The growing interest in the cryptocurrency markets has led to many market participants asking for trading tools that can improve pricing and liquidity formation, along with safer ways of transacting off-exchange and cross-exchange clearing and settlement for greater capital efficiency. Comparisons are often made to the foreign exchange markets where Central Bank issued currencies are traded. In the FX market, ECNs, aggregated liquidity venues, and other sophisticated trading tools are prevalent. Further, Prime Brokerage services, which are offered by a handful of top global banks, are designed so that trading counterparties do not have to face each other from a credit, counterparty, and settlement risk point of view. Under these agreements, counterparties trade with each other as agents of their banks so that, legally, they only face the banks as counterparties. The burgeoning cryptocurrency market has no Prime Brokerage solution, raising substantial barriers for institutional investors and traders interested in organizing all of the available liquidity in one place or accessing it efficiently and safely.
OTCXN has developed a proprietary blockchain-powered platform that provides a technology solution for traders to face each other with no counterparty or settlement risk, and without depending on Prime Broker or Prime-of-Prime credit. Each trader’s collateral remains at its own custodian. This collateral is then digitized and issued onto OTCXN’s blockchain network, where it can be proven pre-trade and, at the time of a trade, match in real-time. Each trade is consummated as an atomic exchange digitally signed by both parties to the transaction and recorded on the OTCXN blockchain.
OTC Crypto Trading Phenomenon
The cryptocurrency market faces a number of barriers to institutional adoption that are exacerbated by the lack of a Prime Brokerage solution. Barriers include poor liquidity on many isolated exchanges and other structural impediments to liquidity formation. As a result, even modest sized orders can adversely affect prices for the whole exchange, materially increasing the cost of trading.
The market impact incurred when trading on the highly fragmented liquidity at crypto exchanges has spurred many of the largest institutions trading cryptos to trade over-the-counter (OTC) or off-exchange. This introduces major counterparty and settlement risk because these transactions are currently performed with one side having to wire money to the other side and wait for crypto to be moved to its wallet (or vice versa). Somebody has to go first and face the risk of total loss. Obviously, the largest clients performing these transactions are only dealing with counterparties they believe they have some recourse against, necessarily limiting the number of eligible counterparties, which again, reduces the total available liquidity. OTCXN has developed a complete OTC Block Trading solution that eliminates the trading counterparty and settlement risk and provides a functional equivalent to Prime Brokerage in the crypto market. Using blockchain, digitized collateral, and smart contract functionality, a technical escrow is created where there is no risk for the initiator. Either the trade occurs atomically as a single concurrent transaction with both sides of the trade executed, or it times out with nothing done.
OTC Block Trading of Fiat vs. Crypto on OTCXN
OTCXN’s OTC Block Trading functionality is intended to enable trading entities that wish to trade off-exchange safely over the OTCXN network to interact with other trading entities with a a simple Request For Quote (RFQ) workflow, or on an Unsolicited Order basis. The primary intent of the OTC Block Trading tools is to support off-exchange Fiat vs. Crypto trading that can be bilateral and negotiated, though any assets can be traded with the solution. The user has full control over which counterparties it will send orders to and receive orders from, using a suite of specialized tools. Both RFQ with firm or negotiable rates are supported, as well as manual booking of trades done off-platform, e.g., over the phone.
Advantages of OTCXN Model for Crypto Trading
Non-Custodial: Substantial risk of loss from security breaches, fraud, and system errors are inherent due to all crypto exchanges holding custody of client assets, unlike conventional asset exchanges. OTCXN is not a custodian of any assets and is not a part of any multi-sig on client crypto wallets. Each Client selects a custodian that is a member of the OTCXN network and directly open its account and/or wallet account with that custodian.
Atomic Exchange: OTC trading on the OTCXN platform is performed as an atomic exchange. Each trade is done as a single irreducible unit using a smart contract-based technical escrow. The exchange of two counterparty assets is performed simultaneously without risk of loss to either counterparty and without a trusted third-party intermediary.
Provability: The existence of assets being exchanged, or collateral backing any new order or resulting open position in a contract, such as spot FX, is independently and cryptographically provable. Trade order details and order matching is provable and carries with it one of the key elements of blockchain: undeniability of the transaction due to digital, cryptographic signatures of all parties to the transaction.
Efficient Collateral: Digitized fiat and crypto can remain on the OTCXN network indefinitely and need not be redeemed or moved after each trade. This means that assets are immediately available for further trading, increasing the velocity and efficiency of capital.
AML/KYC: Each member of the OTCXN network will undergo AML/KYC clearance by the approved custodian at the time of opening an account with such custodian.
OTC Order Workflow and Features
The OTC Block Trading interface for RFQ orders allows for opening and tiling inbound and outbound order tickets. Many orders can be actively worked concurrently as a two-way channel between counterparties, with visual indications of when a decision/action is required, including visual time-in-force indicators on any order with a time limit. Outbound and Inbound indicators are prominently displayed on the top of each order ticket to indicate if the RFQ or Unsolicited Order is a new or updated Outbound Order being sent to one or more counterparties, or if the submission is in response to an Inbound Order from another counterparty. Unsolicited Orders can be sent to one or more counterparties and will be either Filled, Rejected or Negotiated, where negotiated orders can go back and forth between counterparties until filled or rejected.
New order tickets can be used for Manual Booking of a deal that has already been negotiated and agreed outside the user interface, e.g., over the phone or chat. Upon submission of the deal ticket by the party initiating the manual booking, the ticket will be sent to the user interface of the specified counterparty marked as a Manual Booking for acceptance by the counterparty and completion of the trade as an atomic exchange, as previously described.
Active Order View
The Active Order View is a panel that shows the most recent active orders segregated by Outbound and Inbound orders, with the most recent time-stamp on top. Any of the orders can be expanded to the docking full size open order ticket where it can be worked by the trader. Any order that is open in the full-size docking order ticket is removed from this view, and when closed, if still active, will go back into the queue in the Active Order View based on the time stamp of the most recent state change.
The user interface provides control over a range of preferences that will affect order routing and trading functionality. One critical aspect of this is counterparty management. Each User can set its identity to be viewable by counterparties or choose to remain anonymous, as well as specify whether it will accept inbound RFQ and/or Unsolicited Orders from disclosed and/or anonymous counterparties. Both the custodian of a counterparty and the counterparties themselves, whether disclosed or using an anonymous identifier, can be moved to an approved or blocked list where exceptions can be specified, such as disallowing anonymous, but specifying a specific anonymous counterparty, as approved. Counterparty statistics are available, including whether any counterparty has traded in the past, last trade date, volume, fill ratio and date added to the approved/blocked list.
Order Management Preferences
Users can specify whether they allow/disallow inbound Unsolicited Orders. When set to “allow,” approved counterparties may send firm orders with a time-in-force timeout that may be immediately accepted or rejected. Users can further specify whether they allow/disallow Counter Quotes which, when set to allow when providing outbound quotes to counterparties in response to an inbound RFQ, they may negotiate by submitting a counter offer with a specified counter quote. Counter Quotes can be accepted or rejected or further negotiated by returning a Counter Quote in the other direction, allowing for flexible back and forth negotiations.
What’s Next – Crypto ECN
OTCXN will leverage its ability to perform cross-exchange clearing and settlement in the crypto market to launch an ECN that will aggregate native resting orders with global liquidity, including quote driven market making, OTC desks, and all participating crypto exchanges, into a single consolidated order book behind an institutional grade FIX gateway that supports high-frequency trading. Smart Order Routing will route orders to external exchanges and market makers and the Matching Engine will match orders between different crypto exchanges for the first time in history. As with all trading facilitated by the OTCXN network, all assets are held at traders’ and exchanges’ own custodians, mitigating the risk of loss associated with security breaches and removing counterparty and settlement risk. Institutional investors will be able to give their regulators, auditors and fund administrators strong assurances by holding their assets at a single custodian with provability of the assets on deposit, as well as all transactions, which is lost when depositing and trading directly on crypto exchanges.