Hedgy Can Reduce Bitcoin Price Volatility Risk For Consumers, Merchants, and Miners

Hedgy is a bitcoin startup that has been working in the shadows for quite some time, but they were finally able to announce the launch of their blockchain derivatives platform earlier this month. With Hedgy, users can hedge the price volatility risk associated with bitcoin via another party in a P2P manner. The company believes their role as a smart contracts oracle can eventually be valuable for consumers and merchants, but this early version of their product is only available to bitcoin miners.

Hedgy Co-founder and CEO Matt Slater recently completed an AMA on ZapChain, and he was able to answer some questions that I had already put together in anticipation of a direct interview. His answers clarified Hedgy’s intentions, how their platform works, and how it could bring more users to bitcoin over time.

How does it work?

Instead of acting as a counterparty for individuals or organizations who wish to fix the value of their bitcoin to the US dollar or other fiat currencies, Hedgy has created a place for separate parties to come together and create smart contracts that cannot be broken. Once two parties have agreed on the terms of a hedging smart contract, a minimum of 30 percent margin is placed into a multisig bitcoin address by both sides. The contract is then settled when its term expires or the margin deposits in the smart contract have been depleted.

One issue that could pop up for Hedgy in these early days is a lack of liquidity. This is an issue that every exchange faces during its initial launch, but in his AMA, Slater noted, “We are working with market makers that help mitigate [the risk of low liquidity].”

With a margin requirement of 30 percent, it’s possible that a user of Hedgy could lose their hedged protection against a bitcoin price crash over the course of a week or two — or maybe even a few days. Although bitcoin has become less volatile over time, users still experience the occasional price crash of 20 to 30 percent over the course of a few days. The last such crash took place in January of this year. When asked specifically about what would happen to a merchant or consumer’s price volatility protection in such a situation, Slater explained:

[blockquote]”It would depend on the margin posted to each contract that would determine at what price the contract would stop out. Since these are bespoke contracts, the counterparties can agree up front to post additional margin as the price of bitcoin changes.”[/blockquote]

Who is it for?

For now, Hedgy can be useful for bitcoin miners who wish to lock in a sell price for their yet-to-be-mined bitcoins. Having said that, there’s no reason this platform could not eventually be used by anyone who wishes to hold fiat value with limited counterparty risk.

13/Now, yes, in the long run, BTC does need to stabilize — which I think will happen with a combo of scale + use of derivatives (hedging).

— Marc Andreessen (@pmarca) January 5, 2015

Access to the Hedgy platform is rather limited right now, and the true potential of this new option for hedging won’t be appreciated until it can be used by a larger variety of the bitcoin community. For example, what about a Hedgy plugin for bitcoin wallets that allows users to hedge their bitcoins against their local fiat currency at the click of a button? When asked if this sort of functionality could be in the cards in the future, Slater simply stated, “Perhaps.”

Is this a key step towards taking bitcoin mainstream?

Different options for avoiding volatility risk that involve selling bitcoin for US dollars, euros, or some other form of fiat currency already exist, but it would be interesting to see if hedging bitcoins as an alternative would be preferred by some bitcoin users. Price volatility is still one of the top two concerns for potential bitcoin users who have avoided the digital commodity, and the ability to easily manage that risk from inside a wallet could be a powerful tool for onboarding new bitcoiners.