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Lets say when the futures expire today on settlement date, does the seller of the future actually literally sell BTC on the open market so he can pay the cash to the Future buyer/holder? I was told the BTC futures market is cash settled.

  • Why would this be different than the way the market for futures contracts affects any other asset? – quid Jul 2 '18 at 21:26
  • Well bitcoin is not a physical asset so I'm not sure how they would actually hold the asset in this case ... – omega Jul 2 '18 at 22:10
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    @omega you can buy corn futures while never taking delivery of a single bushel. – ApplePie Jul 2 '18 at 22:18
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Although trading Bitcoin futures doesn't require at any point trading actual Bitcoin, the futures market affects the cash market (and vice versa) through arbitrage. Some traders watch for discrepancies between futures and cash -- e.g., if the cash is lower, then sell futures and buy Bitcoin for a small but nearly risk-free profit by expiration (the futures settlement offsets the gain or loss on the Bitcoin). This trade, in turn, brings the markets closer together. The existence of these arbitrage traders means that futures and cash prices move together and the demand and supply of one is communicated to the other.

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Taking for example CME's bitcoin futures, those are futures financially (i.e. cash) settled. This means that on settlement date the losing party is going to pay the winning party the difference between the contract price and that spot price at the settlement date. This difference is calculated on the underlying -- in this case Bitcoin -- and is paid in the settlement currency (here USD). There is no need to buy or sell Bitcoin to settle this contract.

Do note that as the market evolves, it's possible that contracts with different terms like physical settlement (could happen) or settlement in a cryptocurrency (unlikely to happen soon on a regulated exchange) will pop up and make this a possibility.

  • But where does the actual flow/ point of contact between fiat and BTC occur ? It has to occur at some point which will affect the btc market – omega Jul 2 '18 at 22:11
  • @omega Not the way the contracts on regulated exchanges are currently set up. You buy or sell the contract in USD, pay margin in USD and cash settle in USD. The "link" between fiat and BTC is in determining the value of the contract at different points in time and in calculating margin requirements. This is executed by, simplistically, calculating the difference between the contract price and the price of an index made up of the price of Bitcoin on different bitcoin exchanges. – ApplePie Jul 2 '18 at 22:17
  • Ahh I get it now. However now I don't get how these futures affect the spot market prices when there is actually no effect on demand/supply in the spot market from these futures !! – omega Jul 2 '18 at 22:19
  • @omega you seem to assume that it does so in a significant way. I am not sure it is necessarily the case. One way I see it may do is in transparency and price discovery. Futures contracts give you a sense of where other investors think the market is going. With information from the futures market in mind, it's possible to alter your investing decisions in the spot market. Obviously, with physical settled contracts you would have to purchase Bitcoins and deliver them. The means to do so would be outlined in the contract's specs. – ApplePie Jul 2 '18 at 22:30

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