Bitcoin Swaps
Can bitcoin swaps pave the way for the mainstreaming of bitcoin?
The popular view of bitcoin has come a long way since Steve Forbes’ “Whatever it is, it’s not money!” evaluation. To many would be users and investors, however, bitcoin still proves to be a less than safe investment. There is, however, a possible solution: Bitcoin swaps may prove a viable and appealing option for merchants and investors intrigued by bitcoin but wary of its volatility. Bitcoin swaps allow parties otherwise reluctant to take part in a bitcoin transaction by minimizing risk.
A currency swap, according to Wikipedia, “Is a foreign-exchange agreement between two institutions to exchange aspects (namely the principal and/or interest payments) of a loan in one currency for equivalent aspects of an equal in net present value loan in another currency.” It’s a way of fixing exchange or interest rates before a transactions takes place, in a way that benefits both parties. Currencies swaps help “minimize foreign borrowing costs” and “could be used as tools to hedge exposure to exchange rate risk.” This is where the potential for bitcoin swaps comes into play; buyers or sellers wishing to deal in bitcoin with hesitant parties can now minimize risk. By agreeing on a fixed rate before the transactions, two parties can exchange bitcoin for goods or services as they would any other currency.
In March 2014, CoinDesk reported on the possibility of the “first bitcoin swap.” Tera Group Inc. “claims to have created the first bitcoin swap and hopes the new derivative will allow financial institutions to hedge the volatility of bitcoin.” This framework was put in place in part to pave the way for two American institutions to conduct a multi-million dollar swap with minimized risk, and that it would “hedge the value of bitcoin against the US dollar.”
Bitcoin swaps are inherently more complicated than traditional currencies swaps, due to bitcoin’s uncertain status. That is, regulatory approval for Tera Group’s swap framework depends on whether bitcoin is considered a currency or a commodity by the CFTC. According to the same article, “it is not clear whether the CFTC even has authority over digital currencies,” but, if bitcoin is considered a commodity, “Tera might get regulatory approval after all.”
It remains unclear whether they ever received regulatory approval, or if the bitcoin swap in question ever took place. A recent article in the The New Yorker, however, cites a bitcoin swap between individuals selling a Stradivarius and the Leo Group. The swap, as noted in the article, consists of “a newly created framework would hedge the risk, so that the agreed-upon dollar price would be guaranteed for both buyer and seller, despite fluctuations in the value of bitcoin.” The CFTC approved the “unprecedented transaction,” marking a unique instance in which the old world meets the new. By brokering a transaction in which a Stradivarius is exchanged for bitcoin, the Leo Group is helping usher in a new era in which bitcoin can be perceived as a trusted and acceptable form of payment. That is, if such old-meets-new transactions become common, bitcoin can begin to establish itself in mainstream commerce.
And, while the Stradivarius/bitcoin transaction is a literal example of the old meeting the new, it’s also indicative of bitcoin swaps in and of themselves. That is, “currency swaps” are an established means to hedge risk and increase a deal’s attractiveness to both sides. By offering the same appeal, perhaps bitcoin swaps can further encourage the mainstreaming of bitcoin.
