Bakkt’s unsuccessful launch is no surprise

From concept to go-to-market, the firm’s highly-anticipated roll-out of Bitcoin futures was full of false assumptions and misguided decisions

Tomer Federman
Oct 21 · 11 min read

It was supposed to be the biggest Bitcoin event of the year.

Bakkt was touted by its creators as a game-changer for the crypto industry. Its much-hyped, eagerly anticipated launch of physically-settled Bitcoin futures contracts was described as a revolutionary product offering.

Advocates believed Bakkt would help unlock massive new demand for Bitcoin. They argued that major institutional investors, who were previously sitting on the sidelines, would enter the market and confidently trade Bitcoin.

After almost a year of delays, on September 23 the wait ended. Bakkt finally went live.

And then, welp, reality sank in.

Oops.

Measly 105 futures contracts settled on Bakkt’s first day of operation, with only 72 Bitcoins trading hands. This resulted in about $710K in overall volume. By the end of the first week, Bakkt’s BTC futures volume remained remarkably low, hitting less than $6 million during that period.

Almost one month in, activity on Bakkt’s platform seems to have dropped off even further. Most notably, on October 8 traded contracts plummeted to a new daily low of 25 BTC.

To put things in perspective, rival exchange operator Chicago Mercantile Exchange (CME) first day futures volume was 5,298 BTC, a whopping 75x more than Bakkt.

Back in December 2017, CME’s first day volume represented about $100 million in BTC trading volume. During its first week of trading, CME saw $460 million in BTC futures trade hands via cash-settlement using its systems.

Some may point out that comparing Bakkt’s launch to its competitor isn’t fair given CME’s BTC futures roll-out coincided with the ICO boom and overall crypto craze of late 2017. However, this claim doesn’t explain the current market dynamics.

Despite both Bitcoin and the broader crypto market not rebounding yet to the levels of activity and prices seen in late 2017, CME announced this year that it experienced new record-highs in both volume and open interest.

In October 2019, the company disclosed that “customer interest in CME Bitcoin futures remained strong during Q3 with daily open interest of over 4.6K contracts, up 61% vs Q3, 2018.”

CME also shared that “institutional flow remained strong, with 454 new accounts added, compared with 231 added in the third quarter of 2018.” CME’s daily average trading of Bitcoin futures is now at $289 million, dwarfing Bakkt’s volume.

Given Bakkt’s disappointing launch, the question that looms large is where did it all go so wrong for the $182 million venture-backed company?

In this piece, I flesh out what I view as the primary reasons that led Bakkt to this point.


Weak market demand for physically-settled daily futures contracts

Bakkt’s major point of differentiation was supposed to be the physical delivery of bitcoin using daily futures contracts. Yet, it is that misguided product focus that was one of the critical mistakes made by the company in the lead-up to launch.

In cash-settled futures contracts, such as those offered by CME, traders get the cash equivalent to the contract’s value when it expires. In Bakkt’s case, using physically-settled futures contracts, institutional investors receive the actual Bitcoin. This was the value proposition Bakkt kept emphasizing ahead of launch.

In an open letter posted on the day of the launch, Dan Morehead of Pantera, one of the largest investors in Bakkt, wrote that “the real innovation is the daily physical settle. Bakkt CEO Kelly Loeffler and I are unaware of any daily settled futures contracts — in any asset class — at least in regulated United States. It really is a revolutionary concept.”

In the same letter Dan went on to claim that “we now have hundreds of start-up exchanges. However, most institutions don’t feel comfortable trading and custodying with these entities.”

I’m unclear what this assertion is based on, but this begs the question — why haven’t physically-settled bitcoin futures contracts existed up until now? And, why are daily physically settled futures so rare in general?

Could the answer be that there’s no significant demand for such products because of the inherent advantages of cash-settled futures? After all, with cash-settled futures buyers don’t need to concern themselves with the hassle of custody, be it on a secure regulated platform or not.

That’s why in the financial world the vast majority of futures are not physically-settled as traders typically aren’t interested in getting the underlying asset.

When building a product, first and foremost it’s important to identify and solve real pain points that exist among potential customers. During my time on the product side at Facebook, before I left to start a blockchain VC fund, we constantly conducted small, controlled tests. We did it to validate hypotheses and determine whether to invest more precious time and resources in certain products.

I don’t know what tests Bakkt ran before launch to evaluate product-market-fit, but a deep-dive into the publicly available data reinforces my suspicion about the lack of demand among potential customers for Bakkt’s core product offering.

Among the 72 Bitcoins that were traded on Bakkt’s platform on day one, 71 were traded through Bakkt’s more traditional monthly futures contracts, while only 1 Bitcoin was traded using physically-settled daily futures.

Yes, you read that right — only 1 BTC was traded using what Bakkt considered pre-launch as their primary form of innovation to attract new institutional investors!

Stunning.


Lack of focus is a recipe for failure

One of the things that struck me about Bakkt from the get-go is that it seemed they had no good sense of who their primary target audience is.

In a recent interview COO Adam White mentioned that “Bakkt is really designed for the institutional trader. So this is a futures contract. That said, we expect this futures contract to trade through retail brokerages as well, so retail customers can trade this contract.”

Referencing Bakkt’s monthly futures offering, Adam said “that’s important not just for speculators but the actual businesses relying on the price of bitcoin — the miners are the companies that mine bitcoin — want to hedge their risk so we think this contract is the perfect fit for them.”

In another twist, Kelly Loeffler, CEO of Bakkt noted in a Furtune magazine interview that “we are collaborating to build an open platform that helps unlock the transformative potential of digital assets across global markets and commerce.”

Miners? Commerce? Retail?!

It’s unclear from these comments whether the company is going after institutional investors, retail investors, miners, consumers or perhaps merchants (Starbucks is a strategic partner in Bakkt).

If the answer is all of the above, well, that’s an issue in itself. A major one.

My experience taught me the importance of being both fast to market, nimble and focused. Better to identify and address one pain point, launch a test and then iterate from there. Otherwise, early-on you run the risk of going too broad.

The Bakkt team seem to have taken the opposite approach, working on a pre-launch product for an extended period of time while aiming to cater to the different needs of multiple customer segments. That strategy is very difficult to pull off successfully, especially when you’re just starting out.


The narrative that institutional investors were waiting for Bakkt to launch to start trading Bitcoin was far-fetched; sophisticated investors with interest in the asset class already have exposure

The founding imperative for Bakkt was to serve as a bridge for traditional finance and make it easier for large institutions to trade Bitcoin.

Yet, institutions who wanted to gain exposure to Bitcoin already did so before Bakkt using a wide array of existing investment products, such as OTC desks, investment trusts and cash-settled futures.

In fact, these financial products are easy to use for many institutions and finance veterans because, unlike Bakkt’s physically-settled futures, they are on-par with what traders do every single day — they allow them to transact based on cash-settled trades rather than the underlying asset.


Product decisions had negative impact on go-to-market plan and caused significant delays

Bakkt launched almost one year later than the original November 2018 date announced initially by its CEO. It seems that part of the problem that led to the ongoing delays was Bakkt’s intent to custody Bitcoin in order to physically deliver to traders.

To offer qualified Bitcoin custodianship services, Bakkt needed to engage with regulators such as CFTC and the NY State Department of Financial Services to secure the required approvals.

Had Bakkt instead opted to start with more traditional cash-settled futures, similar to CME’s offering, it’s plausible that Bakkt could have avoided some of the regulatory delays. Not having to worry about a Bitcoin warehouse, would have led to a straightforward go-to-market plan.

In another blow, Bakkt’s ongoing delays allowed new competitors to enter the market and existing rivals to beef up their solutions

With a launch having been held up for months, Bakkt allowed competitors like derivatives-provider LedgerX and TD Ameritrade-backed ErisX to inch closer to launching their own Bitcoin futures contracts.

Binance, the world’s largest cryptocurrency exchange by trading volume, stormed into the market in September with the launch of its unregulated futures. According to crypto data provider Skew, on October 15 alone Binance hit a record $700 million in volume for its new BTC/USDT futures product.

Rival CME is keeping busy too. The company recently announced plans to supplement its Bitcoin futures contracts with options next year.

On the custody front, the competition intensified significantly over the past year, while the Bakkt team were preparing for launch. For example, Fidelity Digital Asset Service just declared that it’s “now engaged in a full roll-out of its custody and trading services for digital assets.”

Yet, Bakkt CEO Kelly Loeffler seems unfazed by the increased competition. In the month leading to the launch, she announced that “with approval by the New York State Department of Financial Services to create Bakkt Trust Company, a qualified custodian, the Bakkt Warehouse will custody bitcoin for physically delivered futures. This offers customers unprecedented regulatory clarity and security alongside a regulated, globally accessible exchange in a market underserved by institutional-grade infrastructure.”

Unprecedented? Underserved?

Really?

What about companies such as Coinbase, Bitgo, Kingdom Trust, and Gemini that are all now offering regulated, institutional-grade crypto custody solutions along with an insurance policy?

Source: Bitwise Asset Management presentation to the U.S. Securities and Exchange Commission, Sep. 12, 2019

Some of these companies also have significant user base, much larger than Bakkt’s, and see a constant inflow of institutional capital.

For example, Brian Armstrong, CEO of Coinbase, shared recently that the company is now “seeing $200–400M a week in new crypto deposits come in from institutional customers.”


Too big, too fast

Bakkt was founded by Intercontinental Exchange (ICE), a $52B juggernaut and the same parent company that owns the New York Stock Exchange along with a host of other exchanges. It leveraged ICE’s strong reputation and financial muscle to cobble together an impressive list of backers.

Before a single product was released to the world, Bakkt secured $182 million in venture funding from some of the biggest names in the space. While the terms of the deal haven’t been made public, it’s conceivable that Bakkt was valued anywhere between $750MM-$1B. This in turn enabled the company go and acquire Digital Asset Custody Company back in April.

With such high expectations and eye-popping valuation right off the bat, it’s tougher, though not impossible, to live up to the hype and achieve long-term success. My sense is that Bakkt would have been better served by raising a smaller amount and following an incremental startup approach.

Of course, it would have helped if the company worked more actively to manage market expectations. For example, when COO Adam White compared Bakkt to the advent of the ATM 50 years ago it was probably a step too far.


This is not the end of the road for Bakkt

Despite all of the above, this is not necessarily the end for Bakkt. Given Bakkt’s massive war chest and ICE’s expertise and financial prowess, they can still turn this around.

Yes, major mistakes were made. But hey, less than one month in these are still very much early days. If the company makes the required adjustments, it may still be able to rebound from its slow start.

A good first step would be shifting the product focus to cash-settlement and beating CME to the punch in launching options on Bitcoin futures.

It’s important to acknowledge the validation ICE provided for the blockchain and crypto industry as a whole

Derivatives such as Bitcoin futures contracts offer crucial solutions for institutional investors to overcome operational and risk challenges.

As such, the launch of regulated institutional-grade Bitcoin futures contracts by a company owned by ICE marks another milestone for the rapidly maturing crypto market.

In another plus for the industry, Bakkt could help push the industry from reliance on unregulated spot markets for price settlement to a more transparent compliant process in line with standard AML policies. In particular, Bakkt’s price discovery mechanism could prove fundamental in easing some of the SEC current concerns en route to the inevitable future approval of a Bitcoin ETF.

Regardless of whether Bakkt will ultimately gather traction or not, it’s clear that the crypto industry has come a long way from the days of the Mt. Gox hack in early 2014.


In closing

As I wrote before, Naysayers like Paul Krugman are dead wrong about blockchain and crypto. Using the power of disruptive blockchain technology, crypto will gradually serve as an alternative to the existing expensive and inefficient financial system.

Looking at the data, Bitcoin today is stronger than ever and Bakkt’s launch is a validation of the institutionalization of this emerging new asset class.

In daily-settled futures, Bakkt focused on a gimmick and missed the majority of institutional traders. Physical delivery isn’t a feature that compels market participation among institutional investors and many who are interested in Bitcoin already have some degree of market exposure.

Bakkt opted to create a new financial instrument for a new asset class that many in Wall Street are still just getting to grips with. This meant they needed to both educate institutional investors about a new asset class AND introduce a new concept of trading that’s foreign to many traders.

How many institutional investors were ever going to bet their career away by taking a position on day one with this new product on a new platform of an emerging asset class?

Rather than simplifying their go-to-market and looking for ways to launch as soon as possible with a lean MVP, the Bakkt team needlessly complicated matters on the regulatory front.

The company would have been better served if it launched cash-settled Bitcoin futures and focused more of their efforts in building their non-existent customer base.

At the end of the day, the expectation that Bakkt will suddenly unlock significant amounts of new institutional capital inflows was unrealistic.

The Bakkt team spent an enormous amount of time developing a product offering with questionable demand at best. The evidence so far suggests that the launch of physically-traded daily BTC futures may have been a case of a solution looking for a problem, rather than the other way around.

Federman Capital

Federman Capital is a venture capital firm focused on blockchain technology and crypto assets. Our fund is led by Tomer Federman, a Stanford MBA alum who previously drove product strategy & global growth of major ad products at Facebook. Website: https://www.federman.capital

Tomer Federman

Written by

Managing Partner at Federman.Capital · Previously at Facebook, SAP, multiple startups · Stanford MBA · Podcast host, The Blockchain VC: https://bit.ly/2YxOBxF

Federman Capital

Federman Capital is a venture capital firm focused on blockchain technology and crypto assets. Our fund is led by Tomer Federman, a Stanford MBA alum who previously drove product strategy & global growth of major ad products at Facebook. Website: https://www.federman.capital

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