Until one or two years ago, cryptocurrencies used to be a divisive topic in the world of traditional finance and institutional investment. While some heralded it as the future of money, others found it difficult to invest in due to the absence of regulation, respectable custodians, and other infrastructure. However, this debate mostly came to an end with the introduction of the first Bitcoin futures contracts by CME Group and Cboe Global Markets in late 2017.
Per Investopedia, futures are financial contracts that represent an investor’s agreement to buy or sell an asset at a predetermined future date and price. When a futures contract expires, the asset must be bought or sold at the agreed upon price, regardless of the prevailing market rate. Since this process essentially involves betting on the future price direction of the asset, futures are an extremely lucrative and profitable financial derivative product.
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When Bitcoin futures were first announced, many long-time cryptocurrency watchers finally got the opportunity to enter the ecosystem in a safe and regulated manner. Over time, a variety of institutions, including hedge funds, endowments, and pension funds, began recognizing the merits of the crypto market.
Understanding the Impact of Bitcoin Futures
Months after the first contract was announced, the valuation and popularity of the rest of the crypto market skyrocketed. At one point in December 2017, one Bitcoin was worth over $19,000, and the market had a cumulative market cap of over $700 billion. Trading volumes reached an all-time high as well, with CoinMarketCap recording around $50 billion worth of crypto trades each day.
In the following months, and throughout 2018, institutions began to acknowledge crypto as a legitimate asset class. According to Morgan Creek Capital Management’s Mark Yusko, the stagnant crypto market in 2018 encouraged investment from institutional investors “without the challenges of buying, storing, and safekeeping digital assets.”
Coinbase CEO Brian Armstrong, also pointed out that institutional interest in the cryptocurrency market has been on the rise. In August 2019, he tweeted, “Whether institutions were going to adopt crypto or not was an open question about 12 months ago. I think it’s safe to say we now know the answer. We see $200–400M a week in new crypto deposits come in from institutional customers.”
Why Are Bitcoin Futures Such a Big Deal?
Before the introduction of the first Bitcoin futures, investing in the cryptocurrency meant that you had to buy units of the asset from another person or entity such as a cryptocurrency exchange. While this was an acceptable and even profitable solution for thousands, if not millions, of retail and casual investors, larger players such as institutions were hesitant to participate without tools such as margin, leverage, and short selling.
A Bitcoin futures contract solves all of these problems, allowing institutional money to flow into the market. This, in turn, boosts liquidity and adds to the legitimacy of the overall cryptocurrency market. Unlike crypto exchanges, providers of futures contracts also have to comply with strict regulations laid down by the US Commodity Futures Trading Commission (CFTC), making them inherently more trustworthy and appealing to professional investors. Realizing this demand, crypto exchanges have started to offer dedicated custody solutions so that traditional investors can invest in the crypto market even outside of derivative products such as futures.
However, Bitcoin futures do little to prevent more casual investors from losing their wealth. In fact, since the contract forces crypto to be bought or sold at a predetermined date and time, an incorrect prediction can result in an unproductive portfolio. Alluva, a free token reward-based web app, alleviates this problem by offering rewards to anyone that accurately predicts future crypto prices. No prior investment is necessary either.
What the Future(s)Holds
Naturally, Bitcoin futures are not the only financial derivative product that has been in the works. For the past couple of years, several companies have been attempting to launch a Bitcoin-based exchange traded product, also referred to as an ETP or ETF. However, the United States Securities and Exchange Commission (SEC) has rejected all applications so far, citing fears of manipulation.
It is only a matter of time before an exchange that is ‘designed to prevent fraudulent and manipulative acts and practices’ (sic) comes along and wins the SEC’s approval. Such an event would likely be just as big of a milestone as the first Bitcoin futures contract back in 2017.
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Did Bitcoin Futures Set the Groundwork for Institutional Money in Crypto? was originally published in Data Driven Investor on Medium, where people are continuing the conversation by highlighting and responding to this story.