Wall Street Watchdog Cautions Banks on Trading Crypto Derivatives

A key U.S. financial watchdog is warning banks not to get cozy with crypto derivatives, suggesting those that do will face extra regulatory scrutiny.

"Several large banks are exploring making markets for clients in bitcoin (BTC) futures, with an eye towards trading forward [contracts] and other derivatives,” said Acting Comptroller Michael Hsu of the Office of the Comptroller of the Currency (OCC), in a virtual speech during an American Bankers Association conference on Thursday. “Before banks move too much farther down this path, they should carefully consider the tail risks of trading crypto derivatives."

Hsu cited Goldman Sachs (GS) completing its first cryptocurrency-related, over-the-counter (OTC) trade with Galaxy Digital last week. The Wall Street giant and the digital-asset financial firm said the transaction demonstrates the "continued maturation and adoption of digital assets by banking institutions."

Hsu warned that crypto pricing is "limited or unreliable," so the type of models big lenders typically use to figure out risk could make them underestimate what they're facing. Hsu contends banks could end up without a big enough capital cushion.

He also wondered whether the lenders his agency oversees can properly hedge their risks if those hazards can't be measured.

Hsu said he's working with other global regulators to find "a consistent, careful and cautious approach to bank involvement in crypto."

The Basel Committee on Banking Supervision is already looking into the capital treatment for such crypto-related exposures at banks. Whatever that global standard-setter decides will influence the decisions made by its member governments, including the U.S.