Cryptocurrencies have gained in popularity in recent years as speculative investors have entered the markets looking to take advantage of the recent surges in value. Access to virtual currencies – and especially bitcoin – has become a lot easier
Although cryptocurrencies are still in their nascency compared to many other financial instruments, they have grown in popularity across the trading world among speculators and those aiming to balance their portfolios by spreading risk. And with this surge in demand – which has become a global phenomenon of late – has come a significant number of tools, systems, instruments and platforms on which to trade. Leading the way is bitcoin, the first cryptocurrency, which has enjoyed spectacular growth and provided immense returns for those who got into the market at the right time.
As bitcoin was born under less transparent circumstances and with a number of notable critics raising eyebrows over the efficacy and usefulness of cryptocurrencies, digital currency pros and cons have been widely debated. However, with a number of mainstream exchanges, such as the Chicago Mercantile Exchange (CME) launching bitcoin futures products, more and more financial institutions have entered the bitcoin banking industry on both sides of the trade.
Access to bitcoin markets comes in a variety of standardised ways that will not herald many surprises to experienced traders. There is now a significant number of online trading platforms across the world where buyers meet sellers to exchange bitcoin within regulated marketplaces. Within these ecosystems, a range of clearing houses, full exchange members, and market makers operate as the trades are fulfilled.
Separately, direct trading – or direct access trading – is a form of trading in which stock traders trade directly with market makers using technological packages or platforms to do so. This popular form of trading has grown significantly in recent years, and the technology provider often regulates the system of trades working through the process. Finally, brokerage houses exist that assist in the buying and selling of bitcoin, operating as intermediaries to work through trades. They assist in finding buyers and sellers, overseeing the regulatory structure of a trade, and ensuring the flow of funds between parties.
Regulated brokers are in operation across the globe, offering assistance across financial tools and assets, and in recent years more have begun to offer bitcoin services and many have been spawned that specialise specifically in other cryptocurrencies such as Ethereum, Ripple, Litecoin or a combination of them all. While traditionally, investors have sought out and used brokerage houses to go to markets, and indeed to seek out direction and advice on financial performance, globalisation and the digitisation of financial markets in recent years have made trading platforms and direct trading as much as attractive propositions as trading brokerage house services.
Although the options available to those investors considering bitcoin and cryptocurrency markets have grown so much in the past few years, there is much to consider before entering the market. Each platform has a different set of rules, and may be held accountable to a regulator that could change the shape of the market quickly.
The regulatory structures of the exchange, and how the exchange is governed and by whom, should be a key factor in choosing which exchange to use. For instance, some regulators may be suggesting stemming cryptocurrency activity, which could have an adverse impact on the jurisdiction’s different systems. Further, investors may wish to bear in mind any difficulties in converting funds from one currency into their home currency, including the speed of the transition and the various other risks associated with foreign exchange management.
While geographical restrictions can be weighty when dealing across national boundaries, bitcoin exchanges are peppered across the world so investors are wise to assess the various options available. Much has been made of the fact that bitcoin and other cryptocurrencies currently available in the market allow investors to diversify their portfolios because they hold little relation to other financial tools. However, when international currency exchange is factored in, similar risks – such as fluctuations in the currency due to changes in interest rates and economic factors based on geopolitics – must be borne in mind.
Exchanges all have different fee structures, from one-off payments to percentage charges of any arbitrage earned. Some will have payment methods that correspond with the investors, while others may result in higher charges or slower payments. Some exchanges will make it more difficult to withdraw funds from their systems, enforcing more weighty procedures which could hold up the process of exchanging the funds. Others will allow for instant withdrawal, but may charge substantially higher rates in order for the investor to do so.
Another factor to bear in mind is the list of verification requirements the exchange has in place, used to conform with anti-money laundering procedures and regulations. While these may seem an inconvenience, online exchanges and other financial service providers are frequently the subject of malware and technological attacks, so security is paramount for the exchange’s reputation.
There are many pros and cons to the various different exchanges currently in operation. One of the most widely celebrated is Kraken, which boasts that it has never been successfully hacked. The San Francisco based exchange was founded in 2011, and is the largest bitcoin exchange in euro volume and liquidity. Traders can also utilise the exchange with Canadian and US dollars, British pounds and Japanese yen. Kraken is used by the Tokyo government German multinational financial service provider Fidor Bank, and was the first bitcoin exchange with a trading price and volume displayed on the Bloomberg Terminal.
Also based in San Francisco is Coinbase, which hosts more than thirteen million users globally. The firm brokers the exchange of bitcoin, bitcoin cash, ethereum and litecoin with the various fiat currencies around the world. So far, Coinbase has exchanged more than $50 billion worth of digital currency. Recently the firm announced the launch of its cryptocurrency index fund, which will hold cryptoassets including bitcoin, bitcoin cash, ethereum, and litecoin. The assets will be weighted by market capitalisation, and new cryptocurrencies will be added as they become part of the bitcoin banking industry.
Gdax, Coinbase’s trading arm which will host the firm’s cryptocurrency index fund, has been well accepted by private and institutional traders around the globe, and commentators have acknowledged recent developments in the platform’s technology which has made transactions quicker and cheaper for cryptocurrency traders.
Another US-based exchange, Bittrex, provides cutting edge technology to host a variety of cryptocurrencies and digital tokens. The firm prides itself on the speed of order execution, trader safety, and algorithmic trading functionality. Bittrex consults financial legal professions to ensure that it stays firmly within the confines of the structures established by regulators.
Outside of the US exist a huge number of exchanges offering a variety of different products and services within the bitcoin banking industry. For example, Luxembourg-based Bitstamp, which also has offices in London, offers a host of products and interchangeable cryptocurrency services. The exchange has been noted for its ease of access, and various platforms it offers investors.
But while there is a wide range of exchanges, brokerage houses and cryptocurrency advisors in the market place that offer above board, regulated services, there is thought to be a range of companies set up to scam investors. Indeed, recently, the US Securities and Exchange Commission issue a note to warn investors that there may be a number of firms that are unregulated. There has been a handful of high profile cases that suggest investors need to be careful when choosing a cryptocurrency exchange, such as with Cryptsy, the exchange which defaulted in early 2016 after a hacking incident that cost the exchange 13,000 bitcoins and around 300,000 litecoin, according to reports.
Further reading: How can treasurers use cryptocurrencies?