Binance out on a fee-free Bitcoin glue limits volume decline, but muddies profit prospects
INDIA – 2021/07/17: This photo illustration shows a Binance Bitcoin logo on an Android … [+]
What happened
Binance.US, the US affiliate of the world’s largest crypto exchange, suspended trading fees on bitcoin pairs on June 22. Binance itself followed suit on July 8. Based on reported mid-June and mid-July trading volume tracked by Forbes, the impact was immediate for Binance.US. While other major crypto exchanges, including Binance, saw a volume drop of 50% or more, Binance.US only experienced a 2% decrease. In fact, the first month of summer has seen daily volume collapse more than 67% for the universe of more than 150 crypto exchanges that Forbes regularly tracks.
In fact, Binance.US daily bitcoin volume held steady at $187 million, surpassing that of larger domestic exchanges such as Kraken (down from $446 million to $103 million) and Gemini ($244 million to $51 million).
Given this immediate effect, the big questions become:
- Is this the start of a trend?
- How can crypto exchanges generate long-term profits in a zero-fee environment
Change in daily bitcoin trading volume, June 2022 to July 2022, in millions of dollars.
Key context
The Robinhood Zero-Fee Precedent
Another firm, San Francisco-based Robinhood (HOOD) introduced free stock trading in 2013, free options in 2017 and free crypto transactions in 2018. It took six years for Schwab to match Robinhood’s zero-commission strategy, after which it became the industry norm. From 2013 to 2019, US stockbrokers had gradually reduced their fees, with some big names unable to compete – Scottrade, for example, was snapped up by TD Ameritrade in 2017 as a result. After the zero-fee policy became the norm, further consolidation followed, with Schwab acquiring TD Ameritrade and Morgan Stanley
How could these two procurement firms make money in a tax-free business? The short answer is client relations. We’ve previously reported how paying for retail order flow is a profitable strategy for non-bank market makers like Citadel Securities LLC and Virtu Americas, LLC. Schwab may have started in the 1980s as a discount broker, but by the last decade it was a massive asset manager with $8.14 trillion under management. It has learned to make money in many different ways, such as actively managing bond portfolios, charging for financial planning and receiving administrative fees from mutual fund companies. E*Trade gave Morgan Stanley a large client base, younger and less affluent than those in the buyer’s traditional wealth management business. Customers of the acquired companies maintain connections to the brands, bringing investable assets to the new owners. One day, these same investors may inherit capital from their parents, reach their peak earning years with successful careers intact and have more complex financial decisions to make — that’s when Morgan Stanley’s vast wealth management business will benefit from the E*Trade acquisition.
China’s Attempt at Free Bitcoin
As the experience of China’s free trade showed a few years ago, the practice can lead to irrational, machine-generated volumes due to demands for market share.
Monthly bitcoin trading activity of the three largest Chinese exchanges during a period of free … [+]
Three Chinese crypto exchanges – Huobi, BTC China and OKCoin – started a zero-fee war in September 2013, apparently generating bitcoin volume in the tens of millions monthly. Chinese exchanges made money from withdrawal fees, which declined as customers traded higher volumes. Giving traders an incentive to trade more to pay less in withdrawal fees makes investors inclined to enter wash trades that increase volume while being hedged. The excessive trading is for show, giving new investors the impression that some assets are in demand and giving them a reason to increase their value even more. The perverse incentive to fake trading may again be present in some exchanges, but not necessarily.
The insanely high volume didn’t start right away, but what was supposed to be a temporary fee suspension became a permanent feature and it contributed to the perception that bitcoin trading was dominated by China. In practice, it also led to a lack of friction among exchanges, which introduced few if any barriers to keep out poorly designed crypto projects. The reversal of the zero-bitcoin fee policy would only come in early 2017 when the Bank of China started washing crypto exchanges and the first coin offering market in China.
Questions remain..
Before the zero-cost policy, Binance.US’s fees were already among the lowest, at 10 basis points, comparable to FTX’s 10 points for producers and 20 for takers and to Coinbase
Binance and Binance.US have responded to the current crypto winter by reportedly increasing their workforce and, most recently, by increasing a US affiliate program immediately after Coinbase canceled a similar offering. How can Binance.US adopt this contrarian approach? Wisely, Binance kept its powder dry when some of its major peers made mega deals sponsoring major sports franchises and arenas like Crypto.com and FTX did in 2021.
As for Binance.US, the firm also raised $200 million in equity capital in April from RRE Ventures, Foundation Capital and Original Capital, and in late June, Binance.US CEO Brian Schroder revealed to Protocol that the company will soon announce an additional 50 million dollars raised from its strategic partners. The stated purpose of the fundraiser is to expand spot trading activities and increase the firm’s marketing. Although substantial, these funds will not guarantee long-term solvency.
Like Robinhood over the years, Binance and Binance.US will face persistent questions about how they make their money if not by trading fees or selling the power to market makers. It is conceivable that Binance’s new crypto products such as staking, NFTs and institutional trading will help create a viable business. But the firm’s limited transparency in sharing how it makes money means doubts will persist over whether it can maintain its free trade policy.
Takeaways
Domestic competitors have not matched Binance.US’ announcement of zero bitcoin fees, suggesting that US-based crypto exchanges are dependent on trading revenue – see Forbes’ article last week detailing how 90% of Coinbase’s revenue comes from trading. But time and sustained lower volume could push reluctant exchanges down the slippery slope of zero trading fees, completely changing their business models. Binance’s adoption of free bitcoin trading could end up being as important as Schwab’s move to end stock brokerage fees in 2019.
Binance.US informed Forbes that the zero trading fee would not come at the expense of selling the power to third parties, which Robinhood routinely does and is legal although controversial. “Binance.US does not receive rebates from third parties, including Binance or Binance-controlled intermediaries, for order flow” stated the Binance.US communications team. The firm went on to say it supported a fixed flat rate for withdrawal after cutting the bitcoin fee by 60% to 2 points.
Twelve years since the launch of Mt Gox, arguably the first major crypto exchange, a historian may well point to now as the start of a consolidation phase where exchange commissions are compressed faster and eventually eliminated. But crypto investors shouldn’t hold their breath for zero fees everywhere. If experience in the equity world is any guide, it will be years before zero fees force the hand of the remaining big firms. Here’s what we can bet: Binance.US’ “free trade” will hurt most crypto exchanges with the highest fees and have the least impact on low-fee exchanges. Crypto exchanges that cannot/or will not lower fees are likely to experience lower trading volume unless they have other revenue streams and attractive products to keep them going.
Cost of buying bitcoin in the US, measured in basis points by the service provider
Regardless of this slow-moving war of attrition among exchanges, it makes sense for crypto investors to continue to base their choices of crypto exchange on things that define a well-rounded crypto exchange, things like a comprehensive product selection, good regulatory compliance, and strong financial backing.
With Robinhood stock ( HOOD ) trading at $8.36, down 76% since its IPO, it’s ironic that the zero-trading-fee poster child could be bought by FTX, a zero-fee ( FTX ) firm. Either way, trading volume in the free trade fee era will be messy, with fee generating volume and machine generated free trading being counted together.
