As interest in bitcoin derivatives has increased, the Commodity Futures Trading Commission CFTC has turned more of its attention toward virtual currencies.
For a little more than a year, at least two trading facilities registered with the CFTC have offered bitcoin derivatives for trading in the United States. Another company plans to offer bitcoin derivatives on its platform and applied in to register a derivatives clearinghouse for bitcoin derivatives.
More recently, the CFTC brought two enforcement actions related to bitcoin derivatives. In In re Coinflip, Inc. Massad and Commissioner J. Christopher Giancarlo each commented on the potential impact of blockchain technology on financial ecosystems. Many industry observers predict that bitcoin or the blockchain will significantly disrupt existing financial market infrastructures and reshape traditional payment systems, transaction clearing and settlement services, derivatives markets, and other financial market processes that rely on third-party intermediaries.
Tellingly, a number of exchanges and investment banks are investing heavily in research related to bitcoin and blockchain applications, according to press reports. In response, TeraExchange developed its own proprietary index based on a volume-weighted average of bitcoin spot market transactions from multiple bitcoin exchanges. The CFTC staff ultimately did not object to TeraExchange self-certifying the bitcoin contract that settled to the new index.
In similar contexts, the CFTC has aggressively investigated and brought enforcement actions related to manipulation of indices comprising spot market transactions. Whether bitcoin should be regulated as a currency or other form of property is a question that has vexed many U. Transactions in currency are eligible for exemptions from most CFTC regulations if offered in the form of FX swaps or FX forwards between nonretail counterparties.
Furthermore, retail customers are prohibited from engaging in off-exchange derivatives transactions except for FX transactions with certain financial institutions such as retail foreign exchange dealers, futures commission merchants, broker-dealers and banks. Off-exchange FX transactions generally are considered to be subject to lighter regulation than transactions executed on a CFTC-registered designated contract market i. Categorizing bitcoin as an exempt commodity would preclude bitcoin operators from relying on regulatory exemptions for certain FX transactions under the CEA.
The Coinflip order clearly suggests that a bitcoin option could satisfy the trade option exemption if the option buyer was a commercial bitcoin user, and therefore, bitcoin could only be an exempt commodity. This conclusion has other implications as well. Commercial users of bitcoin e. Similarly, as an exempt commodity, forward contracts that result in delivery of bitcoin between commercial market participants could be excluded from the CEA and CFTC jurisdiction.
As long as interest in bitcoin derivatives persists, the CFTC is likely to continue to regulate them actively. Bitcoin market participants should be aware that the CFTC could assert itself on a number of fronts that have only an indirect relationship to bitcoin derivatives. Furthermore, the CFTC is likely to be presented with fresh challenges as new applications for blockchain technology are developed.
Many already have speculated that the blockchain could be adapted to significantly enhance efficiencies in collecting margin and collateral on derivatives and for clearing and settling securities transactions.
As with any type of innovative technology, bitcoin derivatives and blockchain applications have the potential to test both the industry and the CFTC in the coming years. This memorandum is considered advertising under applicable state laws. In particular, one should expect the CFTC to focus on whether particular bitcoin derivatives that are listed for trading are not readily susceptible to manipulation — a statutory requirement under the Commodity Exchange Act CEA applicable to all CFTC-registered trading facilities.
Conclusion As long as interest in bitcoin derivatives persists, the CFTC is likely to continue to regulate them actively.
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