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The prospect of a Bitcoin exchange-traded fund (ETF) has been a topic of intense discussion and anticipation within the cryptocurrency community for the last several months. A Bitcoin ETF would allow investors to gain exposure to the price of Bitcoin without having to purchase and store the cryptocurrency themselves. Beyond that, an ETF would legitimize the crypto space, derisk regulatory concerns, bring in a new class of investors, and potentially solidify “crypto” as a new and emerging asset class akin to commodities or emerging markets.
ETFs vs. Other Investment Vehicles
The obvious first question surrounding this decade-long BTC ETF debate is, “Why an ETF?” To answer that, let’s first look at what an ETF is, how it differs from other investment vehicles, and how it simply holds BTC natively.
An Exchange-Traded Fund (ETF) is an investment fund traded on stock exchanges, much like stocks. An ETF holds assets such as stocks, commodities, or bonds and generally operates with an arbitrage mechanism designed to keep it trading close to its net asset value (although deviations can occasionally occur). A Bitcoin ETF, for instance, would allow investors to gain exposure to Bitcoin without the complexities of directly buying and securely storing the digital currency. It would be valued based on a specific Bitcoin index and offer the ease of trading akin to conventional stocks. Like other ETFs, a BTC ETF would be subjected to fees issued by the broker.
Several crypto investment products and the fees associated with them. Different from ETFs, Exchange Traded Notes (ETNs) are debt securities issued by financial institutions. Trading on major exchanges, ETNs provide returns linked to the performance of a market index or other benchmark minus issuer fees. While they are traded like stocks, the ownership of the underlying asset is not transferred to investors. Instead, ETNs are backed by the credit of the issuer, which means they carry an additional risk of default. Several BTC ETNs already exist, like the Vaneck BTN and others (chart below).
Exchange Traded Certificates (ETCs) or Synthetic ETNs are debt instruments that emulate the performance of other asset classes using derivatives. ETCs are typically uncollateralized, meaning they do not require the backing of physical assets or collateral, which can add a layer of risk for the investor due to the lack of tangible backing.
Finally, an Investment Trust is a publicly traded company that pools investors' funds to invest in a portfolio of assets. As a closed-end fund, it does not continuously offer new shares or redeem its own; instead, the shares of the trust are bought and sold on the market. The value of an investment trust's shares is directly tied to the value of the assets it holds, known as the net asset value (NAV). However, unlike open-end funds, the market price of a closed-end fund's shares can significantly deviate from its NAV. The most (in)famous crypto example of a trust is Grayscale’s GBTC.
The choice between these investment vehicles depends on the investor's risk tolerance, investment goals, and the need for liquidity. Each vehicle offers a different level of exposure, risk, and complexity, with ETFs generally considered a more direct and less risky investment into an asset class compared to ETNs and ETCs, while investment trusts offer a more traditional approach to fund management.
Spot vs. Futures
Within the ETF landscape, two distinct models prevail: spot and futures. Spot ETFs provide investors with exposure to Bitcoin's current market price by holding the actual cryptocurrency, whereas futures ETFs engage with contracts that forecast and agree upon a price for future exchange, circumventing direct ownership of the digital asset.
The resistance of the U.S. Securities and Exchange Commission (SEC) to the spot ETFs underscores the regulatory unease regarding the tangible handling of cryptocurrencies, primarily due to concerns over market manipulation and the reliability of trading volume data from crypto exchanges. Contrastingly, the Commodity Futures Trading Commission (CFTC) regulates Bitcoin futures, which are openly traded on established platforms like the Chicago Mercantile Exchange (CME), offering a more sanctioned avenue for investment.
ProShares Bitcoin Strategy ETF (BITO), the largest Bitcoin futures ETF in the U.S., exemplifies the rapid market appetite, having amassed $1.2 billion within days of its launch in October 2021. However, the size disparity among futures ETFs is notable, with competitors like VanEck Bitcoin Strategy ETF and Valkyrie Bitcoin Strategy ETF managing considerably less capital.
The fervor for spot Bitcoin ETFs persists despite the availability of futures ETFs. The rationale lies in the spot funds' capacity for holding Bitcoin indefinitely, reduced fees, and their closer tracking of Bitcoin's actual price. Futures ETFs, conversely, confront monthly contract renewals, which can impose additional costs on investors. The limitation on the number of contracts an ETF can hold further exacerbates the potential for these costs.
Additionally, a spot BTC ETF could attract a new segment of the financial markets, such as Registered Investment Advisors (RIAs), retirement funds, and other institutions that have, until now, been largely sidelined in the crypto domain. The implications of introducing one or more spot Bitcoin ETFs are substantial. The wealth management sector, which governs over a third of the wealth in the U.S., is particularly positioned to benefit. This cohort, typically reliant on ETFs for crafting investment strategies, is unlikely to engage in direct purchase and self-custody of Bitcoin. Spot Bitcoin ETFs offer a structured and familiar vehicle for inclusion in their diverse investment approaches.
BTC ETF Importance
Over the long haul, the establishment of spot Bitcoin ETFs is anticipated to funnel billions of dollars into the total cryptocurrency market capitalization and ignite a host of new investment opportunities within the asset class. As of the third quarter of 2023, Bitcoin investment products, including Exchange-Traded Products (ETPs) and closed-end funds, held approximately 840,000 Bitcoin, valued at around $22 billion. Their popularity can be partially attributed to the complexity of managing wallets, private keys, and the associated tax reporting involved in direct Bitcoin ownership.
A spot Bitcoin ETF stands to address these inefficiencies by offering more competitive fees, improved liquidity, and accurate price tracking. Although specific fee structures are yet to be disclosed by ETF applicants, the competitive nature of the ETF landscape suggests a lean towards affordability. Additionally, the tradeability of spot ETFs on major exchanges promises enhanced liquidity and more precise adherence to Bitcoin’s market price, unlike futures-based products or other indirect Bitcoin exposure methods.
The significance of a Bitcoin ETF includes:
- Legitimacy: The endorsement of Bitcoin ETFs by reputable financial entities could enhance Bitcoin’s legitimacy as an asset class, fostering wider acceptance into everyday portfolio construction.
- Regulatory Clarity: SEC approval of a Bitcoin ETF would address safety and compliance reservations, providing clarity and encouraging further investment and development within the crypto space.
- Expanded Reach: Current Bitcoin investment funds are largely confined to wealth advisors or institutional platforms. A regulated ETF would democratize access, allowing a broader investor base, including retail and affluent individuals, to participate.
- Distribution: Many financial advisors and fiduciaries are currently precluded from including Bitcoin in wealth management strategies. An approved spot ETF would enable them to allocate client assets to Bitcoin investment, potentially unlocking significant capital.
The introduction of a Bitcoin spot ETF would likely be a transformative development for the cryptocurrency market, offering a more accessible, efficient, and regulatory-compliant vehicle for Bitcoin investment, appealing to a diverse investor base and potentially fostering a new era of institutional adoption and mainstream acceptance.