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Crypto Futures and Institutional Interest: Looking in the Wrong Place

Noelle Acheson is a veteran of company analysis and member of CoinDesk’s product team.

The following article originally appeared in Institutional Crypto by CoinDesk, a newsletter for the institutional market, with news and views on crypto infrastructure delivered every Tuesday. Sign up here.


Last week, the Cboe let its traders know that it would not be renewing its futures contracts on bitcoin.

This was taken by many as a sign that expectations of institutional interest in crypto assets were misplaced, and by some as a nail in the crypto coffin.

If a significant venue like the Cboe doesn’t see a future in offering a product that institutional investors allegedly require, then obviously there’s no demand, right? And if the institutions don’t bring their money and legitimacy into the market, where is the much-needed liquidity going to come from?

As usual, the reactions are overblown. The news is neither significant nor bad for the sector’s outlook. It does, however, shine a light on the recurring role of misplaced expectations in driving market narratives.

Natural selection

Cboe was the first traditional institution to offer bitcoin futures, launched in December 2017. It was followed a week later by a similar product from the CME. In the end, although volumes have been declining at both, institutional traders seemed to prefer the CME’s product. Let’s look at why.

First, the CME is larger than the Cboe Futures Exchange, and in commoditized markets, size matters. Brokers would logically prefer to trade on a platform where they already have connectivity.

Second, settlement methods are important, since they determine a position’s profitability.

Cboe used the Gemini auction price to determine the value of its contracts – a price determined once a day on thin volume. The CME relied on an index comprised of data from a handful of liquid exchanges. Although the reliability of this pricing method has also been questioned, it seems that institutional traders saw the index as the less manipulable of the two options.

The suspension of one particular type of bitcoin futures contract usually says more about product structure than the underlying commodity and is far from an isolated incident.

By some estimates, more than half of futures launches fail to reach critical mass, and simply fade away.

No big deal

The withdrawal of this product is unlikely to make a noticeable impact on trading strategies. Volumes were low, and since the CME has stated its intention to continue offering its version, those that used the Cboe can relatively easily switch to the more liquid contract.

What’s more, the utility of cash-settled derivatives to hedge bitcoin positions is a contentious point. Many claim that what the market needs is regulated physically-settled bitcoin futures. These will supposedly make the market more robust by providing a more reliable and less manipulable hedge.

With cash-settled futures, the value of the product depends on market information, which – in a relatively illiquid market – can be manipulated. With physically-settled futures, you take delivery of the underlying bitcoin. You can then hold on to the asset, or sell it in the market at a “real” price.

The eventual launch of Bakkt and ErisX, which plan to offer physically-settled bitcoin futures, will bring an alternative product into the institutional toolbox.

But those that expect physically-delivered futures to be the trigger that brings institutional players into the market in volume are likely to be as disappointed as those that expected cash-delivered futures to perform that feat.

Looking for signs

That is the main takeaway from this news: that there is no “key” to institutional involvement. And no matter how many of us agree that we have identified the missing piece, we will be wrong.

The narrative that institutions would get involved has been constant – the supposed trigger, however, has swung from derivative products to custody solutions to regulation (and I might be missing a few steps in there), and will no doubt pivot to something else as legal clarity continues to emerge without a corresponding price bump.

In looking for something simple to grasp and monitor, we are trying to fit the birth of a new asset class into a convenient linear progression. We are trying to fit a five-dimensional concept into a unidimensional construct – and, yes, it is as impossible as it sounds.

Identifying narratives is a necessary step, though, that enables us to separate signal from noise, and to shape investment theses and production decisions.

The narrative that institutions are interested in crypto assets is a sound one. Many are already investing in this market. Family offices and traditional hedge funds have been dipping their sizeable toes in for some time now, and we are even seeing old-school institutions such as pension funds and endowments starting to take this new asset class seriously.

Where we get it wrong is in expecting institutions to wait for a specific green light. In reality, they are waiting for a matrix of signals that does not conform to our linear way of thinking.

As even a cursory glance at CoinDesk’s headlines will reveal, the shift is happening, in both subtle and obvious ways. The technology is progressing, regulators are working hard to figure out the right strategy, and investors of all types are learning and experimenting.

This progress may seem slow, but it is steadily building the base for an acceleration. Thinking that we can predict when that will happen is ambitious.

To steal a phrase from Hemingway, the involvement of institutional investors in crypto assets will happen “gradually, then suddenly.” As almost all profound changes do.

John Tornatore, Cboe Global Markets, image via CoinDesk archives 

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German Finance Ministry Calls for Regulated Blockchain Securities Market

The German Ministry of Finance has recommended that the country recognize blockchain-based securities as a legitimate form of financial instrument and regulate them as such.

In a paper published Friday, the agency said securities can be issued in electronic form and shouldn’t have to be documented on paper. “German law should generally be opened up for electronic securities, i.e. the currently mandatory documentary embodiment of securities (paper form) should no longer apply without restriction,” the paper said, according to a Google translation from German.

Legislation should create a framework for regulating these digital instruments, with the flexibility to adjust the rules to the quickly changing reality of blockchain tech, the ministry added. “In view of the fact that the technical standards and requirements can change rapidly, authorization should be provided to regulate the specific technical details by legal regulation.”

The initiative should start with electronic bonds, and only later move to digital shares, the government said, since the amount of regulation necessary for the latter would delay the timely introduction of any electronic securities. All such securities in the country should be registered in a single central registry administered by a government-supervised agency, the document goes on, “in order to avoid the possibility of manipulation,” the paper said.

Also, “separate regulations should be provided for the acquisition and transfer of electronic securities as well as good faith protection.” If digital securities are used to trade on the country’s trading venues they should be registered with the country’s central security depository (CSD), the ministry said. Retail investors should generally be able to buy tokenized securities only through an intermediary financial institution, the paper said.

Notably, the document said digital securities can utilize blockchain but do not necessarily have to:

“The use of blockchain technology should not be privileged, especially with regard to the state-of-the-art development of the sometimes high energy requirements of public blockchain technologies and their climatic effects.”

The paper also touches the matter of so-called utility tokens, contemplating that these might be exempt from the requirements placed on securities issuers.

“As a rule, utility tokens do not constitute securities, investments or other financial instruments under the German Securities Trading Act and in most cases will not be electronic bonds in the future,” although “it could be determined by law that a public offer of utility tokens may only take place if the provider has previously published an information sheet,” the document says.

Legislation on the way

The ministry’s recommendations come as a draft bill on security token offerings (STOs) is in the works at the German parliament.

“The technology sounds very interesting, but people don’t really understand it,” Senator Thomas Heilmann, a member of the Christian Democratic Union (CDU), Germany’s ruling political party, told CoinDesk, adding that the CDU faction in the parliament supports his initiative.

The bill now exists in the form of “discussion materials” and has been discussed by German lawmakers and government bodies behind closed doors, said Richard Lohwasser, the CEO of blockchain startup Lition, which has been advising Heilmann on the new legislative proposal.

As it stands, without comprehensive regulation of security tokens in Europe, dealing with them can mean a whole range of problems: holding a token doesn’t mean holding equity from a legal standpoint, dividend payments are not legally compliant, and if a token gets sold the buyer doesn’t acquire legal rights to receive dividends, Lohwasser explained.

As a financial center of Europe, Germany can secure also a leadership position in tokenized finance, the Finance Ministry’s document states. The country might also set the tone for the future E.U.-wide security token regulations.

The implications can be important for the global blockchain community, not only Germany, Lewis Cohen, a lawyer at the New York-based law firm DLx Law told CoinDesk, concluding:

“Even if the German capital markets are not that significant right now, especially from the point of view of companies here in the U.S., the fact that policymakers in Germany are taking active steps to encourage the use of security tokens will be noticed, and lessons will be learned, around the world. The German experiment, if you will, is important for creating a model, in which the wider blockchain community can learn what works well and what doesn’t work as well.”

German Finance Ministry headquarters image via Shutterstock.

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Security Tokens vs. Tokenized Securities: It’s More Than Semantics

Noelle Acheson is a veteran of company analysis and member of CoinDesk’s product team.

The following article originally appeared in Institutional Crypto by CoinDesk, a newsletter for the institutional market, with news and views on crypto infrastructure delivered every Tuesday. Sign up here.

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We need to get serious about vocabulary.

The crypto sector has earned a well-deserved reputation for obfuscating with confusing jargon, and the use of certain terms for hype purposes has not helped (how many “blockchains” have chains of blocks?). Even the term “crypto,” too, is confusing, implying cryptography which is about secrets… for public, transparent protocols.

You’ll have also noticed a proliferation of the term “security token.”

Platforms are gearing up, issuers are doing their thing and regulators are paying attention. Last week, I attended a packed event in London titled “Security Tokens Realised,” in which speakers used the phrase to refer to a wide range of blockchain-based assets.

The event coincided with the publication of a consultation paper by the UK’s Financial Conduct Authority, on the classification and regulation of crypto assets in general. The authors reinforce the broad use of the term, defining it as any token that represents a recognized asset or investment concept.

But we should be careful. Often when we say “security token”, we mean “tokenized security.” Both are compelling concepts, but they are not the same thing.

Using them interchangeably is both confusing and misleading. They imply different constructs, different investors and potentially different regulation, and conflating the two isn’t doing justice to either.

The pedant’s lament

So, what really is the difference between a security token and a tokenized security?

In the first instance, “token” is the noun and “security” acts as an adjective or a qualifier. It’s a new technology representation (a token) that shares some qualities with traditional securities.

In the second, “security” is the noun and “token” forms part of the adjective. The phrase refers to a traditional asset (a security) wrapped in a new technology.

In the first instance, the new technology aspect is – or should be – the main focus. Some tokens are classified as securities, others are not, and some are so new in concept that regulators struggle with which rules to apply.

A token that pays out dividends? A security. A token that confers access to content? Not so clear.

In the second, they are obviously securities. Their function is the same as off-blockchain assets – they just run on a different technology.

This makes their regulation easier. As financial authorities around the world have pointed out, the technology is not the focus – the use case is. And a traditional security that is traded differently is easier to categorize and understand than a new type of asset that is making us re-think old definitions.

If we keep calling them both the same thing, we are doing each a disservice.

Taking it further

Tokenized securities are putting a new wrapper around a familiar asset, with a view to broadening the market and enhancing liquidity. It’s not so much a new product for the regulators as it is a new distribution channel, which is much easier to approve.

Security tokens, on the other hand, are a new product. The challenge for regulators and investors is much greater, in that the ramifications and the risks are harder to figure out.

This is not to belittle the innovation behind tokenized securities.

On the contrary – their relative simplicity means that we are likely to see many enter the market in the short term. And while supply is likely to outstrip demand, at least at first, their trading will help investors and regulators to get familiar with blockchain-based markets.

That should help us all to get our head around the concept of security tokens. That’s when the innovation truly gets unleashed.

The known unknowns

Drawing an analogy from the development of the internet, tokenized securities are like the attempts to replicate print magazines online. Access was fundamentally changed and the content’s reach was multiplied, but the format was similar.

Security tokens are more like those applications that nobody could foresee: Snapchat, Twitter, Tinder and connected dog collars that monitor your pet’s fitness.

Both concepts are useful. But only one changed how we run our lives.

The same with blockchain-based assets: Both will transform capital markets, improving inefficiencies and access. But only one will change what we understand capital markets to be.

To give the concept of security tokens the support and space it needs, we should clarify what we mean by the term, and stop lumping everything with security-like characteristics under its umbrella.

Tokenized securities are already here, and we are likely to see a lot of progress on this front over the coming months.

Security tokens, on the other hand, are still finding their place on the innovation scale. Their needs are different from their more familiar brethren – and the sooner we start separating the concepts, the sooner we can get our minds around the potential ahead.

Dictionaries image via Shutterstock

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OKCoin Founder Star Xu Seeks to Acquire Public Firm for $60 Million

Star Xu, the founder of cryptocurrency exchange OKCoin, may be seeking a possible backdoor IPO for his firm by buying a majority stake in a Hong Kong-listed company.

On Jan. 10, Xu (under his real name Xu Mingxing) filed with the Hong Kong Stock Exchange (HKEX) for approval to buy a 60 percent stake in a construction engineering firm called LEAP Holdings Group Ltd.

Through his company OKC Holdings Corp., Xu is aiming to purchase approximately 3.2 billion shares of the company for HK$0.15 (around $0.02) per share. In total, the acquisition, if approved, would cost more than $60 million.

To avoid the news affecting LEAP Holdings’ stock price, the firm is currently suspended on the HKEX.

While the effort has yet to be approved by the stock exchange, the successful purchase of the stake could provide a route for OKCoin to become a public company in Hong Kong via a back-door listing. That is, rather than go through the process of applying for an initial public listing (IPO) and jumping through all the necessary regulatory hoops, they would simply buy a firm already listed in Hong Kong.

Last August, crypto exchange Huobi took a similar step, becoming the largest shareholder of a HKEX-listed firm called Pantronics Holdings for around $70 million.

Other major firms in the crypto space, specifically mining companies Bitmain, Canaan and Ebang, have filed for IPOs in the same jurisdiction, but seem to be making little progress with the HKEX. Canaan has now let its application expire, while a HKEX insider told CoinDesk in December that the stock exchange was “hesitant” to approve the offering for Bitmain.

A Bloomberg report early this month suggested that Canaan is now seeking to IPO in New York, but nothing has been officially made public to date.

Wolfie Zhao contributed reporting.

HKEX image via Shutterstock

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European Blockchain Startup Launches Trading in Tokenized Securities

Belarus-based blockchain startup Currency.com has launched a trading platform for tokenized securities.

The firm announced Tuesday that the platform would allow investors to directly trade and invest in financial instruments using the cryptocurrencies bitcoin or ethereum, without first converting to fiat.

The platform will initially host over 150 tokenized securities, tracking the underlying market price of financial instruments such as equity and commodities, it said, while over 10,000 similar offerings could be available in the future.

Currency.com explained that the service lets investors buy a token that would reflect the performance of, say, an Apple share on the Nasdaq stock exchange, at the “same economic costs and benefits of an Apple share.”

“To offer these capabilities, Currency.com leverages the technology of Capital.com, its sister platform regulated by the FCA [U.K. Financial Conduct Authority] and CySEC [Cyprus Securities and Exchange Commission], to offer users access to a tokenized version of a contract for exchange of a specific equity, commodity or index,” the firm said.

Currency.com said it’s “fully compliant” with “Decree No. 8 On Development of Digital Economy” of the President of the Republic of Belarus, which legalizes blockchain businesses, adding it follows anti-money laundering (AML) and know-your-customer (KYC) rules, as well as General Data Protection Regulations (GDPR).

The mobile trading apps of the platform, both iOS and Android, are expected to be available as beta versions from February.

This is not the first platform to enable trading of tokenized securities. Earlier this month, Estonia-based crypto startup DX.Exchange launched a trading platform allowing clients to purchase crypto tokens representing shares in different tech firms listed on Nasdaq. DX.Exchange’s customers will be able to use select cryptocurrencies, as well as fiat currencies to purchase the tokens.

Trading screen image via Shutterstock