Head of World's Largest Exchange Embarks on Bitcoin Gambit

By Alexander Osipovich Features Dow Jones Newswires

In early October, CME Group Inc. Chief Executive and Chairman Terrence Duffy met with one of his top lieutenants and set in motion a risky plan that the exchange operator had been secretly developing for two years: launching a futures contract based on bitcoin.

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That plan was unveiled this week, and represented a big step toward bringing the highly volatile digital currency into the financial mainstream. Bitcoin, which only started trading in 2009, has long been a niche market and continues to be tarnished by its association with illicit activity.

Thanks to Mr. Duffy, it now has the blessing of the $47.6 billion global exchange giant. If the Chicago-based firm can establish a viable bitcoin futures market, both Wall Street banks and retail investors would be more likely to trade the digital currency, many market participants say. CME plans to list bitcoin futures by the end of the year, subject to regulatory approval.

CME's announcement is the clearest move yet that the financial industry is starting to warm up to bitcoin. It came just weeks after Goldman Sachs Group Inc. said it was considering setting up a trading operation for digital currencies. CME's smaller crosstown rival, Cboe Global Markets Inc., is also seeking to launch bitcoin futures, it said in August.

If digital-currency futures take off, Mr. Duffy would add another major accomplishment to his tenure at CME, though he risks harming the company's reputation should the contract flop or generate controversy.

A former hog futures trader who got his start in the frenzy of the Chicago Mercantile Exchange's trading pits, he now oversees a sprawling exchange empire that runs a dizzying array of markets, from crude oil to gold to stock-market futures. As CME's chairman since 2002, Mr. Duffy helped turn the firm into the world's largest exchange operator, spearheading tie-ups with the Chicago Board of Trade in 2007 and the New York Mercantile Exchange in 2008. He also handled the delicate task of persuading CME's once-powerful floor traders to allow more electronic trading, drawing on his history in the pits to win support for the change.

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Mr. Duffy took the CEO job a year ago, after his predecessor unexpectedly retired. Since then, CME's share price is up nearly 20%. The move into bitcoin is by far the boldest step he has made as CEO.

"By nature I think he's a pretty conservative guy, but he will move swiftly when he needs to," said Rich Repetto, an analyst at Sandler O'Neill + Partners.

CME was tight-lipped about its bitcoin plans before Tuesday's announcement, and some media reports suggested it had gotten cold feet. But behind the scenes, the company had long been laying the groundwork for the launch.

In November 2016, after close to a year of work, CME started publishing a daily bitcoin price index that will be the basis of its new futures contract. More recently, CME has consulted with outside advisers, including major bitcoin investors, about how its contract would work, people familiar with the situation said. At a New York meeting in May, the group discussed how CME should handle a "fork" -- a situation where a breakaway faction of programmers sets up an alternative version of bitcoin.

Mr. Duffy said he greenlighted the launch in October after repeatedly hearing from CME customers that they wanted bitcoin futures. He declined to say who lobbied him directly, but another CME executive said the firm heard from electronic-trading firms, hedge funds and exchange-traded-fund issuers, as well as banks whose own customers had been inquiring about bitcoin.

The 59-year-old CEO said he grew more comfortable with bitcoin after watching it survive repeated blows, such as a recent crackdown in China, a major hub for the digital currency.

"It's a story that just doesn't want to go away," he said.

CME makes money by collecting fees when futures contracts are traded on its markets. That means it is neutral about the price of commodities, but its profits increase with heavier trading volume, which often goes hand-in-hand with spikes in volatility.

Creating a new market for bitcoin, which is notorious for wild price swings, could juice trading activity at CME, bringing in new fee income at a time when volatility across many of its markets has been muted. The digital currency has surged more than 600% this year, briefly hitting a record above $7,300 on Thursday.

But skeptics call the bitcoin phenomenon a bubble that will inevitably pop, with potential repercussions for CME.

"If the market takes a dive and a lot of mom-and-pops are hurt, they will blame the futures market, just like they have done a hundred times in history," said Neal Wolkoff, former CEO of the American Stock Exchange.

Mr. Duffy knows the inherent risks in trading. As a young floor trader in 1981, he misheard a customer's order and lost $150,000, nearly ending his trading career. He was bailed out by his mentor at the time, a veteran trader named Vincent Schreiber. Mr. Duffy spent three years paying him back, with money earned from trading by day and bartending by night.

Today, a portrait of the late Mr. Schreiber sits in Mr. Duffy's office, amid framed photos of Hollywood stars and politicians whom the CME chief has befriended over the years, such as Hillary Clinton and John Boehner.

Mr. Duffy, a registered Republican who has donated to politicians of both parties, is a seasoned operator in Washington and has testified on Capitol Hill dozens of times. His knack for courting regulators could help move CME's bitcoin plan forward and overcome the skepticism many officials hold toward the digital currency. CME needs signoff from its regulator, the Commodity Futures Trading Commission, to launch its bitcoin contract.

Mr. Duffy concedes that his big gambit may fail.

"I'm not saying this is going to work," he said. "But I do know there is pent-up demand for people to participate in it, and I'm going to offer it on a regulated platform."

Write to Alexander Osipovich at alexander.osipovich@dowjones.com

(END) Dow Jones Newswires

November 03, 2017 07:14 ET (11:14 GMT)