Author Topic: BitAssets Article  (Read 6941 times)

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Offline gamey

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That sorta thing bites everyone in the ass at some point if they post long messages...
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Offline carpet ride

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OK, well, I'll just have to rewrite that some other time.  Sorry.  I don't spend much time on forums, so I forgot that it is good to copy a post before clicking send.

Going forward login setting can be set to not log out


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Offline mhr

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OK, well, I'll just have to rewrite that some other time.  Sorry.  I don't spend much time on forums, so I forgot that it is good to copy a post before clicking send.

Offline gamey

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How is this for stupid?  I just spent two hours writing a reply, during which I guess my session logged out, and I hit post.  Now all that I wrote is gone.  Do I have any recourse?

If you haven't closed the tab you can hit back button and see if the browser caches it.  Otherwise I'm afraid no recourse.
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Offline mhr

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How is this for stupid?  I just spent two hours writing a reply, during which I guess my session logged out, and I hit post.  Now all that I wrote is gone.  Do I have any recourse?

Offline gamey

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The key phrase in this discussion is "functionally eqiuivalent". IMO if there is anything to be learned it is how things are "functionally equivalent" which is functionally equivalent to learning how to bridge the different contexts in which we learn things.
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Offline merivercap

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mhr,
Thanks for your post and providing fascinating historical context. 

1)
There could, of course, be another type of contract for difference, or bet, in which neither trader collects funds from the other.  Perhaps this is the type of arrangement that is described by Bytemaster.  If that is correct, then BitAssets would not be a debt-based arrangement.

Let's say that two traders, Alice and Bob, sit down at a card table, they each put down assets on the table.  Alice puts down USD, Bob puts down USD.  Alice and Bob both have opposing opinions on the future price of shares of Bethlehem Steel, so they draw up a contract.  Alice believes that Bethlehem Steel will fall in price, but Bob thinks it will rise in price.  At the start of the trade, Bethlehem Steel is trading for $100 per share.  Alice agrees to pay Bob $1 for every $1 Bethlehem Steel may rise in price, and Bob agrees to pay Alice $1 for every $1 it may fall in price.  No one collects money from the other.  They both just keep their USD sitting on the table, as if held in escrow.  At the close of the trade, Bethlehem Steel has fallen in price by $4.  Therefore, Bob pays Alice $4, and the trade is concluded.

This trade involves two people: Alice and Bob.  It involves two assets: USD and shares of Bethlehem Steel.  (Notice that, though shares of Bethlehem Steel are not traded, the price of these shares is integral to the trade.)  There is no interest consideration or interpolated trade.  There is no lending involved in this trade.  The only profit/loss potential of this trade is the change in price of Bethlehem Steel as compared to USD.  This is a simple trade; a bet.  Does the community believe that either of these arrangements most closely approximates the BitAssets arrangement?
 
Yes.  That's exactly it. 

2)  It's based on the ideas of a CFD, more specifically a Total Return Swap.

3)  In your original 'shorting' example, it's good to explain the other side.  When Bob sells the borrowed asset and the asset increases in value, Bob needs to pay more to purchase the 'shorted' asset before returning it to Alice.   Hence Bob needs collateral and has margin requirements to short an asset.  Also in a typical short transaction, the brokerage firm acts as the 'bucket shop', since it use the cash proceeds of a short sale and floats it for interest. 

4) One party to a CFD/Total Return Swap is functionally equivalent to being the 'long', and the other party the 'short'.

5) In regards to financial regulations of CFDs, it's no different from trading stocks or any assets.  They're functionally equivalent.  One party generally thinks an asset is going up.  One party generally thinks the same asset is going down.  And then they trade.  You can trade actual stocks, commodities or CFDs and you can consider them all bets.  It's the same with trading Dogecoin for Bitcoin.   Note: people also use real assets and CFDs to hedge exposure as well as diversify risk so there are some other reasons to make a trade.  I've heard some people even buy & hold companies for long term future cash flows.   :P

FYI: Have you read Michael Lewis's the 'Big Short'?  It describes the whole mortgage crisis very well.  Michael Burry, John Paulson and some young no-name investors just out of college knew housing was in a bubble and made big bets with unconventional methods and succeeded.  Burry wanted to find the best way to short housing.  He was so eager to find a way he connected with Goldman Sachs and convinced them to sell him credit default swaps on the 'short side' of subprime loans, effectively a CFD that Goldman sold to big banks on the 'long side' who wanted yield and thought housing would go up forever.  These credit default swap CFDs gave each party the exposure they wanted.  Neither Burry nor the banks had expectations of delivering underlying mortgage securities.  They were all just bets.  Burry who wasn't a 'Wall-street' guy went on to make $700+ million for his investors.  The young no-name investors found a way to make millions as well.   It's interesting that a few people from main street were able to beat Wall Street and the bankers at their own game with these investment vehicles.  Of course the government went on to bail out the poor Banks & Wall Street.

6) 
  If traders want to place bets on Bethlehem Steel advancing against the USD, and a large trader, or the bucket shop, wants to take the other side of that bet, there is nothing to stop the bucket shop from selling real, exchange-traded shares of Bethlehem Steel in an effort to manipulate the bucket shop price for Bethlehem Steel. I'll elaborate.

On a real exchange, such as the New York Stock Exchange, when someone buys or sells shares of Bethlehem Steel, those buy and sell orders factor into the market price as determined by supply and demand.  However, when one places a bet on shares of Bethlehem Steel in a bucket shop, that bet does not factor into the market price as determined by supply and demand.  The market has no knowledge of that bet.  The bet does not take existing shares of Bethlehem Steel off of the ask book.  It does not contribute any upward or downward pressure on the price of the real shares.  Therefore, it does nothing to resist price movement in the opposite direction.  This means that market manipulation of bucket shops is much easier and less risky than market manipulation of a stock exchange.

If interest in CFDs or bucket shop bets becomes great enough, it sets up an incentive for a large trader to enter the bucket shop market heavily on one side of the trade, and then to also enter the real exchange heavily on the same side of the trade.  The large trader can temporarily manipulate the real exchange with no resistance from the bucket shop market, push all the opposing bucket shop traders out of their positions, take profits off the table in the bucket shop, and close out its positions on the real exchange.  This would be a temptation too great to ignore.  It would be like shooting fish in a barrel.  Of course, this is a greater risk if the bucket shop allows trading on margin, but it is still a concern even if the bucket does not allow trading on margin.  There is no way for the bucket shop traders to call the bluff of the manipulator.
 

 I think you bring up a fantastic point about historical manipulation in the bucket shops.  The bitUSD/BTS internal market is somewhat like a bucket shop exchange.  I think your historical evidence shows how a market like BitShares can potentially be manipulated.  However I think your conclusion about what went wrong in the bucket shop is not correct.  The reason the bucket shops could manipulate trade is that they had knowledge of an additional large order book and vulnerable margin positions, not because traders weren't able to call bluffs or request the delivery of an underlying asset.  I bolded your first statement.  The bucket shops could manipulate the price in the real exchange to effect the outcome in the bucket shops.  That is not easy, but that's probably what they did when with the additional market info they had.  In the bitShares system, the order book for the 'bucket shop' and 'real exchange' is public so no one has extra info on the market.   However the current external market and price feeds can be manipulated because Bitshares is illiquid and until there are more trusted exchanges and better price feeds there is still room for manipulation.   Hence it is not the nature of the CFD that is a problem with the BitShares system, but the infancy of the market and ecosystem. 

7.  Furthermore, the original bitAssets had design flaws.   There is an imbalance against long BTS holders in favor of long bitUSD (short BTS).   Requiring 200% collateral and forcing settlement magnifies the pressure against those long BTS (short bitUSD) especially in a severe bear market.

8.  The good thing is Bytemaster and the BitShares developers have learned from experience and collaborate with the community to improve and refine the system.  BitAssets 3.0 may have issues and parts I don't agree with, but it is a significant step in the right direction and there will probably be future refinements as we move forward. 
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zerosum

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Me again:  the underlying asset is available to the purchaser of an option.  This is very important.  The underlying asset is not available to the purchaser of a bet... or a contract for difference.


You are making my case man - in BTS the underlying is available to 'purchase' or get...
 The short bitUSD is the right to purchase (get) more BTS if the price of BTS goes up compared to bitUSD. If you short and you are right about the price you get more BTS when you close your short position.

Offline Ander

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The discussion on options and convertability shows why gateways are important.

That is, a bitGold is a lot more useful if you can convert it into a physical gold, thus Cryptosmith is important.  A bitUSD/bitCNY is a lot more useful if you can convert it directly into a normal USD/CNY.  Thats why fiat gateways are important.
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Offline gamey

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I do not believe that Tony fails to know what are options. He was pointing out that when people purchase options there is not necessarily pressure or resistance from the underlying asset because assets are not exchanged. That seemed to be the crux of your argument against CFD's and why they are bad.  If CFD's enable manipulators, why don't options?
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Offline mhr

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Tonyk2, you ask a great question.  One may exercise an option contract.  In the world of hedgers, this is routine.  In the world of speculators, this is the exception.  I'll copy and paste here from Investopedia:

An option is a contract that gives the buyer the right, but not the obligation, to buy or sell an underlying asset at a specific price on or before a certain date.

Me again:  the underlying asset is available to the purchaser of an option.  This is very important.  The underlying asset is not available to the purchaser of a bet... or a contract for difference.

That may seem like a trifling difference, but it is an enormous difference.  Really, it is the whole difference.  I'm failing to be articulate, because I am sleepy, but I will address this tomorrow.  Thank you for your question.

zerosum

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 Excuse me for being here post "Keyhotee days", but if I can ask a question?

 What is wrong with the perfectly legal option contracts (in USA) , which prices does not move (contribute to the movement of) the underlying asset price (be it stocks or futures)?

Where does this fit in your line of arguments?

Offline mhr

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Putting aside definitions, for now, I'd like to bring up a couple of concerns about some possible threats to the BitAssets arrangement, one of them artificial, and the other more intrinsic.

As mentioned in the previous post, in the United States, neither bucket shops nor contracts for difference are legal.  Also, betting of all types is highly regulated.  As members of the BitShares community are located in the US, I see this as a real concern.  If BitAssets gets popular enough to attract the attention of regulators, is there going to be any risk to the US-based members of the community?

A problem more intrinsic to bucket shop bets and contracts for difference is the fact that trader's cannot stand for delivery of the underlying security or commodity.  This means that it is not possible for traders to call the bluff of a manipulator.  In the late 1970s when the Hunt brothers came to believe that silver prices were being manipulated on the highest levels, they began to buy silver futures contracts, and then stand for delivery, rather than closing out their positions for cash settlement.  The affect that such wealthy and aggressive speculators taking delivery of silver had on the futures market was an epic short squeeze.  Ultimately, to save the futures exchange, the shorting agents, and possibly to save the US dollar, regulators had to step in and halt the short squeeze.  This interruption of normal trade on the futures exchange must necessarily have hurt the credibility of the futures exchange, so powerful was the recourse available to the Hunt brothers.  Ultimately, the Hunt brothers were forced into bankruptcy, but only because the shorts were closer to the regulators than the Hunt brothers were.  If such actions had not been taken, it would have been the shorts going bankrupt, not the Hunts.

This recourse of taking physical delivery of the underlying securities or commodities does not exist in contracts for difference.  This is a big problem.  Let's go back to our earlier example of bucket shop bets for shares of Bethlehem Steel.  If traders want to place bets on Bethlehem Steel advancing against the USD, and a large trader, or the bucket shop, wants to take the other side of that bet, there is nothing to stop the bucket shop from selling real, exchange-traded shares of Bethlehem Steel in an effort to manipulate the bucket shop price for Bethlehem Steel.  I'll elaborate.

On a real exchange, such as the New York Stock Exchange, when someone buys or sells shares of Bethlehem Steel, those buy and sell orders factor into the market price as determined by supply and demand.  However, when one places a bet on shares of Bethlehem Steel in a bucket shop, that bet does not factor into the market price as determined by supply and demand.  The market has no knowledge of that bet.  The bet does not take existing shares of Bethlehem Steel off of the ask book.  It does not contribute any upward or downward pressure on the price of the real shares.  Therefore, it does nothing to resist price movement in the opposite direction.  This means that market manipulation of bucket shops is much easier and less risky than market manipulation of a stock exchange.

If interest in CFDs or bucket shop bets becomes great enough, it sets up an incentive for a large trader to enter the bucket shop market heavily on one side of the trade, and then to also enter the real exchange heavily on the same side of the trade.  The large trader can temporarily manipulate the real exchange with no resistance from the bucket shop market, push all the opposing bucket shop traders out of their positions, take profits off the table in the bucket shop, and close out its positions on the real exchange.  This would be a temptation too great to ignore.  It would be like shooting fish in a barrel.  Of course, this is a greater risk if the bucket shop allows trading on margin, but it is still a concern even if the bucket does not allow trading on margin.  There is no way for the bucket shop traders to call the bluff of the manipulator.

Offline mhr

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Thank you, Cass.  I am, and I am not, a new user.  Somewhere in the middle.  I think I posted under my first name a few times back in the Keyhotee days, just questions about setting up the client and such, but that seems like ages ago.  I had gotten sidetracked on other projects in the interim.

Thank you, BJ2.0, for the entertaining article.  You're right.  I don't think I can top that, so I won't try.  BitMarmots!

Gamey and hrossik, you ask just the questions to which I am trying to discover the answers.  I wrote a post last night just before I went to bed, but I didn't want to clutter up the thread with too many ideas at one time, so I held it back.  Your questions segue into what I wrote last night, so I will append it below this post.

The short answer, gamey, is that modern CFDs possess the very same problems that the bucket shops possessed.  There are fundamental problems with this arrangement, as I will demonstrate in my following post.  A modern, regulated financial system may improve on the betting arrangement which was offered by the bucket shops, and a blockchain might improve on the betting arrangement which was offered by the bucket shops, but neither can eliminate the intrinsic problems.  They improve by mitigating or eliminating some of the problems, but not all of them.  This is largely what Preston Byrne was talking about.  Arranging sophisticated trading systems is not easy.  However, he doesn't even go far enough, as he suggests it should be left to professionals.  However, even professionals bugger it up from time to time.  Just think about Collateralized Debt Obligations.

Some of the biggest financial institutions in the world participated in CDO debacle.  The arrangement collapsed as many predicted it would.  It was based upon flawed assumptions.  Houses and mortgages are never fungible.  Location, location, location!  When was the last time you heard someone say "location, location, location!" about gold?  Gold is fungible, houses are not.  Even though some actuarial science may be reasonably brought to bear on masses of mortgages for the sake of efficiency, it must always be remembered that houses, no matter how many houses they may be, are not fungible.  When this practice is pyramided on top of a housing bubble born out of fractional reserve banking, it is clear to see that this is an unworkable arrangement.  So, it had to implode.

Just because some major markets around the world allow for the trading of contracts for difference doesn't mean that people should trade contracts for difference.  Frankly, I think people should be allowed to trade whatever they want, and let the buyer beware.  Having said that, I would not be surprised to see the existing CFD arrangement fall by the wayside of the mainstream financial system at some point.  Afterall, it's just a fancy name for a bet.

Hrossik, to specifically answer your questions about how BitAssets work exactly, I can only say that I don't know.  I'm not sure than anyone does.  Maybe Bytemaster and some of the top developers understand it inside and out.  Or maybe they have let, for example, the Australian Stock Exchange do their intellectual work for them, and they have decided, "if it is good enough for the ASE, it is good enough for BitShares.  We'll just arrange it like the ASE does."  Of course, I can't know that.  But, if one cannot explicitly understand and describe every angle of a trading platform; every possible trading variation, any bear raid, any short squeeze, any off-exchange manipulation that is possible in reality or in the minds of creative speculators, one should not trade on that platform.  OK, I'll append last night's thoughts below.

Offline hrossik

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This trade involves two assets, but it does not involve a sale.  Also, this trade involves two parties, Alice and Bob.  This leads me to believe that BitAssets is basically a loan for which the denominating asset (USD) is different from the lent asset (BitShares).

I think when you want to short BitUSD, there must be somebody, who buys them. This way BitUSD is "shorted into existence". If you want to close the short, you then buy the amount of BitUSD and cancel the loan using them. So there is a sale of the borrowed BitUSD involved here. Also 3 parties are involved: you, somebody who bought your borrowed asset, and someone else, from who you need to buy the asset in order to repay your loan.

This is how I understand the mechanics. If it's not like this, I would appreciate correction :)
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