- BitMEX is fully owned and operated by HDR Global Trading Limited, which is registered in the Republic of Seychelles, an archipelago notoriously light on corporate regulation
- BitMEX’s flagship product is an XBT-USD perpetual swap that tracks a bitcoin-dollar index
- Arthur Hayes, CEO of BitMEX, has jokingly referred to his customers as “degenerate gamblers”
Crypto derivatives are essentially bets on whether the price of bitcoin or another cryptocurrency is going to go up or down. And for retail investors who dream of winning big, the most popular platform for placing those bets is BitMEX, a largely unregulated Hong Kong-based exchange that has been sneaking into the news of late.
Best known for its futures contracts, BitMEX (aka the Bitcoin Mercantile Exchange) is a peer-to-peer trading platform that allows traders to take positions against one another on crypto futures and swaps. The platform, available in five languages (English, Chinese, Russian, Korean and Japanese), then settles the trades exclusively in bitcoin.
Founded in 2014, BitMEX is fully owned and operated by HDR Global Trading Limited, which is registered in the Republic of Seychelles. An archipelago in the Indian Ocean, Seychelles is notoriously light on corporate regulation and does not require companies to pay taxes or undergo audits.
Run by a staff of more than 100, BitMEX touts itself as the most liquid bitcoin derivatives exchange in the world. On a typical day, it handles between $1 billion to $2 billion in volume, the bulk of which comes from North Asia. In the U.S., the Cboe Futures Exchange and the Chicago Mercantile Exchange also offer bitcoin futures, but in a conventional regulated environment— while NASDAQ may be joining them soon. But, according to a recent report from CryptoCompare, these financial stalwarts only do a fraction of the volume that BitMEX does.
Behind the curtain
The person behind BitMEX is Arthur Hayes. Athletic and energetic, Hayes, 33, went into finance after graduating from the University of Pennsylvania’s Wharton School in 2008. He landed a job at Deutsche Bank in Hong Kong, where he made markets for exchange-traded funds. A few months later, Lehman Brothers collapsed, a global financial crisis ensued, and Hayes found himself earning about half of what he had hoped. By early 2013, he moved to Citigroup but was let go in May of that year in a round of job cuts.
Looking for the next thing to get into, Hayes began dabbling in bitcoin. At the time, Bitcoin was just above $100, but by November 2013, it would climb to $1,200, hitting its first price peak. Initially, Hayes made money through arbitrage—taking advantage of bitcoin’s price differences on spot markets. He also began trading bitcoin futures on Russian platform ICBIT. Founded in 2011, ICBIT was the only bitcoin futures exchange at the time.
It was not long before Hayes thought to launch his own crypto derivatives exchange. In January 2014, he reached out to his network and pitched the idea to Ben Delo, who had experience in high-frequency trading systems, and Sam Reed, a full stack web developer. The two became his partners and BitMEX went live in November of that year.
“I learned a lot while I worked at Deutsche Bank and Citibank,” Hayes told TechinAsia. “The most profitable products a bank offers are derivatives. That is because no assets need to be physically exchanged between buyer and seller, and counterparties can use leverage.”
Leverage is when you borrow funds to trade at a higher value than what you put down.
Hayes has done well for himself. In 2017, during the height of the crypto craze, when the price of BTC spun all the way up to $20,000, BitMEX pulled in $83 million in revenue, according to an earlier story in Bloomberg. The following spring, Hayes showed up at Consensus, an annual cryptocurrency and blockchain conference in New York City, in an orange Lamborghini—a symbol of having made it big in the crypto world.
Rolling the dice
In the right hands, derivatives can be effective tools for hedging risk, but they are complicated instruments not recommended for novice traders. Though, Hayes claims his primary customers are retail investors, a group he jokingly refers to as “degenerate gamblers.”
BitMEX offers futures contracts for eight cryptocurrencies. Its flagship product is an XBT-USD perpetual swap that tracks a bitcoin-dollar index. The swap is similar to a futures contract, but with no expiration date. Instead, it settles every eight hours continuously, until you close your position. Buyers can go long or short and leverage up to 100x. Hayes says the 100x is more of a marketing ploy, and most people only leverage up to 8.5x. (In August 2018, BitMEX also launched an ETH-USD perpetual swap, though Hayes calls ether a “double digit shitcoin.”)
If all the stars align, the potential is there to win big on a swap. But with greater leverage also comes greater risk. As an example, say you were to put up 1 BTC (worth about $4,000) and bet long on an XTB-USD swap with 100x leverage. According to BitMEX’s house rules, if bitcoin were to drop even $20 (half of a percent), you would lose all of your equity.
BitMEX has become so notorious for sweeping cash out from under new traders who don’t fully grasp the ins and outs of trading on the platform that there is even a BitMEX liquidation bot on Twitter called @BitmexRekt that tracks those who have blown their margins.
Fees for trades can add up quickly. The platform charges a trading fee of 0.075 percent on bitcoin and 0.25 percent on less liquid offerings. Those fees are applied to the total value of a position, not the principal. And opening and closing a contract counts as two trades, not one.
Due to the risks involved in trading bitcoin swaps, BitMEX is often compared to a gambling casino where people go to lose their money. In an Unchained interview in May 2018, Hayes put it more elegantly: “It’s more like a game of poker. We take a slight rake, or trading commission, from matching trades, so technically speaking, it is not gambling because you don’t know that you’re going to lose money the second you step onto the platform.”
Allegations of insider trading
Earlier this year, BitMEX raised eyebrows when it announced it was running its own “for-profit” market maker. A market maker is an individual or a firm that stands by every second of the trading day ready to buy (bid) and sell (ask) orders immediately, usually with the help of bots.
Hayes made the announcement in a blog post on April 30, 2018. “In order to entice others to provide liquidity, we funded an entity that would quote as soon as a new product listed,” he wrote. “As the product became more liquid, this entity would scale back it’s [sic] quotes and focus on another product with lower liquidity on the BitMEX platform.”
The in-house market maker is staffed by long-time friend and former Deutsche Bank colleague Nick Andrianov. Hayes said that the “affiliated entity” is focused on altcoin contracts. It trades over the counter with counterparties globally and also acts as the “anchor market maker” for the company’s new UP and DOWN option contracts. Typically, anyone can trade both sides of a contract. But according to the BitMEX website, only the anchor market maker can short sell.
“These are fully collateralized products, meaning the BitMEX market maker must post the full notional [value], even if the premium paid by the client is small,” Hayes told The Block in an email. “For most market makers, this is too capital intensive, but this ensures if a client correctly predicts the future, the client is paid in full.”
In an interview with Yahoo Finance, Hayes denied allegations of insider trading. Of the in-house market maker, he said: “They are a customer too. It is treated like any other account.” He emphasized that the desk is in a separate location and can’t see the books, so it has no special advantages over other traders.
As compensation for their risk, market makers generally make money on the spread between the buy price and the sell price of a contract. But according to Hayes, BitMEX’s in-house market maker’s earnings consist of a “service fee” paid for by the platform. “In terms of trading PNL [profit and loss], the market making desk’s goal is to be break-even,” he wrote.
BitMEX is also known for its frequent server overload problems. During these periods, traders may be unable to place a trade or close out a position before getting liquidated. One Reddit user claims he lost 43 bitcoin this way. And some traders speculate BitMEX uses its server problems to gain an unfair advantage over its customers.
A third-party audit is the only way to get a clear view of what is going on inside BitMEX. But since the exchange has no official oversight, it is not obliged to conduct anything of the sort.
BitMEX could soon see its fortunes change.
U.S. regulators consider bitcoin and other virtual currencies commodities, but they are still up in the air as to whether many cryptocurrencies, such as XRP, are securities or not. Commodity and foreign exchange derivatives fall under the oversight of the Commodity Futures Trading Commission (CFTC). And derivatives that reference securities fall under the purview of the Securities and Exchange Commission (SEC). Because BitMEX is not registered with either regulator, it cannot lawfully allow U.S. citizens to trade on its platform. (BitMEX would need to register with the CFTC and to play it safe, at least request a “no action” letter from the SEC, particularly since it lists an XRP futures contract.)
To prevent U.S. persons trading on its platform, BitMEX blocks IP addresses coming from the U.S. along with other jurisdictions, like Iran, Syria, and Crimea, where its services are banned. Blocking IPs is not foolproof, however. Anyone can easily set up a virtual private network (VPN) that hides their real IP address. (A third-party Youtube video titled “How to log into BitMEX from the United States” explains how to do this.) Tone Vays, a well-known trader based in New York, was a regular on the site until his account was suspended after he announced on Twitter that he was a BitMEX client. (Vays was using the platform’s affiliate program to get a percent of commissions from referrals.)
Additionally, laws in many countries, including the U.S., Canada, and the UK, require businesses that transmit money to implement know-your-customer (KYC) procedures. But the only identification BitMEX requires of its traders is an email address. In a presentation over the summer, Hayes spoke on how KYC slows down the process of opening an account on an exchange.
“The easier it is for me to get on the platform and trade, the more volume I am going to do on that particular platform,” he said.
Being an offshore company doesn’t put crypto exchanges out of the range of U.S. regulators either. In 2016, the CFTC fined Bitfinex, another Hong Kong-based crypto exchange, for offering unregulated margins. And more recently, the CFTC joined forces with the SEC, and the Federal Bureau of Investigation (FBI) to bring charges against 1Broker, a bitcoin derivatives exchange, and its Austria-based CEO Patrick Brunner. An offshore company, 1Broker was charged for allegedly violating federal laws in connection with securities swaps and not implementing KYC.
Plans for the future
After hitting an all-time time high in December 2017, bitcoin has been steadily dropping in price. By May 2018, it was at about $9,000, having lost more than half its value. But that did not stop Hayes from telling CNBC he believed bitcoin would soar to $50,000 by end of the year. “It’s my job to make predictions,” he said. “Whether or not they are right or wrong, it doesn’t matter to me.”
The drastic downturn in the crypto market also has not deterred Haye’s aspirations to turn BitMEX into the largest trading platform in the world for a range of assets. In keeping with those plans, in August 2018, BitMEX moved from a modest office in Hong Kong’s warehouse district to the swank Cheung Kong Center, where it is leasing the entire 45th floor for nearly $600,000 a month. The skyscraper’s other tenants include Bank of America, Barclays, Goldman Sachs, and the Securities and Futures Commission of Hong Kong (SFC).
Along with moving next door to the SFC, there are other signs that BitMEX may be ready to engage with regulators. Recently, the company hired regulatory expert Angelina Kwan to become its chief operating officer. Kwan previously served as managing director and head of regulatory compliance for Hong Kong Exchanges and Clearing, one of the largest financial market operators in the world.
Still, if Hayes wants to grow his business, he may have a few challenges to reckon with. The drop in crypto markets could drive traders away from the space. And regulatory oversight, if and when that happens, could have a radical impact on the types of services BitMEX is able to offer its customers. But for now, Hayes appears willing to roll the dice and get away with what he can.
Correction (December 10, 2018): An earlier version of this story said that the daily volume on BitMEX is between $4 billion to $5 billion. While it may have hit those numbers earlier in the year, these days the volume is closer to $1 billion to $2 billion.
Correction (December 8, 2018): A previous version of this story incorrectly stated that according to U.S. regulators, all derivatives are securities overseen by the SEC. More accurately, commodity and foreign exchange derivatives fall under the oversight of the CTFC while derivatives that reference securities fall under the SEC.
Amy Castor is an independent journalist and a frequent contributor to Bitcoin Magazine. She began her career creating content for high tech companies. Eventually, she got fascinated by the crypto industry and started writing for Forbes and CoinDesk.