Three exchanges regulated by the Commodity Futures Trading Commission this month self-certified new contracts for bitcoin futures products. Sequentially, the CFTC issued a statement on the self-certification of bitcoin products by these exchanges.
The three exchanges—known as designated contract markets (DCMs)—are the Chicago Mercantile Exchange (CME), the CBOE Futures Exchange (CFE), and the Cantor Exchange. CFE said it plans to launch trading in Cboe bitcoin futures on Dec. 10 under the ticker symbol “XBT.” Its rival, CME Group announced it will launch on Dec. 18. Cantor Exchange has not yet announced a start date for trading to begin.
Following the announcement of these self-certifications, CFTC Chairman Christopher Giancarlo said in a statement that, “Bitcoin, a virtual currency, is a commodity unlike any the Commission has dealt with in the past.” As a result, the CFTC had “extensive discussions with the exchanges regarding the proposed contracts,” he said.
Giancarlo added that CME, CFE, and Cantor have agreed to “significant enhancements to protect customers and maintain orderly markets. In working with the Commission, CME, CFE and Cantor have set an appropriate standard for oversight over these bitcoin contracts, given the CFTC’s limited statutory ability to oversee the cash market for bitcoin.”
CME Group Chairman and Chief Executive Officer Terry Duffy provided more insight: “Though we have worked through a lengthy, comprehensive process with the CFTC to get to this point, we recognize bitcoin is a new, uncharted market that will continue to evolve, requiring continued collaboration with the Commission and our clients going forward,” he stated.
“At launch, our new Bitcoin futures contract will be subject to a variety of risk management tools, including an initial margin of 35 percent, position and intraday price limits, and a number of other risk and credit controls that CME Group offers on all of its products,” Duffy stated. The new contract will be listed on, and subject to, the rules of CME. It will be available for trading on the CME Globex electronic trading platform, and for submission for clearing via CME ClearPort.
CME said it will use its proprietary CME CF Bitcoin Reference Rate (BRR), which serves as a once-a-day reference rate of the U.S. dollar price of bitcoin. The BRR is derived from Bitcoin/US Dollar transactions on selected spot exchanges, and is designed around the IOSCO Principles for Financial Benchmarks. Currently, four constituent spot exchanges—Bitstamp, GDAX, itBit, and Kraken—contribute the pricing data for calculating the BRR.
CBOE Bitcoin futures contracts will settle based on the auction price of bitcoin in U.S. dollars on the Gemini Exchange, another spot exchange that trades Bitcoin. CBOE Bitcoin futures contracts will be cleared by the Options Clearing Corporation.
In its statement, the CFTC expressed concerns about the price volatility and trading practices of participants in these markets. “Market participants should take note that the relatively nascent underlying cash markets and exchanges for bitcoin remain largely unregulated markets over which the CFTC has limited statutory authority,” Giancarlo said.
Giancarlo added: “We expect that the futures exchanges, through information-sharing agreements, will be monitoring the trading activity on the relevant cash platforms for potential impacts on the futures contracts’ price discovery process, including potential market manipulation and market dislocations due to flash rallies and crashes and trading outages. Nevertheless, investors should be aware of the potentially high level of volatility and risk in trading these contracts.”
The CFTC noted that its staff held “rigorous discussions with CME over the course of six weeks, CFE over the course of four months, and had numerous calls with Cantor.” Additionally, the CFTC said, CME, CFE, and Cantor agreed to “significant enhancements to contract design and settlement, and CME to margining, at the request of Commission staff, as well as more information sharing with the underlying cash bitcoin exchanges to assist CME, CFE, Cantor and the CFTC in surveillance. The Commission CME, CFE and Cantor will also coordinate “to the extent possible in any surveillance activities, including providing the CFTC with additional surveillance information.”
The CFTC noted that as trading on these DCMs evolves, it will continue to assess whether further changes are required to the contract design and settlement processes and work with the DCMs to effect any changes.
The CFTC said it will continue to foster open, transparent, competitive and financially sound markets, as well as monitor markets and work closely with the exchanges to avoid systemic risk and to protect market users and their funds, consumers and the public from fraud, manipulation and abusive practices related to products that are subject to the Commodity Exchange Act (CEA).
In remarks made at a conference last month in London, CFTC Commissioner Brian Quintenz, discussed further the CFTC’s oversight over bitcoin futures products.
Prior to listing a new futures contract, the CEA provides exchanges with the option to either (i) submit a written self-certification to the CFTC that the contract complies with the CEA and CFTC regulations, or (ii) voluntarily submit the contract for Commission approval. The two processes are similar in that unless the Commission finds that a new product would violate the CEA or Commission regulations, the exchange may list the new contract.
As a matter of practice, exchanges bring most new products to market through the self-certification process, Quintenz said. Sometimes in the case of novel products—such as bitcoin futures—the exchanges voluntarily provide CFTC staff with advanced draft contract terms and conditions for their proposed futures contracts.
One CEA provision states that an exchange may not list a contract that is readily susceptible to manipulation. Exchanges also have a duty to monitor market activity on an ongoing basis to detect and prevent manipulation, price distortions, and, where possible, disruptions in the cash-settlement process.
“CME and CFE will use the tools at their disposal, through a combination of real-time monitoring, position limits, and information-sharing agreements with the underlying cash exchanges, to prevent and detect manipulative practices,” Quintenz said. “In addition to the exchanges’ efforts, the CFTC has its own anti-fraud and anti-manipulation authority.”
With respect to clearing, the relevant registered DCOs have been providing CFTC staff with information about how they intend to manage risks associated with bitcoin futures. “Commission staff has been reviewing this information, including examining how the DCOs will satisfy their obligation to establish initial margin requirements that are commensurate with the risks of the contracts,” Quintenz said.
Once the contracts are launched, the CFTC said its staff will engage in a variety of risk-monitoring activities, including monitoring and analyzing the size and development of the market; positions and changes in positions over time; open interest; initial margin requirements and variation margin payments, as well as stress-testing positions. CFTC staff will additionally conduct reviews of designated contract markets, derivatives clearing organizations (DCOs), clearing firms and individual traders involved in trading and clearing bitcoin futures.
The CFTC will also work closely with the National Futures Association (NFA), which has issued an investor advisory on this topic to its members, including futures commission merchants and introducing brokers that are involved in the trading of any virtual currency futures product, and will closely monitor its member firms trading this product. If the CFTC determines that the margin the DCOs hold against bitcoin futures positions is inadequate, “it can take measures to require that the margin held at the DCOs be increased, including requiring that they use a longer margin period of risk to generate margin requirements,” it stated.
“The CFTC does not endorse any particular futures contract, including bitcoin,” Quintenz said. “It is incumbent on market participants to conduct appropriate due diligence to determine whether these products, which have at times exhibited extreme volatility, are appropriate for them.”