Our Investment in X-Margin
By: Meltem Demirors
Tags: Blockchain, Bitcoin, Trading, Finance

Our Investment in X-Margin

Clearing through Zero Knowledge Technology

We are excited to announce CoinShares Ventures has invested in X-Margin, which is using zero-knowledge technology to bring innovation to risk management and margining.

For the first time, crypto traders can use one pool of collateral to trade across multiple trading venues and counterparties, ushering a new era of capital efficiency in crypto markets and beyond.

As former commodities traders and operators of an electronic trading business, the CoinShares team is all too aware that the lack of clearing solutions in the crypto space leads to inefficiencies for traders looking to maximize return on capital. Darsh, the founder and CEO of X-Margin, is a former trader who experienced the inefficiencies of running a crypto book himself. We covered these topics in a webinar with Darsh, which can be seen here.

Clearing and margining is an important step in the trade lifecycle. Cross-margining allows traders to offset the value of hedged positions maintained by firms at multiple clearinghouses. This allows traders to increase liquidity and financing capabilities through reduced initial margin requirements, fewer margin variations, and smaller net settlements. Today, cross-margining is available only to clearing members and their affiliates, and market professionals like market makers.

The derivatives market is by far the largest sector of the financial market. According to a BIS report dated June 2019, notional amounts of OTC derivatives were $640 trillion at end-June 2019. While clearing firms have brought some efficiency and structure to these markets, over 1/3 of derivatives are not still not cleared.

In the US, the OCC (Options Clearing Corporation) is a centralized entity that receives end of day positions from clearinghouses, and in turn, calculates and provides position reports to members. For context , the OCC’s annual report lists 4.9 billion trades cleared in 2019. That’s a lot of margin to manage!

In crypto markets, margining is still in its nascent stages. Margin is managed based on the specific rules of each venue or broker, and there is no trusted third-party calculation agent that can be relied on to calculate margin requirements. There is no ISDA-like entity that can be relied on in case of disputes between broker and trader. There is no entity like the OCC that provides cross-margining for efficiency of collateral in the market. Crypto exchanges have different ways of allowing users to ‘borrow’ margin and in many cases, they utilize pooled insurance funds which act as the collateral behind the margin.

Interestingly in crypto, margin requirements are far more strict than in legacy capital markets. Given crypto markets trade 24/7 and crypto assets are highly volatile, lending firms for example require 110–150% collateralization, sometimes even 200%, to minimize risk. Margin calls have much tighter windows and can happen 24/7, and liquidations can happen swiftly, as users of options trading platforms like BitMEX and Deribit can attest to. There is no equivalent of Regulation T that standardizes minimum liquidity requirements.

X-Margin has built a proprietary zero-knowledge calculator that does aggregate calculations on data without needing to see it, essentially disintermediating the central clearer. X-Margin allows trading firms to give cross-margin to each other, without needing to see each other’s overall risk or position data. For cryptographic validity, it produces proof of computation and proof of encryption, meaning one can verify that the computation is doing what it’s supposed to be doing, and verifies that no information is leaked in that process.

Today, the total size total crypto derivatives market is roughly $3.1T. The traditional markets are, obviously, much larger, to the tune of hundreds of trillions of dollars. And traditional markets still suffer from a lack of clearing and margining. The opportunity to bring better risk management tools and more trade efficiency to these markets cannot be overstated!

Over the last nine months of working with Darsh and the X-Margin team, we have been impressed with their ability to continue expanding the platform across risk management, risk reporting, and other high-value services that trading firms have been missing. We are excited to support Darsh and the X-Margin team as they build technology and tools to radically transform capital markets.