But for now, a dive in price could impact the future of a company that wants to transact in it, making vending in bitcoin a prohibitively risky move.What are derivatives?That is where derivatives come in. The contractual tool “derives” its value from an underlying asset—in this case bitcoin. The value of the underlying asset can fluctuate, but the contract locks it in at an agreed-upon price for a period of time.There is a lot of uncertainty. It is beneficial for merchants to lock in a long term price, so that they can still operate and plan in the face of possible fluctuations. Traditionally, this has been a useful tool for agriculture, oil, and other markets where the prices of underlying commodities were subject to volatility.“It will make bitcoin less and less volatile over time.” BTC.sx COO George Samman said. “It provides a proper hedging mechanism.”There are a number of types of derivatives: options, forwards, futures, and swaps. CoinDesk correspondent Daniel Cawrey touches on the various types of derivatives.As long as the network is composed of a small number of actors, many institutional players are hesitant to move into the bitcoin market until hedging instruments develop.Houman Shadab, professor at New York Law School and author of the Mercatus paper told CoinDesk, “The development of bitcoin derivatives means that people are taking bitcoin seriously and want to make it easier to use.”Mercatus recommendationsRight now, regulatory focus is fixed on bitcoin’s use in money-laundering and illicit purchases. But when the markets for advanced financial instruments expand, the arm of the government will likely follow.In mid-April, the Mercatus Center, a market-oriented think tank, released a working paper titled Bitcoin Financial Regulation: Securities, Derivatives, Prediction Markets, & Gambling that describes the government’s role in these transactions.According to the authors – Jerry Brito, Houman B. Shadab, and Andrea Castillo – as bitcoin evolves and the infrastructure develops for bitcoin trade, new financial instruments will pop up to deal with risk. Securities, derivatives, prediction markets and gambling will assume greater significance in the bitcoin ecosystem.The paper is a draft and is subject to change. The scholars’ recommendations is summarized as follows:Following the approach to virtual currencies taken by FinCEN, we argue that other financial regulators should consider exempting or excluding certain financial transactions denominated in bitcoin from the full scope of their regulations, much like private securities offerings and forward contracts are treated. We also suggest that to the extent that regulation and enforcement becomes more costly than its benefits, policymakers should consider and pursue strategies consistent with that new reality, such as efforts to encourage resilience and adaptation.Many Bitcoin derivatives resemble forwards, which are not regulated by the CFTC. Forwards are not subject to regulations outlined in the Commodities Exchange Act (CEA) for a couple of reasons. Forwards contracts are generally tied to a physical commodity, unlike futures which are settled in cash. Since bitcoins have a cap and inherent value it resembles a physical commodity. Bitcoins are also easily transferable.CFTC regulations are reserved for speculative markets.Bitcoin derivatives should be treated like any other commodity derivative, Shadab told CoinDesk. “The CFTC should exempt from the full scope of its regulation derivatives that ultimately transfer bitcoins between users, for the same reasons physically settled commodity derivatives are not regulated as heavily as futures.”“The CFTC should help to foster a liquid and robust market for Bitcoin derivatives so investors and users can decrease their exposure to price risk” he added.Other opinionsA CFTC spokesman declined to comment because the agency “has not taken any actions with regard to bitcoin.” But last year the former chairman Bart Chilton said the agency was “seriously considering” regulation.Some think clarity is the number one priority. Early this year Sen. Tom Carper (D-DE) asked the CFTC to clarify its position to “remove the cloud of uncertainty.” Harvard Review reported on the general attraction to regulation amongst bitcoin entrepreneurs, simply because it helps to dispel the paralyzing uncertainty.Undoubtedly, bitcoin would benefit from clarification from the CFTC.Pillars of law image via ShutterstockCFTCderivativesfuturespricesSenator Tom CarperOriginal author: Alyssa Hertig