Tue. Nov 19th, 2019

Why is Bakkt good for Bitcoin?

5 min read

Background

Bakkt is a Bitcoin futures exchange and end-to-end digital assets platform founded by the Intercontinental Exchange (ICE), which is the parent company of the New York Stock Exchange (NYSE).

Bakkt describe themselves as being the first end-to-end regulated digital asset ecosystem for institutions, designed for institutional participants and as having best in class market integrity and asset security.

Apart from having the backing of a reputable and influential parent, Bakkt has partnered with many other reputable institutions, including management consulting firm Boston Consulting Group (BCG) and Microsoft as well as major investment firms including Susquehanna International and Fortress Investment Group among others.

The platform that Bakkt has built provides money managers the opportunity to create and sell innovative financial instruments such as Bitcoin mutual funds, pension funds and exchange-traded funds (ETFs).

With all the regulatory approvals now in place, Bakkt is prepared for its official (and long-awaited) launch on 23rd September.

But, what’s the big deal?

Whilst there are already Bitcoin futures available on the market, Bakkt is the first end-to-end regulated ecosystem specifically designed for institutions who must abide by strict regulation. Bakkt’s platform allows institutional investors the possibility to obtain an exposure to physical Bitcoin in a compliant manner.

1. Provides Institutional Investors with compliant access to Bitcoin

Bakkt is a major milestone for Bitcoin, and it is important because it offers traditional institutional investors that are restricted by what they can invest into the opportunity to finally take an exposure to physical Bitcoin in an environment that is compliant with strict regulations set by the Commodities Futures Trading Commission (CFTC) and the New York State Department of Financial Services (NYSDFS) .

This means institutional firms that want to create new Bitcoin investment products such as ETFs have the opportunity to start doing so. And these newly created products will give financial advisors who previously had their hands tied by regulation the opportunity to start promoting a wide range of Bitcoin-based products to their clients.

As a matter of fact, there has been much talk and widespread acceptance among the financial community regarding the benefit of having a small exposure to Bitcoin since its performance is uncorrelated to traditional financial assets.

Bitcoin as an asset class is perceived to have hedging properties that are useful to client portfolios, helping to minimise portfolio variance and standard deviations – of course when exposed in small proportions – because we all know that Bitcoin is a very volatile asset class.

2. Provides Institutions with Bitcoin Custody Services

Bakkt is allowed to hold custody of customer Bitcoins. The ability to have a secure facility to safely store Bitcoin in a compliant manner is extremely important for opening up the market to the wider institutional community.

A highly compliant custody service gives institutions peace of mind. And because of this, in time, institutional investors may start to feel more comfortable investing larger amounts of money into Bitcoin.

So, who are the CFTC and the NYSDFS?

The Commodities Futures Trading Commission (CFTC) regulates the markets for commodity futures and options. Its primary objective is to promote a competitive and efficient futures market and to protect investors against manipulation and fraud.

Meanwhile, the New York State Department of Financial Services (NYDFS) is an entity that launched GDPR-like cyber security regulations for the financial services industry. These regulations are designed to promote the protection of customer information as well as the information technology systems.

What is a futures contract? and how is a Bakkt futures contract different from the CME futures contract?

All futures contracts have an expiry date and are commonly used within the commodities industry – and of course Bitcoin, dubbed the digital gold or gold 2.0.

A futures contract represents a legally binding agreement between two parties to buy or sell an asset at a predefined price today although for delivery at specific date in the future.

So, when a trader buys a futures contract they are taking on the obligation to buy the underlying asset, at an agreed price today, but for future delivery when the contract expires. On the other hand, the seller of the futures is obliged to sell the underlying asset for the agreed price at the expiration date.  

There are of course different types of settlement, with certain futures contracts requiring the underlying asset to change hands and others allowing the contract to be settled in cash.

The former is specifically used by traders working in the commodities industry that require physical delivery and that want to lock in a specific price to hedge their exposure whereas the latter is frequently used by financial traders and speculators to settle in cash, unless they want kilos of bananas or ounces of gold delivered physically to their homes!

But, unlike the Bitcoin futures contracts that are traded on the Chicago Mercantile Exchange (CME), which are cash-settled in U.S. dollars, Bakkt futures will be settled using real Bitcoin at contract expiry. This is what makes Bakkt so different and why it is talked about so much in the media!

As a matter of fact, Bakkt have been accepting Bitcoin deposits into their warehouse, and in a Twitter message earlier this month they announced that Bitcoin deposited into their warehouse is protected by a $125 million insurance policy.

So, how will Bakkt trading influence Bitcoin?

Since Bakkt is backed by underlying Bitcoin assets, it means there will be actual buying and selling of Bitcoins in the open market.

These actions may initially create higher volatility for Bitcoin and may even act as a catalyst for driving up the price as more institutional investors (and larger amounts of capital) flow into Bitcoin.

It stands to reason that Bitcoin will also benefit from improved liquidity, price transparency and discovery. These factors will contribute to an overall improvement in the market efficiency of Bitcoin.

And it also means there will be a qualified view on what the price of Bitcoin will look like over a certain period in future.

Anyone interested in learning more about Bakkt may visit their FAQ section, here.

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