On December 10, 2017, the Chicago Board Options Exchange released a futures contract for Bitcoin, another first for cryptocurrency, and the beginning of a new stage of mainstream acceptance for Bitcoin, if not cryptocurrency as a whole.
But what are futures? And why should this be such an important event?
A Quick Primer
Jane is bullish on Bitcoin. She thinks it’s going to be worth a lot more on March 13, 2018, so she places a three-month futures contract with Bob in which she agrees to the price of Bitcoin at $17,000 (called the settlement price). Meanwhile, Bob thinks Bitcoin is going to crash in three months. He wants to lock in profit at $17,000.
The two traders agree to settle the difference between their price speculation in three months and what Bitcoin actually is at that future date. So Jane gives Bob an initial percentage (called futures margin) of $17,000 now in hopes that in three months, Bitcoin will be worth more so Bob will have to pay her the difference. Bob, on the other hand, wants the price to fall.
Some contracts allow shipment of physical goods (like oil, wheat, or pork) to settle the difference in spot price (the purchase/sale price of the contract) from the actual price once the future is realized. Other contracts allow for a cash settlement. Bitcoin futures on the CBOE are cash settled, meaning if price goes UP, say, to $20,000, Bob will give Jane $3,000 ($20k-$17k=$3k to Jane), which she can then choose to purchase a Bitcoin or not. If it falls to $15,000, Jane would owe Bob $2,000 ($15k-$17k=$2k to Bob).
This means traders aren’t necessarily buying Bitcoin at all, but rather they are purchasing or selling the price of Bitcoin and pocketing or losing the difference.
Futures contracts can be bought and sold at any time during the life of the contract, and buyers inherit the obligations of the contract. There’s lots of ways in which futures can be used, either as a hedge against risk or as a bet for aggressive profits. I recommend reading more about it to get some additional ideas
on how the futures market can work specifically in relation to Bitcoin. It’s pretty fascinating!
The Big Short
In the real world, Bitcoin futures contracts are for 5 Bitcoins, and there is a minimum of 5 contract blocks per, so at $15,000 per Bitcoin, the smallest contract is $375,000. This means only big, institutional investors are going to be playing this game.
The only groups with enough cash to trade these new futures markets are institutional capital, which has been notoriously and overwhelmingly opposed to Bitcoin’s rise
, and now they can short at scale on an exchange without ever having to purchase Bitcoin itself!
This led some to speculate about the possibility of Bitcoin’s price being shorted by institutions and individuals who are bearish and incentivized for a devalued Bitcoin (think Jamie Dimon
of JPMorgan or Warren Buffett
of Berkshire Hathaway).
On the other hand, for every bear there may well be at least one bull willing to bet that Bitcoin’s future is bright (enough to wear shades?).