Key Points on CFTC Comment Period for FTX US Application

Background

FTX US filed with the CFTC last year an application to amend its clearinghouse license so that it can clear leveraged derivatives products. Today, FTX US only clears fully collateralized products. The license amendment would allow FTX to offer competitive digital asset derivatives products – other CFTC-licensed exchanges already offer leveraged digital-asset products. The amendment also would introduce a risk-management system for these products that is real-time based and safer for markets given its reliance on pre-funded collateral placed with the clearinghouse.

While the CFTC’s rules do not require that clearinghouse license applications be the subject of public comment, the agency issued a request for public comment (https://www.cftc.gov/PressRoom/PressReleases/8499-22) related to the market structure offered by FTX US, and asked specific questions related to the FTX US application. The CFTC extended the original comment period of 30 days to 60 days, now ending May 11, 2022.

Key Points

The FTX US Market Structure Is Familiar to the CFTC. In 2021, FTX US acquired LedgerX, which has been licensed by the CFTC to operate an exchange and clearinghouse for nearly 5 years. The market structure, therefore, reflected in FTX US’s CFTC exchange and clearinghouse operations is familiar to the CFTC, and is one other CFTC venues offer to their customers.

The FTX US Application Would Usher in More Choice for Investors. Past and current administrations’ economic-policy goals include disbursing market power in all sectors in order to serve the best interests of consumers and promote the economic health of the U.S. The FTX US application promotes these goals.

• Particularly as it relates to BTC and ETH futures, most U.S. volume trades on one exchange. Other platforms have tried to list BTC and ETH futures, but have had limited success because of the overall market and network advantages that incumbent exchanges enjoy.
• Unlike other platforms that have tried to compete on crypto derivatives in the U.S., FTX has a direct-to-investor pathway to the exchange that enables investors to access the market through an app on their mobile device, an attractive user experience for retail investors in particular. This combined with other features of FTX US’s overall product offering positions FTX US well to meaningfully attract liquidity to its platform for these derivatives products, which will thereby position FTX US to compete in the U.S., should its CFTC application be approved.
• Giving investors the choice to access markets directly, without needing to rely on other institutions including banking institutions for access, will help shift market power toward the end investor. This also will help minimize “too big to fail” systemic-risk concerns that policy makers have been addressing since the 2008 financial crisis. Investors still will have the choice to use intermediaries if they wish.

The FTX US Application Ensures Protections for American Investors in Digital Assets. FTX is permitting retail investors to get access to products previously only available to well-resourced and powerful investors able to connect to complex, traditional-markets infrastructure. But the FTX model also ensures that key investor protections are in place.

• Working with the CFTC, FTX has developed a method to ensure the key investor protections legally required (but normally afforded by FCMs) continue to be provided. These include risk disclosures, AML/KYC compliance, and market integrity through rigorous surveillance
• These protections are provided by the exchange platform when the investor accesses the platform directly.

The FTX US Application Will Reduce Risk: 24x7 assets need a 24x7x365 risk and margin model. It’s too risky to allow risk to accumulate overnight and over weekends in a world with around-the-clock news, especially for markets where price action in the underlying spot markets is occurring around the clock, or is influenced by world events.

• Additionally, because the business model and market structure require fewer intermediaries, the number of interconnection risks between financial institutions in the overall market ecosystem is minimized, reducing system risk
• This market structure also reduces other operational risks because of its relative simplicity compared to other models, presenting fewer risks to the platform as well as the end investor, and making it easier for the platform to manage risk overall.
• FTX chooses how much margin to extend solely based on the collateral actually posted to the platform. Traditional platforms tend to base margin extension decisions on off-platform assets; this exposes clearing organizations to significant credit risk. FTX’s model eliminates this credit risk.

The FTX US Application Would Re-Assert U.S. Leadership in the Digital Asset Marketplace. Approval of FTX US’s application will pave the way for more trading volumes in digital assets to return to the U.S.

• Digital-asset platforms like FTX US’s have evolved market structure and provided new and different products for investors to both trade and use for other investment purposes (among many other use cases).
• This model has not enjoyed as much regulatory certainty in the U.S., although the CFTC has clearly asserted jurisdiction over derivatives for Bitcoin (BTC) and Ethereum (ETH). Nonetheless, more than 90 percent of trading volumes for derivatives on BTC and ETH trade outside the U.S.
• CFTC approval of the FTX US application will allow U.S. and other investors to trade derivatives on BTC and ETH on the type of platform popularized for spot markets and markets outside the U.S., providing choice for U.S. investors to trade these assets onshore.