Markets
Option contracts needed in cryptocurrency markets
Arnab Sen, CEO and co-founder of GFO-X, the UK-based digital asset derivatives trading venue, said large institutions need derivatives, and options in particular, in a regulated venue to ensure you enter the cryptocurrency market.
Sen was speaking on a panel at the FIA IDX conference on June 18 in London. In April last year GFO-X announced a strategic partnership with LCH SA, the European clearing house of the London Stock Exchange Group to launch a segregated central counterparty clearing service, subject to regulatory approval.
Arnab Sen, GFO-X
“We are looking to create a fully regulated, institutional-grade venue for cryptocurrencies, connected to traditional market infrastructure,” he added. “You can’t move quickly and break things in a regulated financial market.”
He went on to say that an asset class is not mature until it has three legs: spot, futures and options. According to the FIA, options account for 65% of derivatives volumes, while Sen pointed out that ether trades less than $3 billion worth of options. Furthermore, Sen said that the biggest issue in the cryptocurrency industry currently is credit, so options are needed to mitigate volatility.
Sen said: “Why wouldn’t you want to extract that volatility? The curve is very short in cryptocurrencies, up to six months, but extending it to three years allows structured products for private banks and large institutions.”
However, Sen continued that options solution involves overcoming multiple challenges including counterparty risk, technological hurdle which is higher than futures and stable architecture.
In April this year, LCH SA received regulatory approval to clear Bitcoin index derivatives through its new LCH DigitalAssetClear service for cash-settled Bitcoin index futures and options contracts traded on GFO- X. LCH SA plans to launch the clearing service this year. Corentine Poilvet-Clédière, chief executive officer of LCH SA, said in a statement at the time that LCH SA is excited to partner with GFO-X, together with the industry, to provide a regulated market for this asset class.
Marcus Robinson, the new head of LCH CDSClear and head of LCH DigitalAssetClear at LSEG Post Trade, told the IDX panel: “We are a highly regulated central counterparty and can build confidence in the underlying asset class for institutional investors through risk mitigation . We can eliminate some of the underlying counterparty risk, contagion and operational risks that persist in the bilateral world today.”
Robinson went on to say that LCH wanted to seize the opportunity to enter a new asset class, especially as cryptocurrencies are moving from a retail-oriented market to an institutional market, and created a working group to test demand.
Marcus Robinson, LCH
“We have robust risk and margin management processes that are tried and tested and valued by regulators and the user community,” Robinson added.
He used the analogy of over-the-counter derivatives moving to central clearing after the 2008 financial crisis. According to Robinson, bringing OTC markets into a cleared, regulated and trusted world created more trust and the markets grew.
“We are trying to create an infrastructure that resembles how traditional derivatives markets operate today in terms of trading and clearing,” he added.
Collateral will be segregated and ring-fenced specifically for LCH DigitalAssetClear to prevent contagion. LCH DigitalAssetClear is supported by a segregated default fund, a bespoke risk management model and a dedicated set of clearing rules.
SUBSCRIBE TO THE NEWSLETTER
And get exclusive articles on the securities markets