Will CME’s New Micro Bitcoin Futures Contracts Leapfrog Bitcoin ETF Efforts?

BRAZIL – 2019/07/24: In this photo illustration a CME Group logo seen displayed on a smartphone. (Photo Illustration by Rafael Henrique/SOPA Images/LightRocket via Getty Images)

SOPA Images/LightRocket via Getty Images

Leading derivatives exchange CME GroupCME announced this week the planned launch of micro bitcoin futures (ticker MBT) on May 3, pending regulatory approval, that will represent 10% of one bitcoin. This new offering is designed to appeal to a wider audience than its current contract, which covers 5 bitcoins. Given this dramatically reduced size, the “initial margin” requirements for an MBT contract, the minimum amount that a trader needs to post to buy or sell a contract, will drop by a factor of 50. Settling on a monthly basis just like its larger counterpart and eligible to be settled in cash or rolled over at months-end, the MBT would make bitcoin futures trading accessible to accounts with a minimum of $5,000. Thus, this new product can open the futures-trading door to the day trading and retail market. 

Additionally, the algorithmic trading community appears poised to utilize MBT contracts for better price discovery and more granular risk management. Together, this adoption could deepen CMEs positioning as the most widely-used and regulated bitcoin liquidity marketplace. 

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MBT Contracts May Accelerate Already Strong Retail Demand for BTC Futures. 

This new product is designed to take advantage of already strong demand from the retail community for its bitcoin futures products. According to Commodity Futures Trading Commission (CFTC) open interest data, the total value of all outstanding futures contracts, retail investors hold the largest share of long BTC open contracts of any customer group. 

So far this year the group is averaging 3,133 long/buy and 766 short/sell BTC contracts in open interest between January 5 to March 23. Furthermore, this net-buyer demand contrasts sharply with hedge funds that are the largest market participants in CME BTC futures and are net sellers of the cryptocurrency, averaging 7,794 short contracts to 2,983 long contracts. 

Now with the initial margin requirements—which the CME sets as the minimum capital to start a trade—dropping from $123,400 for the current 5 bitcoin futures contract to $2,468 for the MBT this trend could grow.

MBT Contracts Offer Hidden Value For Institutions

Additionally, MBT contracts may be appealing to institutions as a price discovery tool to refine their programmatic and algorithmic trading approaches, where fractions of a cent can make a major difference. When taking this approach, institutions will place high numbers of low-value trades fired rapidly by automated systems to independently discover the price of a security. Without such opportunities, institutions must rely on price quotes from banks, exchanges, or broker firms that may not always be accurate. Historically, the users of small futures contracts for price discovery have been hedge funds, brokerage firms, commodity trading advisor (CTA) firms, banks, and even corporate treasuries. 

During my interview with Tim McCourt, global head of equity index products and alternative investment products at the CME, he confirmed that some of the MBT demand they expect will come from institutions seeking a more optimal price discovery and risk management. McCourt said the market is witnessing the “real maturation of the bitcoin ecosystem” and noted that “there’s a lot of interdependencies between the various liquidity pools.” He expounded further to say “we are seeing the velocity, the inter-relatedness of the various liquidity pools increase over time” and that the CME anticipates that the introduction of MBT futures will further boost “the velocity of price discovery and the ability to transfer risk.”   

Who Stands to Win/Lose if MBT Contracts Gain Traction

If the MBT contracts take off, and they have a much higher likelihood of approval than a bitcoin ETF at this point, the potential winners are the financial intermediaries authorized to offer it to firms and individuals. They are known as futures commodities merchants (FCMs) and include traditional retail brokerage firms such as TD Ameritrade and E*Trade, as well as futures specialist firms such as StoneX and ADM. The CME publishes a list of FCMs that have consented to their identification on the exchange’s website (here), although this list is not exhaustive. 

There are likely no less than 50 million individuals in the U.S. who opened an account to own or trade cryptocurrencies at crypto exchanges. Based on my experience researching the retail trader market for over a decade, the individuals most prone to make the switch from where they are at today (a crypto exchange) to a bitcoin FCM are the more sophisticated, wealthier millennials. This group of traders looks for convenience managing their cryptocurrency exposure through the same brokerage firm that handles their stock and ETF portfolios, with the added safety provisions of trading bitcoin at a regulated marketplace. 

That said, it is worth noting that despite the appeal of these contracts hurdles remain. For instance, education on the nuances of futures trading is a barrier for many retail traders and a big portion of traders at large are still learning how to lower the risks associated with investing in cryptocurrencies. Additionally, we will likely need to wait until the contracts are approved before we see to what extent FCMs promote the new contract.