FTX brought and debated a disruptive approach of The Clearinghouse model in front of the U.S. Congress today by proposing two new, key features: direct clearing access sidestepping autocratic control of futures trading, and automated liquidations of margin positions.
Whether FTX’s proposal succeeds is almost irrelevant.
FTX Founder Sam Bankman-Fried opened a pandora’s box of democratic, automated futures trading. Congresspersons and investors alike shall discuss this in the months ahead.
It’s essential to review the mechanics of margin trading quickly. An initial margin, often 50%, represents the proportion of the futures order value required to open a position in the form of securities in safekeeping. If the price of the underlying security drops, so does the value of the initial margin, possibly prompting a margin call.
This is an immediate call for money so to come back to normal, lest your position is sold. In America’s current model, two clearinghouses control more than 95% of futures trading volume. In FTX’s model, it’s democracy.
Why Do We Need It?
FTX’s proposal highlights the overdue rehaul needed for futures trading within American borders. There is no federal oversight for digital asset futures trading while most of it is offshore. In addition, collateral and risk management processes are not yet well defined.
As cryptos expand worldwide and the trading volume of centralized crypto exchanges grows 689% year-over-year to $14 trillion, we must consider the future. Therefore, let’s ask the question: Can centralized clearinghouses best manage cryptocurrencies born from the hope of democratic access to spending power?
Why Would We Not?
Not even the most critical panelist, CME Group’s Chairman & CEO Terrence Duffy, could say there is no need to reform futures trading, particularly with digital assets. And every person in the room understood the need to maintain the U.S. Dollar as the world’s reserve currency.
It boils down to automated clearing and hedging default (margin) risk. The House Committee on Agriculture held this hearing today because farmers and the economy’s backbone must never be caught in wild volatility swings.
What’s Next?
Intense review, analysis, collaboration, and back-and-forth possibly spanning for months. This is not because FTX’s proposal is radical. No, because it’s disruptive.
From today’s hearing, it’s clear that risk management remains the number one priority in the digital asset world for both Sam Bankman-Fried and fellow panelist Christopher Perkins of CoinFund Management. Nobody feels otherwise.
Automating and democratizing the pillars of a healthy futures market brings much-needed added value. However, legacy futures market users like farmers, must be protected from unnecessary margin calls. Sam has given every indication he’s onboard to finding a solution.
