The proverbial free lunch is just sitting there in the hours-old bitcoin futures market. So why isn’t it being gobbled up?
Cboe Global Markets Inc.’s new contracts were priced as much as 13 percent higher than bitcoin itself since trading began Sunday night, according to data compiled by Bloomberg.
That should have arbitrage traders salivating, especially among market makers starving after their — already successful and hugely profitable — efforts to make other similar assets trade in lockstep. Pity the poor S&P 500 arb living off spreads well below 1 percent, or merger arbs in the U.S., where the median gap is just north of 1 percent, according to data compiled by Bloomberg.
“Arbitrage will close that gap, but it will be days and weeks,” Cboe Chief Executive Officer Ed Tilly said on Bloomberg Television Monday, less than a day after launching the product.
Arbs make money when two strongly related assets converge in price, selling the one they consider pricey, buying the other, profiting off the difference.
Their job is a little complicated with these futures. Bitcoin’s wild volatility makes it harder to predict where the most-active contract, which expires in January, will settle, Tilly added. Only a few thousand contracts have traded so far, perhaps not enough to exert much influence on the cryptocurrency. And some investors might be willing to pay a premium for futures on a regulated market instead of going to the trouble of creating accounts at bitcoin exchanges, which have been repeatedly hacked with millions of dollars worth of tokens stolen.
“People feel a lot more comfortable in the futures on the Cboe than on an unregulated exchange,” said Kevin Kelly, managing partner of Benchmark Investments, which analyzes futures markets to develop indexes.
Then there’s the fact that when the Cboe contracts expire, buyers get cash, not bitcoin itself. When a derivative is cash-settled, that tends to weaken links to an underlying asset.
“If you’re doing a cash-settled future, it’s just a bet,” said Aaron Brown, a former managing director at quant hedge fund AQR Capital Management who invests in the cryptocurrency and writes for Bloomberg Prophets. “If that’s not related to any underlying physical transaction, the only people who want to do it are gamblers.” The wide arb spread is “a big issue. It’s an illiquidity, it has to go away.”
Soon, Cboe won’t be the sole regulated exchange offering bitcoin futures. Rival CME Group Inc. will launch its own contracts on Dec. 18. And Nasdaq Inc. is planning to bring a competing product to market next year, Bloomberg News recently reported.
The price gap between bitcoin and bitcoin futures won’t last forever, said Dave Weisberger, CEO of CoinRoutes, a cryptocurrency data and order routing company.
“The futures will ping-pong between premium and discount,” he said. “I suspect at some point, potentially triggered by a negative event, it will flip. Markets go up and down, and bitcoin has been no different. It’s just been fast.”
— With assistance by Jennifer Surane, Brian Louis, and Mathieu Benhamou