Cryptocurrency Derivatives Coming Soon

For the first time ever, the U.S. Commodity Futures Trading Commission (CFTC) has given permission to a private company to exchange and clear any number of cryptocurrency derivatives. After three years of work, New York-based startup LedgerX was today granted a rare derivatives clearing organization (DCO) license allowing it to clear and custody financial instruments backed by bitcoin, ether and any number of blockchain-based cryptocurrencies.

LedgerX co-founder and CEO Paul Chou told CoinDesk: “It means a lot, not just for the industry, but globally, because the CFTC will set the example of what a well-licensed clearinghouse and exchange based around digital currencies will look like.”

As part of the DCO license, LedgerX will be required to surveil the institutional investors it works with and create increased transparency about those customers for the regulatory agency. With the granting of this license, these groups will now be able to enter into complex contracts with one another, with values derived from the underlying cryptographic asset.

Similar to how G5 currencies are typically viewed as safe investments due to their relative stability, Chou imagines three to five cryptocurrencies will be deemed “viable” candidates for the exchange and clearinghouse, based on market capitalization and functionality.

Initial coin offering (ICO) tokens sold to raise funds will not likely be considered for inclusion on LedgerX, given their gray area between CFTC-regulated commodities and SEC regulated securities.

In March, another lengthy cryptocurrency regulatory application was refused by the Securities and Exchange Commission (SEC), citing among other things, a lack of “surveillance-sharing agreements,” and a requirement that “markets must be regulated.” Currently under review by the SEC, the application would let Tyler and Cameron Winklevoss list a bitcoin-tied exchange-traded fund (ETF) on the BATS BTX Excahnge.

Given LedgerX’s lengthy requirements to report on its customers and the regulatory body’s history of co-regulating certain instruments, Chou believes today’s decision could provide just the answer the SEC, and other agencies in Asia and Europe have been waiting for.

“I think the CFTC will set an example both for other regulators here in the U.S., but also globally as well,” he said.

A close observer of the developing story might have even found a clue to the story back in May, when LedgerX announced it had raised an $11.4 million Series B led by Miami International Holdings and Huiyin Blockchain Venture Investments. It turns out, the money for the startup that had already raised a $1.5 million seed round and an undisclosed Series A was intended to meet capital requirements implemented by the Dodd-Frank Act.

In order to ensure agreements can be fulfilled in case of an emergency, the act requires that a DCO hold operating costs to run its business for a year. Going as far back as September 2015, former CFTC commissioner Mark Wetjen has been sitting on the board of LedgerX parent company Ledger Holdings, and since January 2016, Chou has served on the CFTC technology advisory committee.

“These are exciting times to have a new digital asset class emerge.” In addition to charging other exchanges for his service, Chou expects the CFTC’s heavy surveillance requirements will result in cryptocurrency markets data that can be cross-referenced with points from previously existing data sets.

But, Chou described his business model as “multi-stage,” eventually serving those who were previously unable to afford such services.

“At first we’re going to target a lot of institutional customers that want to invest in this new asset class of cryptocurrency derivatives,” said Chou, who added: “Then later, pretty much everybody.”