FIN 330 Test 3

#2 on the Howey Test

- if you're promoting your ICO as a way to make money then you are promoting a security according to SEC -If you are promoting your token as a preorder of a new product with no future ROI, then you are likely in the clear with regulatory compliance

Issues in Cryptocurrency: Lack of regulation

-Cryptocurrency Act of 2020- provides regulatory framework for digital assets including cryptocurrencies -Bitcoin ETF creation attempts (SEC disapprove) -Know your customer- confirm identity of user or computer -Anti money laundering- end income generation practices for illegal activities -Combatting the financing of terrorism- blocking sources of funding for terrorism -Article: CC exchanges regulation -4 steps: customer acceptance policy, customer identification program, monitoring of transactions, risk mgmt

ICO Process: 3. Choosing the launching platform

-Ethereum, waves, NEM provide tools and services to launch the ICO

Issues in cryptocurrency: Bans

-India recently introduced a law that would effectively ban possession, trading and mining of CCs -China bans mining and trading but not posession

HFT Cons

-Lack of regulations and transparency encourages illegal activities -strain exchange infrastructure and causes glitches -may increase adverse selection against uninformed traders -impact on market quality depends on HFT strategy

Howey Test

-Sec uses this set of rules to determine if the ICO is a tradable security or not -If ICO fails, it is subject to same regulations as public stocks and they must be registered and follow strict securities laws

Stablecoins examples

-Tether- pegged to USD -DigixGold Tokens (DGX)- pegged to gold -DAI- pegged to Ethereum using smart contracts

How has the trading environment changed in the past 20 years

-all trading done online now -supercomputers -overall trading system is very complex with multiple venues, pricing schedules, etc. -Computational power requirements are huge -speed is crucial to take advantage of trading opportunities

Issues in cryptocurrency: IRS

-bitcoin is now treated like property (like a stock) and any capital gain is taxable regardless of the source of gain -Article: How is bitcoin taxed?

Stablecoins cons

-centralized (beats the purpose of CC) -requires 3rd party, not very popular yet

Current HFT issues

-colocation -HFTs purchase access to firm's clients -HFTs benefit from the market by reducing arbitrage

Stablecoins pros

-create stability in CC trading pairs -can be used in daily transactions

Blockchain pros

-decentralized- no middlemen btw counterparties so no extra fees and waiting times, no central authority -durability and security-impossible to fake or steal a single record (need to do it on all computers) -transparency- need to get access to the ledger, but there's no personal identifiable info -Variety of diverse real life apps

Utility tokens

-digital assets designed to be spent within a certain blockchin ecosystem -Ex: SiaCoin

STablecoins

-early spinoff of bitcoin (almost identical to BTC) , released under MIT license in 2011 -can be pegged to a CC, fiat money, or exchange traded commodities (precious/industrial metals)

Algorithmic trading pros

-facilitates trading -provides liquidity -reduces cost of trading (bid ask spreads) -Automation (faster and easier execution)

Front running

-involves a HFT firm racing ahead of a large client order on an exchange, scooping up all the shares on offer at various other exchanges (if it is a buy order) or hitting all the bids (if it is a sell order), and then turning around and selling them to (or buying them from) the client and pocketing the difference. -Front-running, in the era of high-frequency trading, is best defined as using the knowledge of a large impending trade to take a favorable position in the market before that trade is executed. Put simply, these traders are able to jump in front of a trade before it can be completed

Bitcoin cons

-low liquidity- easy to buy, hard to sell, hard to convert to cash -slow technology -not completely anonymous -not backed by a stream of income or by govmts -competition from other currencies (altcoins) -used in illegal activities -volatility -not such a safe haven

Acquiring bitcoin

-mining -buying -transfer

Bitcoin

-most popular digital currency -not tied to any country -not subject to regulations -decentralized -some anonymity during transactions -finite # of coins (21 mil) -non inflationary

Blockchain cons

-no middleman -secure, but not immune to hacking (51% attacks) -lack of regulations -energy use

HFT pros

-reduced transaction cost due to competition -market making -provide liquidity in normal times -contribute to price efficiency (arbitrage disappears pretty quickly)

Security tokens

-represent legal ownership of a digital or physical asset such as real estate or artwork that has been verified on the blockchain -Ex: tokens that are presented to investors in an ICO in exchange for their money

Bitcoin pros

-secure- uses blockchain technology -offers partial anonymity-wallet owners are unkown -finite number of coins- anti inflationary properties -safe haven in difficult times

Algorithmic trading cons

-strains exchange infrastructure -volatility in the markets -Requires constant monitoring, adjustment, improvement, reinventing -short life span of algorithms -freakout during uncertain market conditions--> liquidity can disappear at any moment

Initial Coin Offering

-the CC industry's equivalent to an IPO -company is looking to raise money to launch a new coin, app or service -investors can buy into the offering and recieve a new CC token issued by the company -mostly completely unregulated so investors must proceed with caution

Non fungible (unique) tokens

-tokens that represent something unique and not interchangeable -Ex: cryptokitties-there are thousands in existence, each one is unoque with their own fur color, eye color, special features, fur pattern, facial expression -could also be used in art, real estate, and memorabilia -tickets, identity, and certification in the future...?

Issues in cryptocurrency: Safe haven

-were designed to be a safe haven due to scarcity and independence from governments and central banks but may not be the case anymore -BTC prices fell amidst a series of crisis events in 2020 -Iranian-US conflict -covid outbreaks triggering a cut in interest rates by the fed -plummeting oil price following a disagreement btw Russia & OPEC -Article: Is Bitcoin Still a Safe Haven?

Howey Test Rules: A transaction is an investment contract if...

1. money is invested in a common enterprise or company 2. the investor expects profits from the investment 3. the profit comes from the efforts of someone other than the investor

Cryptocurrency

A digital asset designed to work as a medium of exchange that uses strong cryptography (usually through blockchain) to secure financial transactions, control the creation of additional units, and verify the transfer of assets

Other significant crytpocurrencies

Ethereum, litecoin

ICO Process: 4. Create a demand for your tokens

Get it listed on at least one exchange

Stuffing

HFTs submit and cancel so many orders to the market that it becomes congested to crowd out slow traders and competitors

Spoofing

If HFT wants to buy, it will place large limit sell orders away from the quotes to scare other traders into selling. HFT picks up the sell order with its limit buy

ICO Process: 2. Investors buy coins during camapign

If the money raised doesn't meet the minimum funds required by the firm, the money may be returned to the backer and the ICO is deemed unsuccessful

Algorithmic trading

any trading activity carried out by an automated computer system using a defined set of instructions (algorithms); used for LT trading

Cryptocurrency exchanges

a business that allows customers to trade cryptocurrencies for other assets (conventional fiat money or other digital currencies)

Blockchain

a continuously growing list of records, or blocks of info, linked by a large network of individual computers (to form a large supercomputer or super network) and secured using cryptography

Algorithmic trading strategies

algorithmic agency, momentum trading, sentiment analysis, seasonality strategies, arbitrage opportunities

Cryptocurrency exchanges: Market maker

charges bid ask spread

Cryptocurrency exchanges: Matching platform

charges fees

Sentiment Analysis

analyze large quantities of info to determine overall sentiment

Fake (duplicate) liquidity

duplicating an order on multiple exchanges in order to increase the probability of execution, but then rapidly canceling the remaining orders when one gets executed

Litecoin

early spinoff of bitcoin (almost identical to BTC) , released under MIT license in 2011, faster transactions than with BTC

Arbitrage opportunities

exploit price differences in markets

Seasonality strategies

exploit seasonal market movement

Momentum trading

following a market trend

Electronic Trading

human entering a command into an electronic platform (to buy or sell a security)

Algorithmic agency

not an attempt to make a profit, it is an attempt to not lose money at order placement (used by brokers, large institutional investors, market makers)

Ethereum

open source, public, blockchain based computing platform featuring executable smart contracts that generates cryptocurrency called Ether

ICO Process: 1. Publish a whitepaper

outlines what the project is about, how much $ is needed, how many of the tokens the founders will keep, how long campaign will run for...

Smoking

post alluring orders for slow tradersand then revise and repost at worse terms ("trick" market orders)

High frequency trading

refers to the subtype of algorithmic tradingthat focuses on the speed of accessing info and placing a trade; designed for ST investing

Other types of digital assets

stable coins, utility tokens, security tokens, nonfungible tokens

Concerns over HFTs revolving around hidden algorithms

stuffing, smoking, spoofing, fake liquidity, front running