Bitcoin Futures Plan Signals New Respect

Bitcoin is moving from the margins of the financial world closer to its center.

CME Group Inc., the world’s biggest exchange group, said Tuesday it aims to launch a futures contract based on bitcoin by the end of the year. The plan, subject to regulatory approval, would be a big step forward in the evolution of the digital currency.

Futures are a way for traders to bet on whether the price of a commodity, such as oil or gold, will rise or fall. Introducing a U.S. futures contract based on bitcoin would enable Wall Street banks and trading firms to protect themselves against price swings in the digital currency. It could also provide retail investors with an easier way to trade bitcoin.

Bitcoin was conceived in 2008 by an anonymous creator known as Satoshi Nakamoto. It is a purely digital currency, or “cryptocurrency” — essentially, strings of ones and zeros flitting around in cyberspace — designed to act as an alternative to government-backed currencies.

Many officials and bankers around the world, including J.P. Morgan Chase Chief Executive James Dimon, have been reluctant to embrace bitcoin. Its reputation has been tarnished by an association with money laundering and other illicit activity, while volatility and uncertainty over its legal status have kept the digital currency trading in the shadows of global markets for years.

CME‘s plan to bring bitcoin to the futures market offers a stamp of approval from a financial giant at a time when the digital currency’s supporters say it is gaining respectability.

“It is a legitimization of bitcoin as an asset class,” said Daniel Masters, chairman of the Global Advisors group of companies, which runs a bitcoin hedge fund and exchange-traded notes linked to digital currencies.

The move is nonetheless risky for CME, which could face embarrassment if the bitcoin market implodes, as some skeptics predict will eventually happen. There is no guarantee that its bitcoin initiative will succeed. Many new futures contracts introduced by exchanges fail to take off.

Still, CME‘s plan sent the price of bitcoin surging. After the exchange’s announcement Tuesday, the digital currency’s price rose above $6,400 for the first time, up more than 4% for the day, according to CoinDesk. It has more than quintupled so far this year.

Listing bitcoin futures on CME or another U.S. exchange would make it easier to trade the digital currency by allowing market participants to bet on whether its price will fall, something that’s currently difficult to do.

Futures allow “long” investors, who think the price of a commodity will rise, to match their bets against “shorts,” who expect a price drop. Introducing bitcoin futures could help smooth out some of bitcoin’s wild price swings, traders say, because it would give bitcoin pessimists more opportunity to express their views in the marketplace.

“When you make the market more even-sided — to make it as easy to short as to go long — I think the biggest effect you get is a decrease in volatility,” said Mr. Masters, of Global Advisors.

The recent price run-up, along with dozens of launches of digital currency-focused hedge funds in the past year, has sparked interest from Wall Street. Goldman Sachs Group Inc. has said it is considering starting a trading operation for bitcoin and other cryptocurrencies.

The value of all bitcoins in existence recently surpassed $100 billion and now stands at $106.9 billion, according to coinmarketcap.com. By comparison, the market capitalization of Goldman Sachs is $93.8 billion.

Other big players remain skeptical. Mr. Dimon said in September that he viewed bitcoin as a “fraud” that “will eventually blow up.” South Korea and China are among the countries that have tightened regulations around digital currencies in recent months.

But most market participants say banks would be more likely to trade or make markets in bitcoin if a futures contract takes off. That’s because shorting bitcoin can help a financial institution insure against a price drop. A cryptocurrency trading desk at a bank could turn to the futures market when it wanted to reduce the risk of its bitcoin holdings.

Futures could also pave the way for retail investors to get more involved in the digital currency, especially after the Securities and Exchange Commission earlier this year rejected efforts to launch the first exchange-traded fund based on bitcoin.

Trading the virtual currency can currently be logistically tricky. Since U.S. brokerages generally don’t offer a way to trade digital currency, people who want to buy or sell it need to set up accounts directly with a bitcoin exchange. There are dozens of such exchanges around the world, many of them small and lightly regulated.

But if a major U.S. exchange launches futures tied to bitcoin, investing in the digital currency would become similar to trading commodities, with investors able to use popular retail brokerages.

Bitcoin futures could also become the basis for an ETF linked to the digital currency, in much the same way that the United States Oil Fund, the world’s largest crude oil ETF, is built out of oil futures rather than physical barrels of oil.

CME traces its history back to 1848, when the first futures markets formed in Chicago to allow farmers and grain buyers a way to trade agricultural commodities. It now runs a huge array of markets, from oil and gas futures to financial contracts tied to interest rates.

Tuesday’s announcement sets off a horse race between CME and its smaller crosstown rival, Cboe Global Markets Inc., to see which exchange operator can launch bitcoin futures first. Cboe said in August it was planning to launch bitcoin futures by the end of 2017 or early 2018, pending regulatory approvals. A Cboe spokeswoman declined to comment.

Both CME and Cboe are regulated by the Commodity Futures Trading Commission, which would need to sign off on the launch of any bitcoin futures contract.

The CFTC has lately been friendlier to bitcoin than the SEC. In July, the CFTC granted a startup called LedgerX approval to clear bitcoin options, making it the first U.S. federally regulated platform of its kind.

Source: wsj.com

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