Traditional Futures vs Crypto Futures Exchanges
Traditional futures enable great things. For example, buying 40 times the amount of Gold as you have dollars to support or hedging interest rates all the way out to 5 years in the future. However, they are by no means perfect and are a slow moving industry heavily tied to existing ways of doing things and in no way built for a world where money moves instantly over the internet.
Direct to Customer vs Layers of Middlemen
Traditional exchanges basically look like the folks on the left, where at minimum there are two layers, often 3 or 4 layers of intermediaries between the exchange and the customer. The clearing member is responsible for margining, this is typically a large bank or extremely well capitalised financial institution. “FCM” stands for Futures Commission Merchant and is basically a brokerage firm, but for futures trading. FCMs must deposit funds with Clearing Members, who have direct access to trading on the exchange. The End Customer could be an individual, trading firm, hedge fund, institution or commercial hedger and gets an account with the FCM and uses an ISV (Independent Software Vendor, for example, Trading Technologies) to trade.
FCMs often have an extensive amount of paperwork involved in onboarding because futures have unlimited liability, as a result they usually require a customer be a high net worth individual or professional trader with experience in financial markets.
I fell in love with bitcoin because it’s peer-to-peer, open, and transparent. Everyone has the chance to transact on the same network. Anyone who has the tools can run a node and I won’t reject your Proof of Work because you come from a different country, don’t speak my language, or don’t meet a government-set “capital requirement”.
Crypto derivatives are built in the same fashion as bitcoin. Virtually anyone can sign up regardless of wealth, geographic location, or whether or not he or she has a bank account. The relationship cuts out the layers of FCMs, brokers, banks and intermediaries that sit between the exchange and the end customer. In many situations, the CEOs of the exchanges are in Telegram channels with the actual end users themselves. The relationship is completely different — vastly more personal with much less friction.
The direct, peer-to-peer nature is how large businesses are built. The CME and ICE, the two largest traditional futures exchanges, are worth tens of billions of dollars each, whereas companies like Facebook, Google, Amazon are worth hundreds of billions. The tech giants eradicate middlemen and connect users of all kinds directly with each other in a frictionless manner. They also have limited onboarding friction or paperwork for the majority of users, enabling users to connect easily all around the world.
Limited Liability vs Losing Money You Don’t Have
In the traditional futures scenario, a trader is responsible for making sure his or her account is solvent and the broker issued “margin calls” which ask the user to top up margin when a leveraged position goes the wrong way. Traditional exchanges check the margining of users once or twice a day. The trader can actually go negative, meaning they can end up in a position where they owe the broker/FCM money. In many traditional derivative situations, this has resulted in retail users owing more money than they actually have.
Crypto derivatives take the “Don’t trust, verify” approach seriously. We check users’ margin and perform “variation margin” adjustments in real time. If the position goes the wrong way, we will liquidate your position. This is in part because the end user is (usually) not a well capitalised financial institution whom we can trust to be “good for it” and settle up at the end of the day or a few days later. The end user could be a retail trader in Thailand, Mongolia, or Egypt and we have no idea if he or she intends to hold onto the position or just let the account blow up.
The benefits of this to end users are enormous. You can take on a highly leveraged long or short position and your only risk is losing the funds you put into your account. You can use stops and be responsible and conservative, but if you want to YOLO and the trade doesn’t go your way — no worries, risk is limited. This enables users who are more new to futures trading to experiment without worrying that they will somehow be personally bankrupted by something they do not yet fully understand.
Contract Sizes: Small vs Large
I wanted to buy some call options on EU carbon credits. A weird thing to do, but I was interested in them and wanted to learn about the market. So the first brokerage I signed up to took several weeks, dozens of pages of paperwork and a 50 question test about options. The hassle and headache here was insane and at many points I thought, I don’t need this stress. After all, buying options on carbon was something I wanted to do not something I needed to do. After my account was approved, I realised that the specific options were not even accessible via that broker. So I went to another, more expensive and less well known FCM. They sent over their documentation which was another 50 pages, required me certify I was an accredited investor, experienced, ready to lose everything. At the end, two months after deciding to buy the options I was on-boarded and ready to trade. The contract size of the option meant that the minimum premium I would spend was €8000. I found carbon credits interesting, but that was a decent chunk of change for what I was hoping would be a test transaction!
Compare this to crypto exchanges where contract sizes are tiny. On CoinFLEX, you will be able to trade 0.0001 BTC worth of futures, or $1 worth of Tether/USDC, etc. New traders learning how to trade, make markets, see how prices react to and relate to each other in 2019 should be entirely focussed on crypto trading. With some spare pocket money, a college student could put $10, $50 or $100 worth of crypto into an account and start experimenting. With $100 and 20X leverage, that’s more than enough to actually run meaningful experiments and play around.
Also because of the transparency of the blockchain technology, we can satisfy our compliance obligations without requiring extensive paperwork and private personally identifiable information. These processes increase costs, friction and most importantly, cut off the majority of the world from being able to trade and transact in financial markets.
Financial Access for All Increases the Value of Futures Markets and Businesses
Futures and options have a huge impact on the world, are extremely liquid ways to trade, invest and hedge risk, and yet the two largest futures exchanges (CME and ICE), which dominate the market are only worth a combined $100 Billion. This is dwarfed by just the top four banks in the US, which are worth a combined $1 Trillion. This is further dwarfed by a number of companies in the tech industry, which occasionally sees a single tech giant reaching a trillion dollar valuation.
Cryptocurrency has sparked revolutions that are underway in cryptography, payments technology and many parts of finance. I believe crypto futures exchanges will spark a revolution in trading, enabling access for a new, much larger generation of traders around the world. The advantages of trading crypto are so large that they appeal to traders everywhere, large and small, new or experienced.