Study: CME Bitcoin Futures Have a Greater Impact on Bitcoin Price Discovery Than Stablecoin Trading Volume

Wilshire Phoenix data suggests that Bitcoin price formation is driven by CME Bitcoin futures, but would the dynamics be different if stablecoin volumes were also included?

By MARCEL PECHMAN

Translated by: Zion Editor: Rose

On Oct. 14, investment firm Wilshire Phoenix released its “Efficient Price Discovery” report, which details how Chicago Mercantile Exchange’s (CME) Bitcoin (BTC) futures are impacting Bitcoin price discovery.

Wilshire Phoenix concluded that “CME Bitcoin futures contribute more to Bitcoin price discovery than the relevant spot market.” The researchers also stated:

CME Bitcoin futures have become increasingly important, not only in terms of trading volume and open interest, but also in terms of their impact on spot price formation.

Wilshire’s analysis correctly points out that price discovery in traditional markets is a controversial topic. The report also adds that studies on price formation often find that futures markets are more influential in influencing Bitcoin prices most of the time, but this does not mean that their conclusions about CME Bitcoin futures are absolute.

According to the report, CME, a leading derivatives trading platform, trades $5.15 trillion per day across its multiple markets. This figure is in stark contrast to the $430 billion in daily trading volume in the U.S. stock market, according to Nasdaq.

These data suggest that the trend of derivatives volumes outpacing spot volumes by a factor of 10 is the norm rather than the exception.

CME Index Missing a Key “Ingredient”

Documents from the U.S. Securities and Exchange Commission (SEC) show that in June, Wilshire Phoenix applied to establish a publicly traded Bitcoin fund similar to the Grayscale Bitcoin Trust.

It is worth noting that the bitcoin held by the Wilshire Fund will track the Bitcoin price index launched by CME - the Bitcoin Reference Rate (BRR).

In the report, Wilshire Phoenix explained that the CME Bitcoin Reference Rate (BRR) is used to determine the price of bitcoin futures contracts settled in U.S. dollars cash.

CME Bitcoin Reference Rate Components

Source: WilshirePhoenix

It might make more sense for CME and aspiring funds in the U.S. to exclude stablecoin volumes and focus on more regulated exchanges. According to a 2019 Bitwise Investments report, even without Bitcoin price discovery on CME, arbitrage efficiency has improved over the years.

Bitwise’s analysis found that “arbitrage between these ten exchanges is virtually perfect.” Therefore, the CME Reference Index can easily pick a handful of exchanges except for the top three, as there are no persistent price differences.

Although the recent Bitwise Bitcoin ETF proposal has been withdrawn, its price formation differs from its competitors. Bitwise uses a wider range of fundamental components, which also include stablecoin-based exchanges.

Bitwise Bitcoin ETF proposal, March 2019

Source: Bitwise Investments

Those familiar with the cryptocurrency market will know that the market capitalization, trading volume, altcoin trading pairs and their impact on the crypto market have increased significantly over the past two years.

Not only has the market capitalization of stablecoins increased eightfold to $21 billion over the past two years, but the dominance of stablecoin trading pairs and their trading volumes have also grown significantly.

Messari’s Bitcoin “Real Volume”

Source: Messari.io

More worryingly, CME excluded three major exchanges from its Bitcoin reference rate.

The above data leads to huge differences in exchanges’ selection of more inclusive indices, such as Bitwise’s “Real Bitcoin Volume,” Messari’s “Real Volume,” and Nomics’ “Transparent Volume.” Regardless of the reasoning behind CME’s selection of which exchanges to include, its BRR index excludes the top three exchanges, based on Messari’s 24-hour data.

The impact of stablecoins on price formation has not yet been tested

The Wilshire Phoenix report is a step in the right direction, and the methodology of the study is impeccable. There is ample evidence to support their conclusion that CME Bitcoin futures have a greater impact on Bitcoin price formation than regulated USD fiat exchanges.

Although well executed, the analysis does not prove that the Bitcoin price formed by Binance, Bitfinex, Huobi or OKEx does not affect the spot price. Institutional investors (primarily in the United States) may not be interested in the trading volume of less regulated exchanges or the pricing of Bitcoin in stablecoins, but this does not mean that these are insignificant to the formation of the price.

For retail investors, using a wider range of exchanges and pricing mechanisms is more meaningful for examining price discovery of assets such as Bitcoin. This conclusion does not mean that CME's Bitcoin reference rate is wrong or easy to manipulate.

Are lightly regulated exchanges able to amplify trading volume by leveraging market makers and large clients while paying little to no fees? Is Tether’s volatility too high to consider when trying to determine whether it affects Bitcoin’s USD price formation? These are valid questions that deserve further discussion and investigation.

Therefore, before concluding that CME Bitcoin futures contribute the most to Bitcoin price discovery, a broader assessment is necessary.