Coinbase (COIN), the cryptocurrency exchange that acquired the largest crypto options platform, Deribit, for $2.9 billion earlier this year, anticipates a surge of traditional finance (TradFi) institutions adopting digital asset derivatives for investment or hedging, according to Usman Naeem, global head of the Nasdaq-listed company’s derivatives sales.
These institutions, becoming increasingly aware of globally regulated crypto derivatives, are often asset managers with a fiduciary responsibility to engage in speculation or strategies beyond merely providing liquidity, which is primarily the domain of market makers, Naeem expressed in an interview with CoinDesk. They are expected to predominantly emerge from the U.S. and Europe and represent a fundamentally different class of firms.
“Historically, the majority of trading activity, likely over three-quarters, occurred in Asia,” Naeem noted. “I believe we will see a rebalancing, with institutions based in the U.S. and Europe, outside the market-making sphere, entering the derivatives space.”
Founded in early 2012, Coinbase originally functioned as a bitcoin on and off ramp before evolving into an exchange that successfully captured a significant share of the spot market, which was primarily in the U.S. However, from 2017 onward, innovations such as perpetual futures caused about 85% of volume and liquidity to migrate outside the U.S., especially to the APAC region.
In response, Coinbase acquired FairX, a derivatives platform registered with the Commodity Futures Trading Commission (CFTC) in 2022, aiming to offer U.S.-regulated futures. This was followed by the acquisition of Deribit in May.
The shift in the crypto derivatives market from Asia and locales like Dubai, where perpetual contracts are favored, is expected to involve a strategic transition that aligns more closely with traditional finance, Naeem indicated. Traditional asset managers are no longer content to simply purchase $10 million or $20 million of bitcoin, he stated. They seek to scale their investments in a risk-managed manner, utilizing derivatives for hedging.
“As more long-term holders enter the market with risk management strategies, I anticipate a development in volatility services that mirrors practices in traditional finance,” Naeem remarked. “Rather than merely speculating on a 50% increase in bitcoin, they might opt to sell some upside to fund protection against downside risk. These dynamics could significantly transform volatility services, enhancing liquidity and stability, resulting in a more reliable and comprehensible derivatives market.”
While this perspective is promising, one must consider events like the crypto flash crash earlier this month, which resulted in approximately $7 billion in liquidations over a very brief period. Could such extreme volatility deter institutions from participating?
Naeem clarified that flash crashes are not exclusive to the crypto space, and largely, the infrastructure supporting the digital asset sector functioned as intended.
“Liquidations occurred, and the processes worked as designed,” Naeem stated. “It’s important to recognize that the dynamics of perpetual futures operate quite differently than those of either centrally cleared futures or spot markets, necessitating tighter risk controls to unwind positions. Additionally, remember that everything transpired within a window of roughly 12 minutes.”
