crypto by CoinDesk, a weekly newsletter that focuses on institutional investments in crypto-assets. Register here for free.
It's a busy time for bitcoin derivatives – or at least for those writing about it. For those who trade with them, it can be a normal business.
The Chicago Mercantile Exchange (CME) announced on Friday to offer options on its bitcoin futures contract. It is a surprising step as the previous option volume is rounded to zero as a percentage of the reported volume in futures and swaps.
Even so, no one in cryptography has had such a reliable counterparty to options like CME.
The announcement gives CME the opportunity to offer options without having to rebuild much. Why should it CME's bitcoin futures market represents a tiny percentage of its total volume.
Nonetheless, CME may be somewhat concerned about its leadership position in the regulated crypto derivative markets, and this week Bakkt has a regulated Bitcoin futures contract The Chicago Stock Exchange will be more Bitcoin-settled than cash-based.
After all, other people in Chicago who trade a lot of Bitcoin seem to consider physically settled futures important. Perhaps CME's announcement allows it to steal a bit from Bakkt's thunder.
Speaking of Bakkt, whose monthly and daily contracts were launched on Monday, October 2019. The first day volume in the monthly contract was only 71 BTC. This is rather worrying compared to the launch of the CME product in December 2017, which is not necessarily apples to apples, as CME futures were introduced near Bitcoin's all-time highs.
Bakkt's one-day futures contract is the more interesting product of the two. It could be anything from a CFTC-regulated first pass to a duplicate of the popular BitMEX perpetual swap when traders use their T + 2 payroll to create a forward curve and roll the contracts further.
t. The volume in Bakkt's one-day futures was 2 BTC on Monday.
The first regulated Bitcoin futures came in December 2017, just before the price of Bitcoin began a long decline of 83 percent from its all-time high. But with a volume of less than $ 100 million, it's hard to argue that futures trading has brought the markets to their senses. Instead, the slow demand for the new product is more likely to pierce the myth of pent-up institutional demand for bitcoin exposure behind the insistence of compliance departments on a regulated product.
This myth is alive and well among crypto-analysts focused on retail, as the search for "Bakkt Volume Fail" will show. If you were in 2017, you did not need a time travel on Monday to know just how short Bitcoin is: you've seen this movie before. Even the least sober among us realized in 2019 the obvious that the interest of institutional investors in Bitcoin is slowly evolving, if it develops at all.
For institutional investors, derivatives provide easy-to-understand solutions to operational barriers to safekeeping, investability and risk. (Regulated Bitcoin futures are structured the same way as futures in, for example, frozen orange juice concentrate.)
However, the lion's share of the volume is now attributable to unregulated exchanges that do not function as clearing houses and provide leverage of up to 100X.
These products might not be interesting for a regulated asset manager, but they are interesting.
Despite persistent doubts about the reliability of their reported volumes (notably OKEx and Huobi), Bitcoin traders are well aware of their liquidity in the largest over-the-counter (OTC) traders. Their hedging strategies are based on this liquidity.
Apart from that, the volume of these leveraged trades is probably just crypto-hedge funds. Bitcoin futures are structured similar to orange juice concentrate futures, but everyone knows that orange juice concentrate, when blended with more volatile things, can become highly flammable. There are important characteristics that differentiate Bitcoin from other asset classes, and these characteristics of the underlying are considered by institutional investors in the valuation of Bitcoin derivatives.
For example, there may not be any natural hedges on a Bitcoin futures market. If you do not believe that, compare the global operating expenses for gold mining companies with those for Bitcoin miners. This is not Kansas.
Road to the Future
Derivatives may be goldstones that pave the way for institutional investment in Bitcoin, but it's a long way to the Emerald City. Currently, the volume of CME futures is also a good indicator of the progress of investors on this path.
You may have seen graphs showing the increase in CME volume in May. This increase coincided with a doubling of the Bitcoin price. Measured by Bitcoin, the volume of CME futures rose sharply in July and is now trading at a moderate rate above the level of the first quarter.
No less than four other startups are preparing new derivatives deals for the US over institutional and other regulated markets. All focus on the physical settlement.
It remains to be seen whether physical delivery is a feature that forces market participation. For derivatives based on other asset classes, this is not always very important.
One thing seems certain: no new financial instrument could "unlock" institutional demand, as most institutions are just beginning to answer the question of why they would invest bitcoin in the first place.
(Thanks to the team at www.sk3w.co for their data and submissions.)
This analysis is based on an upcoming whitepaper on the status of Crypto Asset Derivatives. For more information, visit coindesk.com/intro-to-crypto-investment later this week.[19659002[Bitcoin-overShutterstock