When it comes to trading cryptocurrencies, few companies are as big and as important as Coinbase Global (COIN 5.68%). But what if I told you it was playing in the shallow end of the pool? According to a recent industry report from CoinGecko, spot trading of cryptocurrencies is a $900 billion market. But this accounts for less than 23% of all trading volume in cryptocurrencies.
The much larger opportunity in cryptocurrency is in the trading of derivatives. And on Aug. 16, Coinbase announced it's approved to now offer trading on cryptocurrency futures, representing a headfirst dive into the deep end of the pool.
Coinbase's business
Stocks trade on exchanges and have set trading hours. By contrast, cryptocurrencies can be traded all the time. When you trade a cryptocurrency at its current price, that's called spot trading. And spot trading is a major part of Coinbase's business.
In the second quarter of 2023, Coinbase generated $310 million in revenue from transaction fees charged to retail investors for spot trading cryptocurrencies. This was almost 44% of the company's total revenue for the quarter, which is substantial.
This source of revenue for Coinbase used to be even bigger when crypto was hotter. Consider that overall trading volume for retail investors on the company's platform was $46 billion in the second quarter of 2022. In Q2 2023, that number plunged 70% to just $14 billion. People simply aren't trading cryptocurrencies as much as they once were.
The decline is costing Coinbase big time. The company has lost hundreds of millions of dollars in revenue as people trade less frequently. And it's gone from impressive profits to disappointing losses.
COIN Revenue (Quarterly) data by YCharts
Coinbase's management believes people will trade more if the cryptocurrency market enters a new bull market. But until then, it's trying to develop other revenue streams, which is where cryptocurrency derivatives come in.
Coinbase's new business opportunity
Futures allow investors to make money by correctly predicting whether a particular cryptocurrency is headed higher or lower.
Trading cryptocurrency derivatives, which includes futures, is a regulated space. On Wednesday, Coinbase shared that it's gained regulatory approval from the National Futures Association to offer futures to select users in the US.
The news is important for Coinbase investors for multiple reasons. I've already mentioned that the crypto derivative market is a much larger opportunity for the company. But it's also worth pointing out that this also allows it to better compete with the 800-pound gorilla in the space: Binance.
According to data shared by Bloomberg in December, Binance had roughly 60% market share of the crypto derivatives space. This is a big reason why it's the largest cryptocurrency exchange in the world.
When it comes to crypto derivatives trading in the US, however, Binance has issues. The Commodity Futures Trading Commission is seeking action against the company, claiming the platform has wrongly offered derivatives trading since July 2019.
Coinbase's regulatory approval could give it an edge over its biggest rival in this important market.
Is the news bullish or bearish?
It's too early to get too excited about this news from Coinbase. For starters, the ability to trade futures will only be available to select users. But the company hasn't shared what the requirements will be, so we don't know how many of its users would qualify and use it.
Moreover, Coinbase's business is subject to sharp business cycles because so much of its revenue is transactional. Management has been focused on building recurring revenue streams. But the ability to trade derivative products doesn't get it closer to that goal. Trading futures will still be transactional and likely prone to times of extreme interest followed by periods of little activity.
All of this said, I don't see where this news is bad for Coinbase in any way. It provides a new revenue opportunity in a huge part of the market. It brings it into closer competition with its top rival Binance, and it provides the company with a regulatory win, which is often an area that's like a dark cloud hovering over its head.
For these reasons, gaining approval to trade cryptocurrency futures is a win for Coinbase. But it remains to be seen just how big of a win it is.
