Bitcoin Futures Trading Isn't Blowing Up — Yet


Traders trade bitcoin contracts at the CBOE Global Markets Exchange on Dec. 19, 2017 in Chicago. The exchange was the first in the U.S. to begin trading bitcoin futures. Scott Olson/Getty Images

In a surprising move in November 2017, the U.S. Commodities Futures Trading Commission (CFTC) gave its blessing for bitcoin futures to be traded on two major U.S.-based exchanges: the Chicago Mercantile Exchange (CME) and the CBOE Global Markets Exchange. And just a few short weeks later, on Dec. 11, bitcoin futures trading opened for business, with investors making bets on the future price of the controversial cryptocurrency alongside conventional commodities like oil, corn and pork bellies.

With bitcoin prices surging more than 16-fold over the past year, and many more investors scrambling to get in on the action, many market watchers expected that the debut of bitcoin futures would generate the same heat.

That's because bitcoin futures are attractive investments. For starters, they allow investors to buy and sell on a regulated, secure exchange with transparent prices and strong track records. That certainly isn't the case with buying and selling bitcoin directly via unregulated online exchanges, some of which have been hacked or gone under overnight. Poof, there goes your bitcoin.

"I've never heard of a futures contract being lost or disappearing. I've heard of people losing money — that's a different matter — but I've never heard of one just vanishing," says Simon Constable, author of "The WSJ Guide to the 50 Economic Indicators that Really Matter." "And that's the big problem with bitcoin, that sometimes the bitcoins just vanish. That will not happen in a futures market."

Second, bitcoin futures give bitcoin owners a way of hedging their bets on the volatile cryptocurrency, which can swerve 30 percent up or down in a single day. With futures, you can "short" the underlying commodity, meaning that you'll make money if the price of bitcoin goes down over a week or month or more, depending on the length of the contract. That provides an insurance policy for people holding lots of bitcoin, like bitcoin miners.

"Up until now, they had no way of protecting themselves on the downside other than buying a different cryptocurrency or going into cash," says Brian Whelan, director of ETF and futures trading at Baycrest Partners in New York.

But despite the many upsides of Bitcoin futures, trading so far has been "meh."

A computer screen at the CBOE Global Markets Exchange shows bitcoin futures prices and trades on Dec. 19, 2017.
Scott Olson/Getty Images

Two weeks after opening, trading volume on the CME lists only 1,001 open contracts at the time of writing, while the CBOE Global Markets Exchange, which opened a week earlier, shows 2,177 open futures contracts. (Each CME contract is for five bitcoin, worth approximately $75,000 to $80,000. Each CBOE contract is worth one bitcoin, currently somewhere around $16,000 or less). Compare that to the trading volume of Bitcoin itself, which has spiked to more than $10 billion a day on occasion.

If you step back, though, it makes sense that the Bitcoin futures market would start slow. For one thing, it all happened so quickly, with trading opening just weeks after the CFTC announcement. Institutional investors like banks and hedge funds need more time to set up internal processes and permissions for trading in a new commodity.

"You always see relatively low volume when you start a futures trading operation. That's normal," says Constable, "When a contract is up and running, you have massively more volume than what's underlying the contract. For instance, the oil market. But it takes a while to get there. It doesn't happen overnight."

Whelan says that bitcoin mining operations, which are the most obvious audience for bitcoin futures, are still "getting their ducks in a row" in terms of finding brokers and clearinghouses willing to trade this new asset in larger volumes. Plus, some big banks have sworn off anything with the word bitcoin attached to it, wary of the instability of the peer-to-peer digital currency. Both JPMorgan and Merrill Lynch have banned their brokers from trading bitcoin futures.

But what about individual investors and day traders? Presumably the same advantages of bitcoin futures — regulated exchanges and hedging bets — apply to the small guy, too. So why aren't people buying up bitcoin contracts in droves? The problem is that the cost of entry into the futures market is a lot higher than with the stock market, both in financial knowledge and cold, hard cash.

Futures trading is a form of derivatives trading, says Constable, and that can be a little intimidating for your average day trader.

"Imagine we put you in the ring with Mike Tyson. It's not really fair," says Constable. "You're up against professional investors in a way that you can get slaughtered."

Plus, the margins on Bitcoin futures are steep, several times higher than buying copper or coal futures. The CBOE requires 44 percent down when buying one of its contracts, which represent five bitcoin each. At today's price, five bitcoin equals roughly $75,000, so a bitcoin futures contract would start at $33,000. And that margin goes up to as high as 80 percent at E-Trade, one of only a handful of brokers who will work with individual investors at this early stage.

But the slow start doesn't mean that bitcoin futures aren't the beginning of something really big. Prior to the launch of bitcoin futures, large institutional investors like banks and hedge funds were barred from playing the bitcoin betting game. That's because bitcoin itself is an unregulated commodity. Bitcoin futures, however, allow these big-pocketed investors to keep their hands clean by not touching the commodity itself, but rather a tightly regulated contract that's one step away.

Whelan thinks that within the year we'll be seeing the launch of more bitcoin investment vehicles, starting with ETFs (exchange traded funds) that track the performance of bitcoin futures, similar to ETFs that track the performance of the S&P 500 or other market indices. Again, those bitcoin ETFs will be betting on the price movement of bitcoin futures, not bitcoin itself. They will be a derivative of a derivative — exactly what Wall Street likes (please see the 2008 market bubble and crash).



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