Will CME and CBOE Change the Course of Bitcoin Trading?
There has been a lot of media buzz in the investment world around the introduction of bitcoin futures trading. Two of Chicago’s major firms, namely Chicago Mercantile Exchange (CME Group Inc) and Chicago Board Options Exchange (Cboe), have announced plans for bitcoin futures trading on their respective platforms, with the latter already launching its contract on Sunday. While the main fear regarding future bitcoin trading at this point is price manipulation, investors are skeptical about how the whole situation will pan out.
Fear of Price Manipulation
As mentioned earlier, price manipulation is a big threat to the profitability of bitcoin futures trading. According to the Commodity Futures Trading Commission (CFTC), they will only play the role of a derivatives regulator and not actually manipulate the underlying cash contract. Exchanges will continue to play a major part in handling the underlying cash contract, keeping it safe from the dangers of manipulation. Since the underlying cash market of bitcoin is not regulated, the CFTC has also warned investors about this fact.
Figure 1: Hypothesised Daily Trend of Bitcoin Values
The Role of CBOE and CME in Bitcoins Trading
The CBOE and CME both have been competing to become the market of choice in the United States. CBOE has already rolled out its bitcoin futures contracts, which they call XBT futures, with a limited free trading offer for the rest of the month for its customers. The rival CME group, on the other hand, is scheduled to release their version of hitcoin futures Dec. 18.
These announcements played a pivotal role last week, influencing traders and institutional investors to perform bitcoin futures trading in a more recognized and secure market. The price of a single unit of bitcoin was also affected, jumping from a formidable $10,000 to a new record high of close to $20,000. The main reason for this can be attributed to investors who understand that the exchanges will bring liquidity and price stability on an otherwise unstable and volatile cryptocurrency.
Here are just some of the ways bitcoin futures trading will change the course of bitcoin trading significantly.
- Risk: There’s no denying that bitcoin’s past has been marred by volatile spikes and crashes. Some of these price changes have occurred over a very short period, enabling traders to recover their positions within a short period of time. However, with the introduction of CME and CBOE futures trading, the United States markets might prolong the decline through the “domino” effect of selling futures trading. Moreover, a snowballing effect through selling can affect the entire market. The Futures Industry Association has already stressed on the bitcoin volatility issue and has requested for some form of “guarantee fund” to clear settlements to the community.
- Unstable Exchanges: Besides the CME and CBOE, the majority of bitcoin exchanges in the world come from unregulated markets without proper overseeing or supervision. This is problematic for traders since such exchanges form a reference point in price for the asset. Frequent outages in exchanges are a real threat to bitcoin’s price, often resulting in wild price swings. For instance, Coinbase and IG group, two famous bitcoin exchanges stopped trading on a Friday. As a result, bitcoin’s price shot up and subsequently crashed within 20 minutes.
- Increased Volatility: Futures markets work very differently than commodity markets, which draw in a lot of traders as well as speculators. When it comes to bitcoin, the recent Whipsaw in price is unfavorable for the introduction of new traders in the market at this point.
The increase in speculation surrounding bitcoin price will result in even more price volatility if the number of traders is increased. Many people are of the opinion that the recent parabolic price curves will attract traders with added incentives to play with its price.
- Trading Profits: The aspect of trading profits becomes more complicated with the CME’s contract rules. CME’s contracts have price limits which are 20% above or below bitcoin’s reference price. This is done in order to curb unpredictability and regulate volatility. The sole purpose of these price limits is to minimize the adverse impact of the cryptocurrrency’s wild price swings on futures markets.
Economists, however, have stated that this might result in an opposite effect, where the trader’s profits are compromised significantly. This is due to the fact that the reference price of the whole bitcoin market is based on exchanges, which are largely operational in unregulated markets. Such unregulated markets see frequent price swings in excess of 20%. This directly results in futures traders who will no longer benefit from the spike of a greater than 20% increase in bitcoin prices, at the aforementioned exchanges.
Side Effects of Bitcoin Futures Trading on the Market
The bitcoin market is poised to receive institutional money as a result of futures trading. It will also open up various avenues of asset investment, as many funds that are currently prohibited from dealing in bitcoin-like alternative assets will also be able to participate in the trading exercise.
This, however, can be a major problem, as investors won’t actually be pouring their funds into the bitcoin market, but rather acquire synthetic derivates instead. No extra money goes into bitcoin itself, as these futures do not require ownership of actually bitcoins.
The introduction of bitcoin futures trading in two major firms is definitely a blessing as well as a curse. Both exchanges are seeking to exploit bitcoin’s popularity by attracting interest from Wall Street. Institutional investors have also been keen to trade the asset in a more recognized and regulated environment, which have also seen the increase in CME/CBOE shares by at least 9%. Normal traders are also required to pay higher than normal accounts to backstop their bitcoin trades and allow continued funding for their trade positions. However, it still boils down to the trader’s decision and his or her understanding of the movement of the bitcoin markets, which have in the past experienced significant and unpredictable volatility.
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