Will Bitcoin Futures Crash Markets Or Capture $10B In Trade?

CME's Duffy noted that his intention was not to control market volatility but to manage the risk by providing a way to short the cryptocurrency.

“I'm not trying to rein in the volatility of Bitcoin. But what I want to do is give it a place for other people to lay out that risk,” Duffy told CNBC in a mid-November interview.

“Today you cannot short Bitcoin. So there's only one way it can go. You either buy it or sell it to somebody else. So you create a two-sided market, I think it's always much more efficient,” he explained.

Short positions are generally considered as a way to balance market forces, enabling investors to bet on gains or declines. To understand shorts, an investor simply “borrows” the asset at a given price and sells it for cash. If the price declines, they repurchase said asset and return it, pocketing the difference. Shorts also allow trading firms to adopt market-neutral strategies, providing the opportunity to finish each trading day even.

Truth be told, Swiss structured products houses Vontobel AG (SIX:VONN) and Leonteq Securities AG actually beat CME to the punch with separate products launched on November 17 that allow investors to profit when Bitcoin tumbles.

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Leonteq’s head of public solutions Manuel Durr told Bloomberg that the initial feedback was “extremely positive. Clients do very much appreciate the possibility of choosing between a long or a short investment in Bitcoin.”

Regardless, Duffy admitted that trading in their new Bitcoin futures will be halted for an hour in the event of a 20% move to the upside or downside—not unlike single-stock circuit breakers or the SEC’s own “limit-up limit-down” mechanism meant to control panic-selling or any type of excessive volatility—and added that investors will have to put up about 30% collateral as protection against losing the bet.

However, Interactive Brokers chairman and founder Thomas Peterffy recently argued that “margining such a product in a reasonable manner is impossible”.

“While the buyer (the long side) of a cryptocurrency futures contract or a call option could be required to put up 100% of the value to ensure safety, determining the margin requirement for the seller (the short seller) is impossible,” he argued in a full page ad in the November 15 edition of the Wall Street Journal which was a blow up of his letter to the Commodity Futures Trading Commission.

“Unless the risk of clearing cryptocurrency is isolated and segregated from other products, a catastrophe in the cryptocurrency market that destabilizes a clearing organization will destabilize the real economy, a critical equity index and commodity markets cleared in the same clearing organization become infected,” he warned.

In a later interview with CNBC, Peterffy insisted that he was “not at all against trading Bitcoin” and that cryptocurrencies were a “great idea”.

“What I am objecting to is linking Bitcoin and other cryptocurrencies by federal regulations to the real economy, which would happen if we were to clear Bitcoin along with other products in the same trading house,” he explained.

Peterffy blamed the huge price swings in Bitcoin for the issue and suggested that the limit on the futures would not allow short sellers to cover their investment. “It could bring down the entire economy,” he speculated.

But William Mallers, Jr. called these conclusions “overblown”. The co-founder of First American Discount Corporation, the third largest discount broker before it was sold in 2001 to Man Financial, argued that CME clearing privilege required a large amount of capital and operations that would be sufficient if a member’s capital level dropped below the threshold required for clearing.

“CME has done its homework on Bitcoin; it's well aware of Bitcoin's volatile price history and has the experience and controls in place to clear Bitcoin futures,” he argued in an opinion piece for CoinDesk.

Whether a fan or a skeptic, the upcoming launch of CME’s Bitcoin futures is another step in the direction of acceptance, following close on the heels of rival CBOE Holdings (NASDAQ:CBOE) which, in August, announced plans to launch their own Bitcoin futures, also by the end of the year.

Key for market makers has been the goal of getting institutional investors involved in the digital assets. Towards that end, Coinbase recently announced its plans to launch a company called Coinbase Custody to help institutional investors securely store digital assets.

“When we speak with these institutions, they tell us that the number one thing preventing them from getting started is the existence of a digital asset custodian that they can trust to store client funds securely,” Coinbase CEO and co-founder Brian Armstrong wrote in the announcement.

“By some estimates there is $10 billion of institutional money waiting on the sidelines to invest in digital currency today,” Armstrong said.

So far, institutional interest in Bitcoin investments seems to be split roughly down the middle. In a survey of 317 institutional traders carried out by Triad Securities and DataTrek Research between November 6 and 13, about 31% admitted to having invested in Bitcoin or other cryptocurrencies, with half having entered in just the last six months, suggesting that this year’s rally has sparked more than a little interest from the professional investment world. However, another 31% said they were opposed to taking their chances with the digital assets. Still, another 36% admitted that they’d considered the option without having dipped their feet in the water, suggesting a significant pool of institutional investors remain on the sidelines.