Markets
Cryptocurrency Exchanges Cracking Down on Prime Brokers Is a Reverse Step for Market Efficiency, Traders Say
As the world’s largest cryptocurrency exchanges crack down on brokers who bundle clients to take advantage of lower trading fees, some market participants warn the move could harm markets.
Exchanges say they are taking these steps to promote a level playing field for their users, while ensuring they have transparency about the identity of prime brokers’ clients. Others see it as a step backward, at least from the perspective of creating more efficient markets.
Cryptocurrency markets were built for retail clients, first and foremost, which is why they differ so drastically from traditional finance. In mature markets, prime brokers offer institutions the equivalent of a simple bank account, behind which an army of intermediaries securely stores money and assets and facilitates lightning-fast trades across a variety of venues. Prime brokers also provide credit, allowing traders to shuffle and shift positions, with everything settled and settled a day or two later.
Crypto’s ability to disintermediate and deliver real-time settlement over blockchain means that large participants with multiple simultaneous trades have to fund all their positions upfront across a group of large, vertically integrated exchanges. Prime brokers solve this funding problem through their lending and funding component, points out George Zarya, CEO of Bequanta top-tier brokerage serving cryptocurrency clients.
By cutting off brokers’ access to lower fees, exchanges may – possibly inadvertently, possibly not – be making the cryptocurrency market less attractive to them.
“The exchanges have decided that intermediaries are not necessary. They can provide loans as well, right?” Zarya said in an interview. “But they can only provide loans for the positions that are based on their exchange. They cannot provide portfolio margin, which includes their positions across the market. So essentially, we are moving toward less capital-efficient markets.”
Major cryptocurrency exchanges are leaning into “liquidity capture,” said Brendan Callan, CEO of Tradu, a recently launched cryptocurrency exchange owned by investment banking group Jeffries. In other words, they are creating a captive audience model, where trading volume is increased because a user has to continually enter and exit positions on that exchange.
The result is a discrepancy in bid prices on very popular and liquid pairs like BTC/USDT from one exchange to another, Callan said. The discrepancies between exchanges would look “crazy” to a conventional currency trader, he said, because liquidity providers release everyone to a prime brokerage account behind the scenes so they can make markets on any other exchange.
“What that means is that you don’t have this friction of counterparty risk limits across all these exchanges. But the crypto exchanges themselves are insisting on it because they want that capture,” Callan said in an interview. “They want you to have to enter and exit positions on their exchange because it increases their volume, but it comes at a cost to the quality of their liquidity. There’s not as much market depth behind each quote and it’s very sporadic.”