To see what’s next for bitcoin and cryptocurrencies (hint: it’s pretty exciting), we can simply look at our past.
In the early 1800s, the U.S. had an agrarian economy. Grains like corn and wheat were hauled from the Midwest to Chicago. There, they were stored before being shipped out to the East Coast.
Sounds simple enough. But traders had to deal with one big problem…
The quality of the stored products would deteriorate over time.
That meant purchase prices had to be renegotiated, so contracts for future prices (called forward contracts) were created.
This was critical. These Chicago-based futures clearinghouses allowed farmers to lock in prices before making a delivery.
Paving the Way for the Second Industrial Revolution
At the same time, not uncoincidentally, the American West went from a hardscrabble backwater to ground zero of the country’s next big leap forward: the second Industrial Revolution (which took place from 1870 to 1914).
Here’s how Richard White describes the transformation in his book Railroaded…
Great swaths of land that had once whispered grass now screamed corn and wheat. Population had increased across much of this vast region, and there were growing cities along its edges.
More than a century later, another great leap occurred at the same place.
The Birth of the Global Derivatives Economy
In 1973, the Chicago Board Options Exchange (CBOE) was set up in – of all places – the former smoker’s lounge of the Chicago Board of Trade Building.
Befitting its humble digs, the CBOE started doing call options on a paltry 16 underlying stocks. By the end of its first month of operations, its average daily volume exceeded the over-the-counter options market.
A year later, its average daily volume reached more than 20,000 contracts. It was on its way. The CBOE added 27 stocks in 1977 and 25 more in 1980.
The derivatives market grew into a mammoth global market. How big?
This past Monday alone, more than 2 million contracts were opened on just stock options, futures and forwards. That doesn’t even include the dozens of commodities now available for derivative trading.
For energy, almost 2.4 million contracts opened on Monday. For metals, more than half a million. For agriculture, nearly 900,000.
You can also make the most popular derivative trade: betting on interest rates going up and down. There were more than 5.6 million newly entered contracts on Monday!
It’s just an unbelievably huge market. And now we see history is about to repeat itself.
We’re About to Begin the Modern Cryptocurrency Derivatives Era
You’ve probably never heard of LedgerX. But you will. Established in 2013, it has developed a cryptocurrency trading platform.
This small startup company may just hold the key to the future of cryptocurrency in the U.S.
The Commodity Futures Trading Commission recently approved registration of LedgerX’s platform as a clearinghouse for derivatives contracts settling in digital currencies.
It launches this month as the first federally regulated bitcoin options exchange and clearinghouse to list fully collateralized, physically settled bitcoin options in the U.S.
If history repeats itself…
If LedgerX succeeds in creating a high-volume liquid exchange…
Then it’s an absolute game changer.
Today, there is no convenient way to short cryptocurrencies. It’s impossible to take any kind of leveraged position on them.
Buying call or put options would meet these needs.
LedgerX founder Paul Chou says, “We believe derivatives on cryptocurrencies will be needed in the long term for people and institutions to manage the volatility around these conversions. This is why we started LedgerX.”
This is groundbreaking.
LedgerX would make the cryptocurrency markets safer and less volatile. And as it attracted more users who hold onto their cryptocurrencies longer (because of lower volatility), digital currencies would become even safer and more stable.
It would mean more liquidity and higher prices without the huge swings we’re seeing now.
Will the SEC Do the Right Thing?
I’d like to think that this is a scenario the SEC would prefer.
But we don’t know for sure. This is the shoe that hasn’t dropped yet.
The SEC could reinforce these developments with “light” regulations. Or it could listen to the naysayers… and issue heavy-handed regulations that snuff out any chance of cryptocurrency developing into a safe and liquid market used by everybody.
Its track record isn’t exactly encouraging.
When CBOE came into being in 1973, many doubted that grain traders in Chicago would be able to offer effective financial tools that were considered too complicated for the general public to use at the time.
In 1977, the SEC issued a moratorium on listing options for additional stocks and revisited the whole issue of creating a centralized options market.
Fast-forward to present day, replace Chicago grain traders with cryptocurrency exchanges, and what we have today is pretty analogous to what we had in the 1970s.
It took the SEC three years to lift the moratorium and issue reasonable regulations regarding market surveillance at exchanges, consumer protection and compliance systems at brokerage houses.
A three-year ban won’t do!
The SEC will likely wait and see how quickly LedgerX’s trading platform and clearinghouse for bitcoin options matures and gains liquidity before hopefully moving forward with rules that enable wider access to cryptocurrency.
One way or another, we all know some form of regulation is coming.
The SEC’s investor advisory board will meet to discuss the ramifications of blockchain and distributed ledgers and their impact on the securities markets on October 12 from 9:30 a.m. to 3:10 p.m.
Those who are interested can watch the event as it’s livestreamed on the SEC’s website, www.sec.gov.
In the meantime, I’m repeating my business partner Adam’s call to contact your elected representatives and let them know that you’ll be watching cryptocurrency government guidance closely.
And, foremost, let them know that the government cannot act to stifle a market on the cusp of entering a new growth stage spurred by the promise of greater safety and liquidity for investors.
Co-Founder, Early Investing