In the latest Commodities Futures Trading Commission podcast, several CFTC staffers discussed how the CME and CBOE Futures Exchange (CFE) bitcoin futures got approved.
Andrew Busch, the Chief Market Intelligence Officer for the CFTC, had on his latest podcast CFTC staffers: LabCFTC’s Daniel Gorfine, Division of Market Oversight’s (DMO) Amir Zaidi, the Division of Clearing and Risk (DCR’s) Brian Bussey and Division of Swap Dealer and Intermediary Oversight (DSIO’s) Matt Kulkin.
The discussion touched on several aspects of bitcoin but specifically, the five gentlemen talked about the recent announcement by the CME Group and the CBOE, that both exchanges would be introducing bitcoin futures products.
Specifically, the discussion explained the process for these new products to be approved.
The DMO, among other things, reviews new contract products for exchanges.
Zaidi explained that when an exchange attempts to list a new product, the exchange, “Prior to listing new contracts, the Commodity Exchange Act provides DCMs (Designated Contract Market) with the option to either submit a self-certification to the CFTC or voluntarily submit the contract for approval.”
With a self-certification, Zaidi noted, the exchange effectively does the approval on its own but then guarantees that the contract is from fraud and manipulation; the self-certification process is how, Zaidi said, most products are brought to market.
Of the most recent bitcoin futures contract, Zaidi said, “Although it provides for a one day self-certification business day process, CME and CFE actually provided us with advanced graph contract terms and conditions for their bitcoin products.”
Bussy’s division DCR approves the clearinghouses, which step in between buyers and sellers on any securities transaction and guarantee trades; these clearinghouses are referred to as Derivative Clearing Organizations (DCO’s).
“First off, CME is both an exchange and a DCO, so it will clear its own bitcoin futures, whereas Options Clearing Corporation (OCC), another DCO will clear the CFE futures,” Bussy stated, “Unlike Amir’s (Zaidi) side the DCO’s did not have to make a formal submission to my division with respect to bitcoin futures. Their rulebook essentially covered the activity they were proposing to do.”
While technical, all this means is that all exchanges must have their clearing operations for any product approved before the exchange is allowed to function and as such, all new products would already be cleared by a pre-approved clearing process.
While the two exchanges were not required to submit anything new, Bussy said, “Nonetheless the two exchanges came to us weeks ago and they provided us with information on how they intend to manage the associated risks, including how the intend to set margin requirements.”
The margin requirement- reflecting the risk of this product compared to typical products- is significantly higher.
The S&P 500 futures only require a margin of 5% whereas the new bitcoin product for the CME has a margin of 35% and the CFE product is 40%.
Margin is the amount of money, as a percentage of the overall cost of the product, which is required to be paid in order to complete a transaction.
Busch noted that the higher margin requirement reflected the greater volatility of the product.
Kulkin’s division, DSIO “oversees the registration and compliance of intermediaries and futures industry self-regulatory organizations.” According to the CFTC website.
His division did three things, “One, evaluated the proposal and tried to predict the potential impact of market structure,” Kulkin said, “In other words, we want to make sure that we can take a relatively volatile product, especially at the futures level, and make sure that when the futures contracts are traded that we make sure that these futures merchants are resilient and have sufficient capital.”
Futures contracts merchants (FCM, yet another acronym, is “an entity that solicits or accepts orders to buy or sell futures contracts, options on futures, retail off-exchange forex contracts or swaps, and accepts money or other assets from customers to support such orders.” According to the National Futures Association (NFA).
The second thing the DSIO did was work with the NFA “regarding oversight, looking over what data they may have or need.”
The NFA is a self-regulatory organization (SRO) which regulates all futures dealers.
The third thing, Kulkin noted, involved investor protection “adequate disclosure, we want to make sure that people or institutions that transact in these markets are fully aware of the risks they may be taking.”