The next step for bitcoin is ETFs

Bitcoin is up more than 50 percent this month, crossing $10,000.

What's exciting investors is the expanding derivatives market for cryptocurrencies, which is adding some much-needed legitimacy.

Last month, LedgerX, an institutional trading and clearing platform, began trading bitcoin options.

The Chicago Mercantile Exchange and Cboe are set to roll out bitcoin futures soon.

The assumption is that the trading of bitcoin futures will bring the next logical move: bitcoin exchange-traded funds, which will bring more attention to ETFs and further push legitimization of bitcoin. These are technically listed as exchange-traded products, since they would only be trading a single commodity, in this case bitcoins.

Regardless: "ETFs will bring a LOT more capital to bitcoin," Eric Ross, chief investment strategist for Cascend Securities, wrote in a note to clients.

Here's the problem: The SEC, which regulates ETFs and ETPs, is not enamored with cryptocurrencies.

In March, the SEC denied the BATS Exchange request to trade shares of the Winklevoss Bitcoin Trust — an ETP that would own bitcoins directly — on the grounds that the rules of a national securities exchange were "designed to prevent fraudulent and manipulative acts and practices and to protect investors and the public interest."

The SEC concluded that bitcoin was an unregulated market, and because of that it would be unable to enter into surveillance agreements with other relevant agencies, such as the Commodities Futures Trading Commission and the Financial Industry Regulatory Authority.

A similar request by ETF firm VanEck for a bitcoin ETF that would hold derivative instruments ran into similar problems.

VanEck withdrew its application in September.

You can't really blame the SEC for being worried, Dave Nadig, CEO of ETF.com, told me: "They are concerned that bitcoin is unregulated, so to them it is not unreasonable to say that it is subject to manipulation and fraud, and giving it exposure to a regulated market like the ETF exposes the SEC to a lot of potential problems."

Fair enough, but it begs the question: What does it take to be a regulated market? Ben Johnson, who runs ETF research for Morningstar, said that establishing a futures market might go a long way toward addressing the issue: "If bitcoin futures see the light of day, then I'd expect a slew of filings for futures-based ETFs," he wrote to me.

The SEC itself hinted that this may be the solution, in the decision rejecting the Winklevoss application: "The Commission notes that bitcoin is still in the relatively early stages of its development and that, over time, regulated bitcoin-related markets of significant size may develop."

Perhaps. But think about it: Bitcoin itself was designed to be unregulated, it seems to me. While the blockchain has not been hacked, the platforms that support the cryptocurrencies have been hacked. And no one is watching over those groups.

You can see why the SEC is concerned.

One piece of good news: Bitcoin futures will enable traders to short bitcoin, a welcome development.

Another piece of good news: With the passage of time, there are more platforms, more participants, more maturity, for cryptocurrencies.

Does that make bitcoin more valid? The SEC seems to be saying, not necessarily.

Source: Bloomberg Pro Terminal

Jr Trader Alexander Kumanov

Read more:

• Bitcoin is changing hands for $24,000 in Iran, based on the “Official” exchange rate
• Tendayi Kapfidze: “bitcoin is a pyramid scheme
• Want to Invest in Crypto? Think About Buying Stocks
• According to this rumor: A single Bitcoin whale was responsible for the astronomical price hike in 2017
• Libra faces strong opposition and China embarks on a race to launch its own global cryptocurrency