BitMEX Develops Bitcoin 'Derivatives' Based On Price Movement For Investors To Bet Big On BTC

Crypto World products are gradually being designed Wall Street style with the latest talks revolving around Bitcoin futures. BitMEX is amongst the players that have capitalized on the lacking derivative market for digital assets given the lucrative nature of these contracts.

The firm’s parent company, HDR Global Trading Limited, has a license of operation from Seychelles given the country’s soft approach on regulating corporates. Its product is basically a perpetual swap that keeps track of the BTC-USD index; the ‘XBT-USD’. In one of his comments, the company’s CEO, Arthur Hayes, made a joke about his consumers being ‘degenerate gamblers’.

Basically, this project allows interested cryptopreneurs to place bets on the price movement of altcoins. The Bitcoin Mercantile Exchange (BitMEX) operates in Hong Kong where its regulations are minimal therefore allowing a large clientele to access their crypto derivative products. An example of these products is its futures contracts which creates a market for customers to interact via P2P trading and take different positions. At the moment, the services offered by BitMEX are available in 5 languages (Japanese, Korean, Chinese, Russian & English). Its platform transactions are settled via the leading crypto coin ‘BTC’.

BitMEX dates its launch back to 2014 when the firm started off its operations. The firm today prides itself as the leading liquid market for crypto derivatives especially for BTC; the company handles over $4 billion in transactions daily. A larger part of BitMEX product consumers come from North Asia, this is not surprising given the region’s aggressiveness in the blockchain & crypto industry.

Other exchanges that have tried to offer futures within the digital asset world include Cboe & Chicago Mercantile Exchange although both are largely regulated. This is a clear indication of why investors prefer BitMEX hence the large volumes transacted daily.

BitMEX Background

Arthur Hayes, founder of BitMEX, is a former employee of Hong Kong’s Deutsche Bank and a finance graduate of the Wharton Business School. His career began at the peak of the 2008 Financial Crisis which meant earning way lower than he expected. The young CEO later moved to Citigroup in 2013 but did not stay for long owing to downsizing that occurred in May that year. Arthur’s experience in the financial markets include working as a market maker for ETF’s, a fundamental in his crypto business today.

It was then that Arthur decided to join the Bitcoin bandwagon as the market was just gaining popularity. Most of Arthur’s profits back then involved arbitrage opportunities as the markets were yet to agree on a common price for the digital assets. In addition, Arthur traded in BTC futures that were available within Russia’s ICBIT platform where he also made some profits.

Arthur’s venture in crypto derivatives began not long after the 2013 encounter with Bitcoin. He approached two strategic partners in early 2014 in order to create BitMEX. The two fellows; Sam Reed and Ben Delo with whom Arthur launched BitMEX in November 2014 are web developer & high frequency trading analyst respectively.

According to a comment from Arthur, his experience in the corporate world taught him a lot that he has leveraged to the digital currency market. In his opinion, derivatives fall among the high income products in Investment Banking since no physical assets are involved for this contracts. Furthermore, consumers can increase their position through leveraging which in turn improves the profit making prospects for the market maker.

Statistics from Arthur’s company show a successful crypto market player; his revenue from 2017 show a hefty $83 million as told by Bloomberg. The CEO has also been spotted in a wavy Lamborghini as he attended one of the crypto events held in New York City, this is one of the signs of an accomplished crypto corporate.

The Crypto Derivative Arithmetic

Anyone who has interacted with derivatives has probably taken time to understand their complex nature. However, the product’s effectiveness in hedging for risk and speculative motives is highly ranked within financial markets. Arthur says that a good number of his company’s clients are retail investors that have a gambling mentality approach towards the crypto derivatives.

As of press date, the firm offers 8 different future contracts each representing a specific altcoin. Its main product ‘XBT-USD’ remains as the main sale point for the venture as most investors are interested in the BTC-USD index. It operates similar to a futures contract although its settlement design is quite different. Position holders are settled after every 8 hours while the leverage limit is set at 100x. This seems very lucrative although Arthur claims that most clients will only go up to 8.5x. Another product launched by BitMEX in Q3 is the ETH-USD perpetual swap, an altcoin Arthur is skeptical about.

If a client gets lucky, they can actually make huge profits from a swap position they had taken. However, the trick is at the leverage feature which increases a customer’s risk of loss greatly. For example; a client who uses the 100x leverage on one BTC could lose all of this equity if Bitcoin drops by $20 (0.5%). These are based on the house rules established by BitMEX for its derivative buyers.

One of the approaches by BitMEX today is capitalizing on new market entrants who don’t understand the trading design of its platform. The firm goes to the extent of sweeping all their equity once they find themselves in a losing position. As it stands, the firm has extended its oversight on margin blown accounts via a twitter bot @BitmexRekt.

BitMEX charges on transactions is another major pillar for the company’s revenue. They charge transactions on the total value of a deal as opposed to the principal amount; this is 0.075% for BTC and 0.25% for lesser liquid digital assets. The opening and closing of contracts are also counted as separate trades hence increasing the fees charged.

The project has often been compared to a gambling in a casino owing to the uncertainties involved with these positions.

Arthur Hayes defended his company arguing that its end game is different from that of casinos;

“It’s more like a game of poker. We take a slight rake, or trading commission, from matching trades, so technically speaking, it is not gambling because you don’t know that you’re going to lose money the second you step onto the platform.”

Insider Trading Queries

BitMEX’s crypto journey has not been free from controversy; one of the project’s questionable venture is introducing a market maker that is profit oriented. Ideally, the market maker should facilitate liquidity by placing bids and selling positions once they arise. Today’s technology has improved the effectiveness of this process with the use of bots.

A blog post written back in April 2018 highlights Arthur’s comments on creating a market maker for the company’s clients;

“In order to entice others to provide liquidity, we funded an entity that would quote as soon as a new product listed,”

he added that,

“As the product became more liquid, this entity would scale back its [sic] quotes and focus on another product with lower liquidity on the BitMEX platform.”

BitMEX’s in-house is currently run by Nick Andriany, a friend and former colleague of Arthur from Deutsche Bank. The subsidy is charged with handling on digital asset contracts and OTC with counterparties from all over the world. Anyone can take an UP or DOWN position in the available contracts but only the market maker is allowed to short sell according to the house rules set by BitMEX.

Arthur’s explanation of the firm’s payout design to winning customers is quite satisfactory. The BitMEX founder claims that the firm uses collateralized products which means the in-house market maker posts the total value regardless of a client’s premium. Despite its capital intensive nature, Hayes claims that this is the most efficient way to ensure funds are paid out.

When interviewed by Yahoo Finance, Arthur defended the in-house market maker from insider trading claims. The gentleman argued that the account held by this player was no different from other client’s accounts hence no privilege to information that might give them a competitive edge. Specifically, the trading desk is not involved with the books hence the stance taken by Arthur on this allegation.

In order to compensate for their highly exposed position, BitMEX’s market maker capitalizes the profits from the spreads between buy & sell prices. Hayes added that his firm’s in-house market maker also makes money from the fees charged for platform usage. He however was very clear that the market maker in BitMEX is focused on breaking even.

Just like other crypto projects, BitMEX is yet to solve traffic issues which often cause overloads within the hosting servers. The platform has been criticized for failing a couple times hence locking out clients from acting on a contract. One customer has attributed the loss of 43 BTC to this inefficiency while some clients have claimed BitMEX use these scenarios to place them on a favorable position.

The only sure way to get the fine print of BitMEX’s operations is an audit run by a 3rd party. This is subject to the firm’s obligation to disclosure of its information; BitMEX stands at a point of advantage on this as it has no such obligations as an entity.

Escaping Regulatory Jurisdiction

BitMEX is a fairly new firm though experienced in the crypto derivatives market. The firm could soon see its prospects change with the ongoing debate about digital assets especially in the U.S. Today, the regulators are yet to decide on which class of assets to classify crypto coins. Some have been put under commodities while other like XRP are under reg-D securities if sold within the U.S market. Therefore, regulation of these assets when traded in the U.S falls under the Commodity Futures Trading Commission (CFTC) and the Securities Exchange Commission.

The information above simply means that BitMEX would have to acquire registration from both regulators to access the U.S market. It is this reason that has forced the firm to exclude potential clients within the U.S.

Locking out prospective investors from strict countries like the U.S, Iran, Crimea and Syria has been an uphill task for BitMEX. The company blocks IP addresses from these countries, an approach that has some loopholes. Interested customers can simply get a virtual private network (VPN) which hides their original address. The information on how to crack this is already up on YouTube for American clientele.

BitMEX faces more challenges when it comes to KYC practices, this is Know Your Customer approach which is a fundamental of many business & financial laws all over the world. The target countries that implement these include Canada, the U.S and United Kingdom; all are prospective crypto zones despite the stiff regulations. Arthur Hayes believes that the KYC approach is time consuming hindering prospective clients that may increase the volumes greatly.

Going by history, setting up offices abroad has not stopped the U.S regulators from clamping down on crypto based companies. Back in 2015, Bitfinex was fined by the CFTC together with a Hong Kong crypto exchange counterpart; the two had offered margins without regulating. The most recent development is a joint pursuit of 1Broker by the SEC, CFTC & FBI. This Austria registered firm is currently being sort for violating KYC practices and breaching laws affiliated to security swaps.

BitMEX Future Prospects

Bitcoin’s bullish run at the end of 2017 raised the speculation ranges for the altcoin as we began 2018. Arthur Hayes is among the bullish predictors having said at one time that the digital asset would hit the $50,000 mark eventually. When asked about this given the unexpected crypto bloodbath, Arthur defended his position by saying it is within his obligation to make prediction regardless of the outcomes.

The young CEO is still ambitious on creating the most liquid market for digital asset derivatives despite the ongoing poor market performance. From the look of things, BitMEX is doing quite well having moved into a new office space in the expensive Hong Kong economic center. The firm currently pays for a rental space of $600,000 monthly shares the same skyscraper as Goldman Sachs, Barclays & the Bank of America.

Other indications that the firm is grown enough to engage with regulatory bodies include a move to hire Angelina Kwan, a regulatory expert. Kwan is a former employee of Hong Kong Exchanges and Clearing, a leading financial market globally. The new resource will act as the company’s Chief operating officer bringing in the expertise obtained from her career as a manager in the regulations compliance arena.

The journey will and has not been smooth for Hayes especially with the regulatory challenges. BitMEX will have to overcome that and other factors like decreasing demand based on the downtrend in cryptocurrency markets. All said and done, Arthur appears to be optimistic that the prospects will favor his business and accumulate what he possibly can till the fate of the industry is known.

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