you wait one month for the Futures contract to expire (Jan 17 th) , let us examine two scenarios by contract expiry Jan 17 th .
case 1: Bitcoin price shoots to $25,000
case 2: Bitcoin price drops to $8,000
In both cases on the futures contract expiry date that is January 17 th 2018, bitcoin Futures price and Spot price will be almost same ( give or take $100)
In both cases professional traders profit is $2000 for each futures contract on the investment of $16,700 Spot + $10,000 future initial price.
That is $2000 profit on $26,700 investment for one month period , that works as 7% return per month, annualized 84% . You may need to deduct cost of money that is interest on investment or loan say 6% per year .
One risk I see is, on the Short sell Futures contract, if the bitcoin is keep rising in price , trader needs to supply more money to meet the margin call ( just a technial issue because he is gaining on the LONG Buy bitcoin spot price )
As others pointed out, when you buy/sell futures, you risk counterparty risk. But it's not that bad because that exchange is really good and people entering the market pay margin calls every day.
There is also a financing cost (ie. the cash you use to pay for your margins, transaction costs, and to buy the bitcoins will not pay you any interests over the time of the position). But again, the effect is not very large.
What really makes arbitraging bitcoin futures difficult is the illiquidity of bitcoins. "Simultaneously" is a hard thing to do in bit coin world where transaction are slow to process and price is very volatile.
And you not only need to do this when you buy into the position, but also when you want to end it. At the end of the contract, you're left with a bunch of bitcoins, and some cash (or not). Now you need to liquidate all those remaining bitcoins. This could take some time, and the price you get in the end could be quite different from the price the future settled into.
That said, the difference between future and spot is likely to become closer as the market professionalizes and more arbitragers get in.
> As others pointed out, when you buy/sell futures, you risk counterparty risk.
Yes, but: There is a chain of companies that have to fail before you incur the loss. The clearinghouse will cover the default first, and bill it back to the clearing broker. So you need someone of the order of Goldman Sachs to fail before counterparty risk affects payments to you.
The bitcoin exchanges have plenty of liquidity, and executions happen in less than one second.
The real risk for arbitrage is with the crypto exchange itself: these can go bust, or disappear overnight. You wanna keep $1M sitting on one of these exchanges?
Wrong kind of liquidity. Trading firms, hedge funds, etc. care care about liquidity of the "Can I convert this into the kind of money I use to pay taxes and employees and investors?" kind. BTC has basically zero of that, as evidenced for the fact that there isn't a deliverable version of this contract.
I'm not sure a sensible institution would even consider BTC held at exchanges to be real BTC, just a kind of IOU. There may even be regulations preventing them from doing so. So they will probably want to hold the BTC themselves. Or with a clearer, which is likely to think about these things even more conservatively. And 20 minutes (the last figure I heard for how long it takes to execute a bitcoin transaction) is an eternity to an industry that is starting to think in nanoseconds.
> I'm not sure a sensible institution would even consider BTC held at exchanges to be real BTC, just a kind of IOU.
Nor should they. BTC held at an exchange is, by any sensible definition, an instantly redeemable promissory note denominated in bitcoins. Several exchanges have defaulted on these types of obligations.
> BTC has basically zero of that, as evidenced for the fact that there isn't a deliverable version of this contract.
How can anyone claim Bitcoin is a useful currency if it's less practical to deliver than, say, KC Winter Wheat?
> And 20 minutes...is an eternity
This is for a futures contract one month out. You would close your position at the same time that you agreed upon the rate for the blockchain transaction. When you sold the BTC you could verify receipt of the USD quickly (fiat FTW), whereas the blockchain propagation time is more of a risk to the BTC buyer.
From my experience, the way you find out there's an issue with the exchange is when you see people posting on /r/bitcoin about having waited weeks for their withdrawal to be processed. Meanwhile the exchange continues to accept deposits.
If you buy bitcoin, I assume it works that you receive btc from a wallet, and that wallet belongs to the exchange. If you sell at an exchange then you send your btc to a wallet, and ...
They could hide transfers by making new wallets, but that's strikes me as massive red-flag behaviour that an exchange wishing to continue in business is unlikely to take part in?
Sure, but you still need to put funds into the exchange to buy the coin in the first place. And likely you would leave the coins there in case the trade goes the otherway. Managing that many coins in your own wallet is a whole other headache. But I guess your point is to not leave much on the exchange at any one time.
True, you're exposed to the exchange at least to enter and exit the trade. But you'd expect sophisticated arbitrageurs to know how to manage their own bitcoin wallets.
Perhaps the discrepancy is there because such people don't exist yet.
Does this remind us of some glorified Ponzi scheme?
How does Bitcoin get hacked? It certainly isn't easy unless you are an insider. And perhaps NSA, since they created SHA-256.
I believe the hacks OP was referencing doesn’t have to do with SHA, but more to do with bitcoin exchange security and not protecting their btc correctly.
I personally just lost $200 on NiceHash; not a big sum, but enough to give me a scare. Its frustrating, because I've had concerns about this happening before, but its so difficult to find a good service outside Coinbase.
> In all these cases. You are likely to loose 100% of the sum you invested.
Nah, for example in case 3 you don't lose your full capital. You just have either position open without hedging the risk whatever reason.
Case 4, case 5, for you to lose your full capital it has to happen for both exchanges.
There are risks and I'm not saying that it might make sense to take those risks, just saying that you are now giving equally wrong picture of the risks.
When you buy base and simultaneously sell future contract, you effectively lend your money to other counterparty. In ideal market this should be equal to interest on loan (as you mentioned).
There are two possibilities of what is really going on:
- either there are not enough arbitragers yet
- or you should factor in commissions, fees, ease of transferring money between exchanges, etc
> When you buy base and simultaneously sell future contract, you effectively lend your money to other counterparty. In ideal market this should be equal to interest on loan (as you mentioned).
Good point. But the interest on what amount, exactly? You need both 1) capital to buy bitcoins and 2) capital used for margin on the futures exchange. The latter amount is unpredictable, and if the bitcoin price shoots to 10x the spot purchase price you will need to borrow ~35% of this amount for margin, thus making the effective interest around 4x the market rate.
So, in short, the amount that the futures contract price will deviate from spot should be proportional to the volatility of the bitcoin price (because you need to borrow an amount proportional to this for use as margin).
But this only applies to cash-settled bitcoin futures contracts. If settled in bitcoins, it should be sufficient to deposit bitcoins at the futures exchange as margin — thus making the price of these, physically settled, futures contracts only depend on the prevailing short-term rate of interest, as far as I can see.
Crypto-collateralized loans are being launched by a startup called Salt Lending. I’m expecting rates to start around 10%, although I’m unsure where I heard that.
https://www.saltlending.com/
What you're missing is that these prices will converge as the Futures market develops and more professional arbitragers get on board. When that happens the gap will shrink significantly and be far less profitable.
Why is there a gap of 11% between the CBOE Future contract price and the BTC Spot price? Should they not be closer in a perfect market? Maybe the gap will be the same on the contract expiry date?
Is this because the arbitragers still need to integrate the CBOE Futures into their system?
Even between bitcoin exchanges, the bitcoin price varies. $17240 on cex and $16310 on bitstamp.
Thought it is not exactly same, but similar case is Where you pay Premium with Stock Options to have the right RIGHT to buy the stock one month from now.
Regarding cex & bitstamp they are exchange out side of USA, each of them have different Risk factors associated to each of those exchanges, that is why that price difference .
Coinbase and CBOE are both US based exchanges and are under govt. regulation and are reputable than any other bitcoin exchanges in the world.
Is 11% not a huge time value premium for something that expires in a month? Can we compare the time premium with the interest rate? I have traded options, but never futures. With options there several components that increase the premium besides just the time component.
According to [0] futures shouldn't have a time premium because both parties are obligated to to fulfill the contract.
As you stated in the OP, the 11% spread should be a "riskless" arbitrage. If so, I suspect that this spread will decrease.
It is a huge premium. In reality it should only be the future value of the current spot, given the current interest rate. For other types of futures (oil, grains) that have storage costs or seasonality there are other factors that affect the difference between the spot and future price, but for financial futures (especially cash-settled) it should be nearly no difference for a one-month expiry.
You are correct it trades to Gemini's spot price, but you are wrong in terms of the difference between the two. As I write this there is a 5 cent different between GDAX and Gemini.
in general they are very close but at times of extreme volatility they can differ quite a bit, as was the case several days ago when GDAX surged up past $19,000/BTC and then crashed.
Has a lot to do with trader preference. Stable exchange platform, 1256 contract tax treatment, the list goes on and on. A large scale arbitrage may not be feasible. In addition, market makers on the futures market are likely working off of a sizable inventory/pool of BTC. And they are likely pricing in a fat premium on top of anticipated buy orders. So they’re effectively acting as arbitrageurs. Bid-ask spread plus futures premium. 10-12% is rich but understandable.
Liquidity I assume. It may be difficult to sell $25,000 worth of Bitcoin at the settlement price on the settlement date. Slippage could be more than the $2,000 profit you estimated. Especially if many people do the same trade.
Let us say, some professional trader "Short sell CBOE Future contract & Buy BTC Spot at Coinbase simultaneously"
At the time of this writing, Futures contract short sell @ $18700 and BTC Spot buy @ $16700 simultaneously. http://cfe.cboe.com/cfe-products/xbt-cboe-bitcoin-futures
you wait one month for the Futures contract to expire (Jan 17 th) , let us examine two scenarios by contract expiry Jan 17 th .
case 1: Bitcoin price shoots to $25,000
case 2: Bitcoin price drops to $8,000
In both cases on the futures contract expiry date that is January 17 th 2018, bitcoin Futures price and Spot price will be almost same ( give or take $100)
In both cases professional traders profit is $2000 for each futures contract on the investment of $16,700 Spot + $10,000 future initial price.
That is $2000 profit on $26,700 investment for one month period , that works as 7% return per month, annualized 84% . You may need to deduct cost of money that is interest on investment or loan say 6% per year .
One risk I see is, on the Short sell Futures contract, if the bitcoin is keep rising in price , trader needs to supply more money to meet the margin call ( just a technial issue because he is gaining on the LONG Buy bitcoin spot price )
Am I missing some thing ??