The Impact of Derivatives Trading on Bitcoin Spot Market Volatility

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Bitcoin fell another 14% against the USD this past month. Or maybe bitcoin held steady as the dollar rallied. Depends what universe you live in.

Last week, Silicon Valley Meets Wall Street panelists theorized that the introduction of derivatives markets would reduce bitcoin price volatility.

Do highly-leveraged bets stabilize their underlying markets?

Options and futures expiration dates see increased trading volume and volatility. Investors have to close out of their positions, sometimes options holders try to push underlying prices in their favor, or some take stock positions to hedge their options exposure.

Enough speculation. Let’s look at historical markets following the introduction of derivatives trading. I read all this shit so you don’t have to.

MarketsEffect on volatilityReference
Kuala Lumpur Stock ExchangeincreasePok & Poshakwale 2004
Korea Stock ExchangeincreaseBae, et al 2004
Spanish Stock MarketdecreasePilar & Rafael 2002
Italian Stock ExchangedecreaseBologna & Cavallo 2002
Indian Stock MarketdecreaseBhaumik et al 2008
Athens ExchangedecreaseAlexakis 2007
Crude oilno effectFleming & Ostdiek 1999
Dow Jones Industrial Averageno effectRahman 2001

An oft-cited reason for decreased volatility is due to the increase in information efficiency. But maybe it has something to do with the fact that most of these are emerging economies. If a country is undergoing such a period of progress that it is introducing a futures market, the economy is probably stabilizing.

Hence the lack of effect in more-established markets (DJIA, crude oil).

Similarly, most cases of rising volatility are associated with disruptions in the underlying economy. The Asian financial crisis of the late 90s surely had some effect on Malaysia and Korea.

Anyway, Bitcoin. TeraExchange was the first CFTC-approved swaps exchange, but BTC derivatives are still nascent. Bitcoin volatility will decrease. Maybe from derivatives trading, or maybe bitcoin adoption spreads and we see increased liquidity. Or maybe everyone gives up on bitcoin and prices stabilize at zer0. I don’t see that happening, I think more and more people will begin to buy Bitcoin with PayPal and cause it to normalize.

TeraExchange’s live market feed appears to be broken, so here is a snapshot of CryptoFacilities.

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