By José Manuel Ortiz, head of Clearing & Repo Operations at SIX
The cryptocurrency market has grown astronomically in recent years, going from fringe groups to mainstream finance. At peak, market capitalisation of the crypto market exceeded $3 billion (£2.5bn). We started with Bitcoin in 2009, now there are thousands of coins traded millions of times a day via central exchanges or decentralised platforms. Key to the growth of digital assets within financial institutions has been crypto derivatives.
For derivatives trading under the European Market Infrastructure Regulation (EMIR), the clearing obligation applies to EU firms that are counterparties to an OTC derivative contract, spanning FX, equities, credit and commodities. This begs the question, should OTC derivatives on crypto assets be subject to the same clearing obligations, in line with the other OTC financial derivatives?
Institutional market participants are familiar with the advantages of central clearing. First and foremost, central counterparty clearing houses (CCPs) help to reduce systemic risk associated with derivatives trading, introducing more stability into financial markets. And the benefits clearly outweigh the costs when bilateral credit lines are short, or for those products that are subject to higher volatilities, such as equities and financial derivatives.
However, the word ‘stability’ does not often go hand-in-hand with the volatile cryptocurrency markets. Looking at diversification from a business perspective, broadening clearing services towards new asset classes – such as digital assets – provides an interesting point for discussion.
CCPs may choose to focus on a single product to provide maximum netting and scale-economies, or alternatively they may opt to diversify their activities towards a broader range of products. The latter can foster innovation to be worked into portfolio margining solutions where margin efficiencies across different products could then be achieved. At the same time, clearing several products by a single CCP delivers synergies for market participants, such as cost reduction due to streamlined communication, connectivity, interface automation and on-boarding processes.
Introducing clearing for crypto products though is another matter, creating a hurdle for the clearing industry. Market infrastructure providers are now trying to move fast to deliver regulated, transparent alternatives to investors in digital assets. As the underlying asset is not regulated, market infrastructure providers can only provide services on derivative products. Those crypto derivatives that can be traded in regulated markets and MTFs are subject to the central clearing obligation. However, OTC crypto derivatives are not, unless explicitly covered by future regulation.
For crypto derivatives to become a major asset class in their own right, now is the time to push for these products and the services provided around them to be subject to the clearing obligation, to minimise the risks associated and bring them into mainstream markets.
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