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SecondMarket Moves Forward With Bitcoin Exchange, Securing Board Approval

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The company's CEO revealed a new development last night at MarketWatch's "Bitcoin: Boom and Bust" event.

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The online financial marketplace that gained notoriety for providing a market for stock in companies like Facebook (NASDAQ:FB), Twitter (NYSE:TWTR) and Zynga (NASDAQ:ZNGA) before the tech firms went public has since turned its attention to making Bitcoin more legitimate. Now it has now moved closer to that goal.

Trustees on the board of SecondMarket have approved a proposal to spin off the company's Bitcoin Investment Trust and commit $20 million in cash to launch a New York-based regulated Bitcoin exchange. CEO Barry Silbert revealed the development last night at "Bitcoin: Boom and Bust," an event in New York City hosted by MarketWatch.

In late February, SecondMarket announced it would be launching an exchange, pending approval from its board. The move came just after the turmoil in the digital currency space hit its peak with collapse of the Tokyo-based Bitcoin exchange Mt. Gox. That exchange's CEO, Mark Karpeles, has blamed the bankruptcy on the theft of 850,000 bitcoins, worth roughly half a billion dollars. Japanese and US officials are still trying to determine whether or not criminal activity was involved. Meanwhile, on Tuesday the lesser-known Canadian exchange Flexcoin announced it was shutting down after losing $600,000 worth of Bitcoins in a hacking attack.

Sitting on a panel with Boston University Professor Mark T. Williams and Minyanville founder Todd Harrison, Silbert explained that his company is officially moving forward after securing board approval. He also said that over the past month, SecondMarket has been working behind the scenes with regulators and global banks to begin building the new exchange. Prior to these efforts, SecondMarket launched the Bitcoin Investment Trust in 2013. It's the world's largest Bitcoin investment fund at $65 million in assets and is a private, open-ended trust available only to accredited investors. Now it will belong to a separate organization that will also run the exchange.
Source: Twitter, @krbazzy

"The construct we are working on is something that Wall Street and regulators already feel very comfortable with," Silbert explained. "It is a member-based exchange with a hub-and-spoke model, where the exchange is the hub, and the spokes are all the regulated banks, broker dealers, and other entities. If you want to buy Bitcoin, you go through one of these members."

Silbert said that he and his team have been working with regulators from day one. The exchange will have both a clearing firm and a self-regulatory organization (SRO), which will govern and oversee all trading activity.

Playing ball with regulators is essential for emerging Bitcoin businesses. In May 2013, the Department of Homeland Security seized $5 million from Mt. Gox's bank accounts after the now-defunct exchange failed to register as a money transmitter in line with the Financial Crimes Enforcement Network's (FinCEN) guidelines.

Regulators in New York and California have led the charge on state-level regulation. New York Department of Financial Services (NYDFS) Superintendent Ben Lawksy has
said that regulation will help stabilize Bitcoin's volatility on exchanges and will help protect consumers and their money. He has said "Bit Licenses" for businesses operating within the Bitcoin space will launch later this year.

In addition to support from regulators, Silbert said the banking system in New York has realized that Bitcoin is here to stay, and he has witnessed champions inside each of the major banks pushing their institutions to form a strategy in the rapidly growing area.

Silbert's announcement at the event, however, did not go without comment.

Williams, who is a risk management expert and a former bank examiner for the Federal Reserve, pointed out that having a new, regulated exchange will not necessarily reduce volatility. "Just to give you a sense of how high volatility is in Bitcoin, since 2009, when the first [Bitcoin] was mined, the volatility has ranged between 160% on an annualized basis to a low of roughly 140%," he said. "This is significant risk.... Bitcoin as a risk perspective is seven times riskier than gold, eight times more risky than the S&P 500, and 15 times more risky than hard currency such as the US dollar. That volatility is the challenge for this to be successful.... Volatility, if this is going to be a currency, has to be at least 10, 12, 15% at best."

SecondMarket has already been looking at ways to solve this volatility problem on its planned exchange by slowing down the trading of Bitcoin. "We are actually looking to the gold, FOREX, and Libor models, specifically the gold spot-pricing process," Silbert said. "Instead of having a 24-7 market, the price would be set once, twice, or four times a day, via a more traditional sealed bid or Dutch auction... If we go this route, intraday volatility is eliminated, but day-to-day volatility will remain the same."

Amid the debate of how Bitcoin markets could be stabilized for mainstream investors, Minyanville's Harrison, who's been trading for 22 years and is a former hedge fund manager, turned the conversation back to Bitcoin's historical users. "My question would be: If you start to adopt these regulations, these insurances, and all of these fail-safes within the system, doesn't that in some way work as a catch-22 for all the loyalists who were drawn to Bitcoin in the first place, because they were without things like transaction fees and government intervention?" Harrison asked.

"Oh, it does," Silbert responded. "It also adds costs. Say, for example, you do want to have protection when you buy from an online merchant and the merchant doesn't send you goods. You want to have recourse. There will be services layered on top of some of these products that we will all have to grow accustomed to when making online purchases that will cost money.... The payment space is going to get disrupted, the movement of money is going to get disrupted. But there will be incremental costs in addition to those that exist today in the well-regulated [Bitcoin] infrastructure that is being built."

The exchange is set to launch this summer.

Follow me on Twitter: @brokawbrokaw

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