“In stark contrast to FTX”: CFTC’s Romero explains why Cboe gets nod for crypto futures clearing
“Too often in recent years, crypto firms have sought to take a business model or market structure that exists in an unregulated environment and port it over to the regulated environment […] Cboe has not done that, instead operating within the parameters of the traditional futures market structure and regulatory framework.”
The Commodity Futures Trading Commission has approved an amended order of registration for Cboe Clear Digital, LLC (Cboe Clear) to clear additional products as a derivatives clearing organization (DCO) under the Commodity Exchange Act.
A derivatives clearing organization (DCO) is an entity that enables each party to an agreement, contract, or transaction to substitute, through novation or otherwise, the credit of the DCO for the credit of the parties; arranges or provides, on a multilateral basis, for the settlement or netting of obligations; or otherwise provides clearing services or arrangements that mutualize or transfer credit risk among participants.
The milestone for Cboe Clear will allow the firm to provide clearing services for digital asset futures on a margined basis for futures commission merchants, in addition to the fully collateralized futures and fully collateralized swaps previously authorized.
Cboe Clear’s parent company, Cboe Digital Exchange, LLC, is registered with the CFTC as a designated contract market.
“In stark contrast to FTX’s application for a bespoke disintermediated direct-to-customer market structure”
CFTC Commissioner Christy Goldsmith Romero has issued a statement in support of the approval of Cboe to expand its clearing of futures contracts on crypto assets while staying within the traditional U.S. futures intermediated market structure.
The regulator stated that she requested additional measures for critical risk mitigation, and only with those measures she would support the application.
In addition, the CFTC Commissioner commented that Cboe’s application stands in stark contrast to FTX’s application for a bespoke disintermediated direct-to-customer market structure. “The proposed FTX model was never adopted by the Commission, but it put at risk customers’ bankruptcy priority, other customer protections, and financial stability.”
In October, while FTX’s application was pending, CFTC Commissioner Christy Goldsmith Romero stated: “The CFTC should continue to use its existing authority, following a “same risk, same regulatory outcome” approach. This starts with establishing the basic foundation of customer protections and guardrails that investors and customers are familiar with, and expect from other regulated financial products and markets. Crypto companies seeking to come within the CFTC-regulated derivatives markets should expect the application of our existing regulatory framework because it has a proven record of reducing financial stability risk. As companies seek bespoke treatment, I will be guided in my decisions by the twin pillars of financial stability and customer protection, in particular for retail investors. Crypto companies set up for an unregulated environment will need to change to look more like a regulated entity. On balance, regulators must be careful in allowing bespoke treatment that could increase financial stability risks—risks that are well in check with our existing framework.”
“Cboe does not seek bespoke regulation”
Cboe’s application also differs from other registrants and applicants that have proposed bespoke market structures that could introduce financial stability risk and other risks, CFTC’s Romero added.
“Cboe does not seek bespoke regulation that differs from the time and stress-tested traditional market structure. CBOE’s amended Order provides fair competition, without opening the door to novel and complex risks that could flow from an untested market structure.
“Additionally, Cboe’s clearinghouse itself has been registered with the Commission since 2019, and its parent company Cboe has more than fifty years of experience operating exchanges across regulated futures, options, foreign exchange, and equities exchanges. This experience can further serve to limit risk with the financial and human capital, as well as risk management expertise, that Cboe has in executing the responsibilities associated with regulated trading and clearing in other asset classes.
“Finally, in connection with seeking the expanded authority under the Order, Cboe has agreed to hold itself to a higher financial-resources standard than the law requires. This recognizes the heightened risks associated with clearing in a nascent marketplace, like crypto, and acts to limit risk.
Cboe Clear under strict supervision
As to customer protections, cybersecurity, and clearing-system safeguards and guardrails, CFTC’s Romero said these will be strengthened by four significant measures:
- Staff Advisory on Supervision of Heightened Risk: “The comprehensive oversight approach reflected in the advisory will continue to be critical in monitoring markets and supervising risks for those regulated entities where we have approved applications, such as CBOE. It will also be critical as the Commission considers other applications to expand clearing into digital assets or for new registered entities.”
- Strengthened Cybersecurity Related to Cboe: “CBOE has agreed to annual SOC 2 audits, giving it regular reports and findings with respect to the design and effectiveness of Cboe’s own financial and operational controls. These audits will serve as a useful oversight tool both for Cboe and the Commission and are a best practice to reduce cyber and operational risk.
- Strengthened Cybersecurity Related to Third Parties: “Under the revised framework, Cboe will require all “high risk” third-party services involved in custodial or wallet services to provide their own SOC 2 Type II reports to the clearinghouse on a regular schedule […] This control comes as a lesson learned from the ION Markets attack.
- New rulebook to protect the integrity of derivatives markets: “Cboe agreed, in particular, to amend Rule 301(f) of its rulebook relating to General Eligibility Requirements of Clearing Members to disqualify any applicant for clearing membership if it, any affiliate, or any associated principal is subject to statutory disqualification(s) under section 8a(2) of the Commodity Exchange Act. In other words, Cboe will not admit any clearing firm that has been found to have violated a provision of law identified by Congress as significant enough to prohibit a firm—without a hearing—from engaging in a CFTC-regulated business.”
“Too often in recent years, crypto firms have sought to take a business model or market structure that exists in an unregulated environment and port it over to the regulated environment. The CFTC does not have a window into the risks associated with models or structures in an unregulated environment. Cboe has not done that, instead operating within the parameters of the traditional futures market structure and regulatory framework. It has constructively engaged with the staff and my office to address concerns related to risk, and implement risk-mitigating measures. For these reasons, along with the staff advisory that recognizes our existing authorities in a supervisory framework for continued monitoring and supervision of heightened risk that could harm customers and markets, I approve.”
