American investment bank Morgan Stanley is reportedly preparing to offer Bitcoin swap trading to its customers, according to Bloomberg.
Anonymous sources told the outlet that the institution is ready to begin, but is waiting for “proven institutional demand” and for the move to be internally approved.
What Are Swaps?
A swap transaction is when two parties agree to exchange income ‘earned’ via respectively-held financial derivative contracts. One of the cash flows is fixed, while the other is changeable according to some pre-agreed variable, such as an exchange rate, interest rate, and so on. The contracts themselves do not usually change hands.
As should be clear, these contracts are very complicated, and so they usually only take place between businesses, and not via an exchange.
In the case of Morgan Stanley, we are talking about ‘price-return’ swaps, which means that clients would pay the firm a fixed amount, and receive money back according to the price of Bitcoin futures.
What Are Bitcoin Futures?
A futures contract is basically a promise to buy a certain asset at a certain price at a certain time. The asset may not actually ever be purchased, and the futures contracts can be, and are, traded as if they were goods themselves. Bitcoin futures contracts (that is, where Bitcoin is the asset theoretically sold) are one of the few Bitcoin finance hybrids that have been approved by US authorities.
They are currently available at CME Group and CBOE, two major financial institutions in Chicago.
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Futures and Swaps
So, the Bitcoin swaps would be a financial derivative based on the price of another financial derivative.
In the US, swap trading is regulated by the Commodity Futures Trading Commission, and so is legal, as are futures contracts. The CFTC released guidelines to building a cryptocurrency-based derivative in May.
This is in contrast to that country’s other major financial regulation authority, the Securities and Exchange Commission, which deals with securities. It has yet formalised the status of tokens sold in an ICO, that is, if they constitute shares in a business. It keeps shooting down the attempts of numerous firms to gain approval for Bitcoin exchange-traded-funds, which are a way for investors to bet on the price of Bitcoin via a kind of share-sharing arrangement.
The Derivatives Market and Bitcoin
Financial derivatives are the bread and butter of financial institutions, and over the last year or so we have seen increasing numbers of these companies involving themselves with Bitcoin.
For example, in May 2018, Goldman Sachs announced that it would soon begin trading with clients on a “variety of contracts linked to the price of Bitcoin” using its own money, and in that same month it was reported that the parent company of the New York Stock Exchange, Intercontinental Exchange, was developing its own Bitcoin swaps.
In August 2018, SBI Crypto Investments of Tokyo, a subsidiary of a massive Japanese financial corporation, bought a chunk of an American company called Clear Markets (which is a subsidiary of a different massive Japanese financial corporation), with the aim of establishing another company which will make it easier to trade complicated financial contracts based on Bitcoin.
According to Investopedia, the value of the financial derivative market has been estimated at over $1 quadrillion, or more money than actually exists in the world. Bitcoin, of course, is an infamously volatile asset. Many feel that the involvement of the derivatives market will help push the price of Bitcoin back up to its 2017 highs.