Due to the complexities surrounding a potential Bitcoin hardfork event, we would like to communicate Bitfinex’s plan for handling the accounting of margin positions and borrowed funding.
We must, once again, strongly urge the Bitcoin mining community to avoid such an event, if at all possible. The knock-down effects on Bitcoin exchanges and their customers could be severe, causing substantial price fluctuations, inefficient price discovery, and needless customer losses.
In the event of a hardfork that results in a chain split, Bitfinex and other major exchanges—such as Poloniex, Kraken, and GDAX—are faced with the challenge of resolving complex accounting issues in margin trading. Ideally, each exchange would agree to a uniform and coherent methodology; however, each serves different audiences and have different market structures, making a universal solution unworkable. For example, Bitfinex has decided to take a different approach than the one proffered by Poloniex. While we understand Poloniex’s approach may make sense for their business, it is not an approach that ultimately satisfies our operational requirements at Bitfinex.
After much analysis, we have chosen to handle the accounting of margin trading and funding based on the model of how stock spinoffs, dividends, and distributions are handled in equity markets. Specifically, in the case of a hardfork event, lenders will receive both BTC and BTU. Anyone that is short BTC/USD or long any BTC trading pair (ETH/BTC, LTC/BTC, etc.) will owe BTU to the lender, effectively making the user short BTU. An exception is in the case that BTC is borrowed but not in use as margin collateral, in which case BTU accrues to the lender. Users that are margin long BTC/USD or short any BTC trading pair will receive BTU.
This methodology is complex and operationally challenging, but we believe it to be the most economically correct and fair approach for Bitfinex and our customers. Furthermore, we believe it is the only approach that will keep the BTC lending market functioning through a hardfork event. Imagine a hypothetical situation where lenders do not receive BTU. They will simply stop lending if a hardfork appears imminent. And while Bitfinex has, rarely, stepped in to become a lender of last resort, in such a dramatic situation Bitfinex would be unable to—and would not want to—cover demand. Consequently, lending liquidity would completely disappear and Bitfinex would be obliged to begin partial liquidations of margin positions using borrowed BTC that could no longer be renewed. We believe that such a hypothetical outcome should be avoided at all costs. Our plan should prevent the negative consequences of this hypothetical and seems likely to allow the funding market to continue to operate.
While our proposed methodology will ensure a functioning lending market for BTC, borrowers must understand that while their P&Ls may climb during a hardfork event, they will have offsetting BTU liabilities that will be applied to their accounts, but perhaps not immediately. At the moment Bitfinex detects a BTU block that is incompatible with the BTC chain, we will immediately halt the processing of all BTC deposits and withdrawals for all users, and freeze all movements for all currencies for any borrower of BTC. This freeze will last until the BTU accounting can be adequately prepared and addressed. BTC borrowers can hedge or estimate this liability with newly listed Chain Split Tokens (CSTs).
We wish to state clearly and publicly that the scope of any disruption associated with a potential hardfork is in the hands of the Bitcoin Unlimited developers. We request that the Bitcoin Unlimited developers implement strong two-way replay protection and wipeout protection so that, if a hardfork event occurs, we can quickly list BTU and resolve accounting issues for customers with BTU liabilities.
More details on the specific procedures will be forthcoming, but we feel that it is important to address the economic implications as soon as possible so that our customers can plan accordingly.