Race to launch bitcoin futures stirs anger

“Get Exposure to Bitcoin Price Moves without Holding Bitcoins,” the website of Cboe Global Markets says about the exchange’s new bitcoin futures, which began trading this week.

Why someone would voluntarily seek out bitcoin’s gyrations might not be obvious. When it suddenly fell 10 per cent on Wednesday morning, investors might have felt safer getting exposure to skydiving.

But in an era defined by the absence of volatility, many trading firms are desperate for something that moves — and whatever its intrinsic value, bitcoin moves. Trading on a futures exchange promises all the excitement within the sturdy walls of a regulated venue. Cboe rival CME Group will make its own bitcoin futures full trading debut on Monday.

The question for traders and regulators is whether the futures listings represent the coming of age of cryptocurrencies, the peak of a silly fad or a danger to critical bulwarks of the financial system. The answer will play out in live trading.

Bitcoin has emerged from its 2008 creation into a medium of payment and, more prominently, the object of a speculative frenzy. Its price has gained 1,600 per cent this year, with double-digit percentage daily swings not uncommon.

US futures exchanges date to the 19th century. After decades of experience and occasional scandal, the industry has developed time-worn rules to protect customers from violent price moves and broker defaults.

But in the view of some, bitcoin is uncharted territory. The manner in which the US regulator, the Commodity Futures Trading Commission, greenlighted the new contracts has led to concerns about potential perils ahead.

Among those worried is Thomas Peterffy, chairman of Interactive Brokers. “I started in the futures industry in 1968. I’ve seen many futures brokers go bankrupt and customers losing all their money. So I know how this works,” he says.

As a futures broker, Interactive executes deals for customers and collects margin money to ensure they make good on losing bets. As a member of exchange clearing houses, it is also on the hook if another broker defaults.

When he learnt that the exchanges were pushing ahead with bitcoin futures, Mr Peterffy spoke to Terry Duffy, chief executive of CME, and Christopher Giancarlo, CFTC chairman. Mr Duffy told him “there’s nothing you can do about it”, while Mr Giancarlo said, “Look, my hands are tied”, recalls Mr Peterffy.

CFTC representatives did not respond to requests for confirmation; the CME refused to comment.

Mr Peterffy then wrote a letter to Mr Giancarlo, which he also published in the Wall Street Journal. In it he urged the regulator to require a separate clearing house for bitcoin futures so customer losses do not infect brokers who do not want to be involved.

He was unpersuasive. “I think that people believe that more and more people will be believers in bitcoin. It’s only a matter of belief; it’s practically a religion,” he says.

While Mr Peterffy was pleading, the CFTC was in the middle of back and forth talks with the exchanges over the shape of their proposed futures, people involved in the discussions say. Agency staff first engaged with Cboe in late July and CME in mid-October, Amir Zaidi, director of the division of market oversight, said in a podcast on the CFTC website.

Getting approval for new contracts is usually a routine matter. Not for bitcoin. Regulators spent more time scrutinising the issue. CME initially sought margin collateral of 27 per cent of the value of the contract, according to Brian Bussey, director of the CFTC division of clearing and risk, speaking on the podcast, but “based on discussions with us, they moved it to 35 per cent”.

This week, CME further increased the margin requirement to 43 per cent.

“You can rest assured the CFTC was assertive,” says Chris Concannon, president of Cboe.

The discussions were private. On December 1 the CFTC announced that both Cboe and CME, as well as Cantor Exchange, which is listing bitcoin binary options, had “self-certified” their new derivatives products, meaning they were free to list them within one business day.

That did not sit well with the Futures Industry Association, whose 64 members — including Interactive — are most of the brokers needed to backstop the new contracts. The process did “not align with the potential risks that underlie their trading and should be reviewed”, Walt Lukken, chief executive of FIA, wrote to Mr Giancarlo.

Prompted by their complaints, the CFTC’s Market Risk Advisory Committee plans to meet and discuss bitcoin, novel products and their risks, and the self-certification process, according to CFTC officials. “There have been a lot of questions about the process and transparency,” says one official.

CME and Cboe both had reason to be first to market. Listing futures tends to be a winner-takes-all business because the contracts cannot be transferred between exchanges. Once volumes build up at one exchange, traders have little reason to go elsewhere. After CME announced it would list its bitcoin futures this Sunday night, Cboe stole a march and announced a December 10 launch date.

The first week at Cboe featured volumes of several thousand contracts, tiny compared with the most popular futures but higher than forecast by some.

Exchange executives say they developed the contracts in response to demand. CME, in its regulatory filing to the commission, claimed that bitcoin had “increasingly garnered public acceptance as a store of value”.

Since disclosing its plans to list futures it has “fielded hundreds of calls and emails” from traders including asset managers, trading firms and companies that create exchange traded funds, which could make bitcoin available to investors on stock exchanges.

“We’ve been at this a little over a year,” says Tim McCourt, who manages CME’s bitcoin product. “It’s just that in the last several months there’s been an upwelling of interest and demand from customers. They wanted a futures product on bitcoin on a regulated exchange. We finally reached that point of critical mass.”

Sceptical as he is, even Mr Peterffy’s brokerage is clearing bitcoin futures for about 200 accounts. “We have no good reason to say, ‘No you can’t,’” he says. “They could say, ‘I will find another broker who will do this for me.’ We don’t want to lose these clients.”