A futures market offers traders the ability to bet on whether the price of an asset, such as precious metals, commodities, or stocks, will go up or down in the future. Specifically, a futures contract is an agreement to buy or sell an asset for a predetermined price at a precise time in the future. If the price of the asset goes up during the lifespan of a futures contract then the trader makes a profit. This is because the trader gets to buy the asset at a lower price than the asset’s true value when the futures contract expires.
Also, futures markets can be used for hedging risk. For example, if a business uses gasoline to power its fleet of trucks, and a price rise is expected, then that business can buy a gasoline futures contract. Rising gas prices make it more expensive to operate the fleet of trucks, but this expense is negated by profits earned from the futures contract. Thus, trading futures contracts can lessen the blow of adverse price movements when operating a business.
CME and CBOE Cash-Backed Bitcoin Futures Have Hurt the Bitcoin Market
The first official Bitcoin futures market in the United States launched in early December 2017 on the Chicago Board Options Exchange (CBOE), and the Chicago Mercantile Exchange (CME) launched the 2nd Bitcoin futures market shortly afterward on 17 December. The CBOE Bitcoin futures market has actually closed down due to lack of trading activity, likely due to the CME Bitcoin futures becoming extremely popular and overshadowing CBOE. For example, when CBOE announced the closure of their Bitcoin futures in March 2019, CME was seeing USD 90 million of trading volume per day with CBOE only having USD 8 million of volume. In May, CME saw daily Bitcoin futures trading volume in excess of USD 500 million.
CME Bitcoin futures is one of the top choices for institutional traders that want to buy and sell Bitcoin. This is because CME Bitcoin futures are officially regulated, can handle high volumes, and there’s no risk of Bitcoin being stolen because the futures are backed by cash, with no actual bitcoins involved.
Therefore, CME Bitcoin futures provide a conduit for institutional investors with deep pockets to get involved in the cryptocurrency market. However, institutional demand flowing into the CME Bitcoin futures market does not increase demand in the Bitcoin spot markets, since CME Bitcoin futures do not use actual bitcoins. Instead, the CME Bitcoin futures are actually diverting demand away from the Bitcoin spot market, as well as inflating the Bitcoin supply since the futures contracts are essentially equivalent to paper bitcoins.
Although the diversion of demand away from spot markets and the printing of paper bitcoins already theoretically cause Bitcoin’s price to be lower than it would be if the CME Bitcoin futures did not exist, the worst thing is that CME introduces massive short-selling pressure into the Bitcoin market. The Federal Reserve posted a statement indicating that the 2018 bear market was likely initiated by the launch of the CME Bitcoin futures, and it is apparently quite common for an asset to crash in price when a futures market is launched for the first time. Indeed, the day of the CME Bitcoin futures launch, 17 December 2017, was the same day that Bitcoin hit its all-time high and began to crash.
The reason it is possible to short on a futures market is that traders can buy Bitcoin futures contracts with funds from a margin loan, and then sell the Bitcoin futures contracts immediately. If Bitcoin’s price declines during the contract period, then the traders can buy back the Bitcoin futures contract at a lower price when the contract expires, leaving behind a tidy profit in their account.
Essentially, it was just about impossible for institutional investors to short Bitcoin before the CME and CBOE Bitcoin futures launched, and institutional investors generally only had the option to buy and sell spot Bitcoin. The CME and CBOE Bitcoin futures gave institutional investors the capability to truly short Bitcoin for the first time.
Aside from helping to precipitate the 2018 bear market, the CME Bitcoin futures influence the Bitcoin market on a month to month basis. An analysis shows that the price of Bitcoin often pivots, i.e. reverses its trend, when the monthly CME Bitcoin futures expiration occurs. This may represent CME Bitcoin futures traders collectively deciding to go short or long at the beginning of a new monthly contract period.
For example, in late June 2019, as Bitcoin recorded a new 2019 high of USD 13,800, CME Bitcoin futures traders began to collectively open short positions for July. Interestingly, institutional traders were mostly going short, while small traders were going long and expecting the Bitcoin rally to continue. Ultimately the institutional traders on CME ended up being correct, with Bitcoin declining as low as USD 9,000 during July.
Therefore, it is important for Bitcoin traders to be aware of CME Bitcoin futures expiration dates since it might herald a change in the market trend.
Bakkt Physical Bitcoin Futures, Will They Ever Launch?
While CME Bitcoin futures are cash-backed and seem to have an overall negative influence on the Bitcoin market, it is possible that one day physical Bitcoin futures will launch on Bakkt. Physical Bitcoin futures would provide a safe and efficient conduit for institutional traders to get involved in the Bitcoin market, while simultaneously increasing spot Bitcoin demand since for each futures contract purchased on Bakkt there are actual bitcoins backing it.
The launch of Bakkt physical Bitcoin futures has been delayed several times since 2018 due to regulatory concerns. Specifically, the Commodities Futures Trading Commission (CFTC) has delayed Bakkt because it wants to custody the Bitcoin on behalf of its customers, while generally, futures markets in the United States use a 3rd party qualified custodian.
As of late July, Bakkt has begun testing their physical Bitcoin futures, but there is no official launch date, which is unfortunate considering that the Bakkt physical Bitcoin futures would likely have a positive impact on the market.
NASDAQ Bitcoin Futures, More of the Same?
In 2018 NASDAQ, which is one of the biggest stock exchanges in the United States, announced that they would launch Bitcoin futures in the first half of 2019. Just like with Bakkt, NASDAQ seems to have missed its target launch date due to CFTC regulatory concerns.
BREAKING: BTC is now being traded on the Nasdaq! I bought one BTC through my TDAmeritrade account! According to the chart it started trading April 10, 2019!! Other digital assets are soon to follow!! ??? pic.twitter.com/1VgE1Whoa4
— David Vallieres (@vallieres_david) April 22, 2019
In April there was speculation that NASDAQ had begun testing a Bitcoin-based product under the symbol CXERX. It is unknown if this was the Bitcoin futures product or something else since NASDAQ did not disclose any details about it.
As of now there is no publicly disclosed launch date for NASDAQ Bitcoin futures. More importantly, it seems that the NASDAQ Bitcoin futures will be backed by cash like CME. Although NASDAQ Bitcoin futures would provide a conduit for institutional traders to enter the Bitcoin market, this could end up adding to the negative effects of the CME Bitcoin futures.
In summary, Bitcoin futures like those on CME offer institutional investors an easy way to enter the Bitcoin market, which has caused the CME Bitcoin futures to become quite popular. NASDAQ wants to get in on the action and launch their own Bitcoin futures markets. Unfortunately, it seems the cash-backed nature of CME Bitcoin futures has damaged the Bitcoin market via diverting demand away from the spot market, introducing massive short selling pressure, and printing paper bitcoins. If NASDAQ Bitcoin futures do eventually launch it could be more of the same. It seems the greatest hope for the Bitcoin market is Bakkt physical Bitcoin futures since they would provide a conduit for institutional investors to increase spot market demand. Unfortunately, regulators are making it difficult for Bakkt’s physical Bitcoin futures, and there is no sign that they will launch anytime soon. Perhaps Bakkt will eventually launch and help negate some of the damage caused by the CME Bitcoin futures.
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