BitMEX describes its growing insurance fund - currently worth over $75 million - as a “needed” reservoir for supporting its unlimited upside model of leveraged trading, citing the “unique challenges” associated with operating outside the institutional financial system and its safeguards.
According to CryptoCompare’s most recent exchange review, the Seychelles-registered exchange hosts the vast majority of the world’s bitcoin perpetual derivatives/futures trading, consistently in the realm of 90-95% - far more than the US-regulated CBOE and CME markets combined.
In light of pointed criticisms levelled at BitMEX’s insurance fund in the past (see below), this most recent update from their well-regarded Research arm is likely a response to the claims.
BitMEX Research compare their operations to those of their institutional competitors, such as the CBOE and CME. In doing so, they enumerate several layers of protection available to those institutions, which BitMEX must cope with not having.
They emphasize that solvency is especially important for institutional actors, whose market positions can be so large that failure to support trades could result in a general hazard to financial/social stability.
Don’t hate, appreciate the BitMEX insurance fund. https://t.co/fIba5Y085u— Arthur Hayes (@CryptoHayes) February 11, 2019
Thus, an extremely robust system of assurances exists to fund such institutional clearing houses, eventually finding recourse in legal and even government action to support solvency - which BitMEX, of course by choice, have no access to.
Hence BitMEX’s mechanic of reclaiming the entirety of a losing trader’s position after it reaches its margin limit, also know, as “liquidating,” which occurs in lieu of the equivalent “margin call.” BitMEX use this liquidation to pay winning traders, in addition to adding to the insurance fund - if and only if market liquidity is “tighter than the maintenance margin.”
BitMEX make the case that this c. 21 thousand bitcoin fund is needed to cover gains owed to traders, pointing out that the fund has been entirely liquidated before (within five minutes, no less), and could happen again.
So are BitMEX customers overinsured? The post gives a counterexample: In March 2017, the day the Winklevoss ETF was rejected, Bitcoin's price dropped 30% and depleted the insurance fund, causing ADL to happen. What it doesn't mention: The fund had only 66 BTC in it.— Hasu (@hasufl) February 11, 2019
Others have seen this giant fund as excessive, and even as perverse incentive for BitMEX to trade against their own customers - allegations which the exchange has denied.
Independent crypto researcher Hasu has in no uncertain terms called the fund “larger than it needs to be” (at a time when the fund was considerably smaller) and speculated that BitMEX may use the fund as a “second additional income stream other than commissions.” By way of evidence, he observed that money periodically goes missing from the fund.
Regarding today’s release, Hasu took to Twitter in a response thread.
While taking issue with the fund’s size, Hasu ultimately considers it a secondary concern. His “main concern” is with the status of the fund’s ownership; namely, the insurance fund is squarely controlled by BitMEX rather than “an external insurer or industry consortium.”
PS: No matter how you turn it, traditional exchanges don't make money when customers get liquidated. BitMEX does.— Hasu (@hasufl) February 11, 2019
This crass misalignment of incentives births all kinds of other speculation: Does BM weaponize server problems? Does it trade against their customers?
CryptoGlobe reported last month on the possibility that US authorities could shut down the offshore exchange, for failing to take adequate measures in keeping North American users off its platform.