CME Group BrandVoice: The Flight To Crypto Quality: Risk Management At Center Stage

• Recent events have caused a migration of investors moving from native crypto platforms to futures
• A regulated futures market provides continuity in risk transfer and price discovery for the cryptocurrency industry

The digital asset market soared in value and influence at the end of 2021. 2022 was, in stark contrast, defined by a series of market events underpinned by structural problems that quickly spread to almost all areas of the digital asset industry. , and beyond.

The market turmoil of 2022 will be remembered with the collapse of Terra Luna and its stablecoin UST, and later the bankruptcy filings of Three Arrows Capital, Voyager, Celsius Network, and BlockFi. And to cap off the year, the FTX bankruptcy, including the contagion that ensued as a result, has become one of the largest fraud cases in the history of US financial markets. bitcoin prices hit consistent lower lows, resulting in prolonged bear market sentiment.

Fast-forward to 2023, we are now dealing with a series of major market-moving events that push inflation to multi-decade highs. Perhaps most notably, the pace of US interest rate rises has weakened banks' bond portfolios, depleting capital buffers, scarred by the recent Signature, Silvergate and Silicon bank failures. Valley Bank.

In the wake of the collapse of prominent crypto companies and contagion concerns, the starting point for cryptocurrency investment decisions should focus on risk management…and then risk management again.

Liquidity and price discovery

Time and time again, with the volatility in the underlying crypto markets, we see a migration of investors moving from more native spot crypto platforms to futures. We saw it on November 8, 2022, following the FTX crash, when CME Group's cryptocurrency products traded in record numbers. On March 13, 2023, with the failure of Silicon Valley Bank, CME Group cryptocurrency futures once again demonstrated its use case and saw its best trading day of the year, surpassing 90,500 contracts (representing more than of 4.6 billion dollars in notional operations).

The value of a regulated market

With uncertain and volatile markets, the ability to borrow and sell cryptocurrency on the spot has dried up. As such, futures have become the place where institutions can efficiently gain short-term exposure. This underscores the role a regulated futures market plays for the industry in terms of continued risk transfer and price discovery.

Turmoil in the broader crypto market has heightened the use case for CME Group cryptocurrency futures and options for a number of key reasons. First, our suite of regulated products continues to offer great liquidity and price discovery with growth in both volume and open interest.

Since the launch of Bitcoin futures just over five years ago in 2017, and Ether futures in 2021, CME Group's transparent rules, regulations and operational controls have helped enable clients to consistently manage trading risk. cryptocurrencies against rapid price swings and other market-moving events.

Battle-tested functionality like dynamic circuit breakers They are in place to monitor significant price movements while allowing price discovery to continue, even in the midst of rapid price fluctuations.

Position limits protect clients against the risk of excessively concentrated positions by a small number of participants. Cryptocurrency futures are cash-settled contracts and margins are set according to the asset's volatility and liquidity profile, giving market participants greater predictability regardless of price fluctuations.

As a regulated derivatives exchange, CME Group also maintains segregated client accounts at both the clearing house and clearing firm level. Futures Commission Merchants (FCM) act as intermediaries and serve as a risk buffer between the client and the exchange where the operation is made. The clearinghouse becomes the buyer to each seller and the seller to each buyer and ensures the clearing and settlement of transactions on the exchange.

Futures and Cash in Alignment

CME Group cryptocurrency futures settle on the last Friday of each contract month at Bitcoin Reference Rate or Ether-Dollar Reference Rate. Both are benchmark indices regulated under the European Benchmark Regulation and have expert oversight committees. Reference rates are published daily at 4pm London time and are derived from bitcoin-dollar or ether-dollar transactions from six leading cryptocurrency spot exchanges.

As more participants begin to trade in both the spot and derivatives markets, we see the development of a highly interrelated ecosystem, aligning the price discovery that is occurring in futures with the cash markets. It could be argued that recent events could accelerate the next wave of institutional crypto adoption, rather than impede it.

Read the full analysis on Crypto Finance.

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