For many people, exchanges serve as entryways to the crypto marketplace. Thus, it’s prudent for investors to monitor developments that impact these key financial institutions. In that regard, here’s some important news for cryptocurrency investors.
Coinbase wants more coverage
Coinbase may set up its own insurance company, according to blockchain news website CoinDesk.
The popular U.S.-based cryptocurrency exchange is reportedly in talks with insurance titan Aon (NYSE:AON) to create a “captive” insurance business. The subsidiary would be wholly owned by Coinbase and provide a regulated, audited, and segregated entity in which to store funds set aside for insurance purposes.
Cryptocurrency exchanges are frequent targets for cyberhacks and other forms of theft. As an example, Japanese crypto exchange Bitpoint announced that it lost $32 million in a hack just days ago.
As such, most exchanges have found traditional forms of insurance to be prohibitively expensive. In turn, many exchanges have chosen to set aside fiat currencies and cryptocurrency reserves in order to self-insure their businesses. A captive insurance structure could help to make this process more efficient.
Due to their regulated and audited operations, captive insurance subsidiaries can make it easier and cheaper to obtain reinsurance. Essentially, reinsurance helps insurance companies reduce their risk by purchasing protection from other insurance companies.
All told, should Coinbase decide to move forward with its captive insurance plans, it could set a precedent for other cryptocurrency trading platforms to follow — one that might help to lessen the chances of another catastrophic exchange collapse.
Binance adds margin trading
While Coinbase is trying to reduce risk, Binance’s new service offering could introduce new hazards for investors. The largest cryptocurrency exchange by trading volume recently announced the launch of its margin trading platform.
Margin trading allows investors to leverage their digital asset positions with borrowed funds. Binance will offer leverage of up to 3-to-1. For example, an investor with one bitcoin can borrow two more. Margin will be available for both long (bullish) and short (bearish) positions.
“This is another step in providing an inclusive cryptocurrency trading platform catering to the needs of both advanced institutional traders and retail traders under the same roof,” CEO Changpeng Zhao said in a blog post. “We are providing a new tool in the financial services and cryptocurrency markets to help amplify trading results of successful trades.”
Margin trading can certainly amplify results — both to the upside and downside. It therefore presents a greater risk to investors.
This is particularly true when margin trading is applied to cryptocurrency, which can be highly volatile. As an example, traders who leverage their portfolios 3-to-1 can be wiped out by a 33.3% decline in the underlying value of their cryptoassets. While that may seem like a severe drop for traditional financial assets such as stocks and bonds, many cryptocurrencies have seen their value plunge by more than 30% in a single day.
Although Binance acknowledges these risks, it says it’s giving its customers what they want.
“Though the current cryptocurrency market and legacy platforms for margin trading poses greater risks and benefits at the same time, we are confident that its development coupled with more knowledge on proper risk management will help realize greater benefits in the long run,” Binance co-founder Yi He said. “With margin trading being one of the most requested services from our community, this is a testament to the large market demand from retail and institutional traders alike and its promising possibilities in the future.”
However, while it’s clear that margin services are in high demand, what crypto traders say they want — and what’s ultimately in their best interest — may turn out to be two very different things.
It’s also possible that forced liquidations on Binance’s high-volume trading platform — which occur frequently on other exchanges when leveraged traders are forced to exit their positions after suffering large losses — could help to bring about increased volatility in the crypto markets.