Having disapproved more than 20 exchange rule filings for spot Bitcoin exchange-traded products over the last seven years, the US Securities and Exchange Commission finally gave the green light for Bitcoin exchange-traded funds in January.
The move gave investors the opportunity for direct exposure to the cryptocurrency rather than secondary exposure via ETFs that invest in Bitcoin futures contracts, which have been available since December 2017.
At the time of writing, the price of Bitcoin was $42,243.20, down from $46,376.10 when the first Bitcoin ETFs hit the market on January 11. But proponents of the new funds are confident that investors will be attracted by lower costs and more secure access to the cryptocurrency.
ETF manager VanEck was one of the first to come to market.
Matthew Sigel, its head of digital assets research, says that Bitcoin ETFs provide retail investors with cost savings of more than 50% over buying Bitcoin on centralized crypto exchanges, while for institutional investors the ETF wrapper allows them to hold Bitcoin at low cost and high liquidity and maintain the custody requirements demanded by US regulation.
“While many banks and brokers do not currently offer Bitcoin ETFs on their platform, we predict this will change,” Sigel says. “Several wirehouses are preparing asset allocation models that include Bitcoin with an eye to giving financial advisers justification to include the largest cryptocurrency in the discretionary portfolios of their clients later this year and into 2025.”
Advantages
For retail investors, the lowest-cost Bitcoin ETFs charge fees of 0.2% or less, making them cheaper than the trading fees and spreads many crypto exchanges charge on their platforms.
Bitcoin ETF issuers also work with institutional-grade custodians that store Bitcoin offline in so-called ‘cold storage’ solutions.
“Many exchanges keep some portion of their crypto assets online, and if the exchange were to be hacked, investors could lose their holdings,” says Juan Leon, senior crypto research analyst at Bitcoin ETF provider Bitwise. “So, unless an individual is going to hold the Bitcoin in cold storage themselves, they are better off with the ETF from a security perspective.”
Investors have stayed on the sidelines when it comes to cryptocurrency – and Bitcoin in particular – because they do not want to jump the hurdles associated with creating a wallet, handling the asset through self-custody, and the compliance requirements associated with institutional investors, according to Steven McClurg, CIO of Valkyrie – another to have entered the Bitcoin ETF space.
He believes that SEC approval will give investors confidence.
“ETFs are ingrained in the US financial system and many investors are familiar with ETFs compared to accessing crypto through an exchange,” he says. “The ease of use provided by these ETFs can be appealing to that audience.”
The attraction of an ETF is that it is a regulated security that seamlessly fits into a traditional operational and user experience, says Chris Perkins, an adviser on the Commodity Futures Trading Commission’s global markets advisory committee and managing partner at CoinFund.
It is just like trading any other stock via a brokerage account, and you don’t need to worry about private keys, wallet set ups, or any of the other complexities of holding cryptocurrencies
Chris Perkins, CoinFund
“It is just like trading any other stock via a brokerage account, and you don’t need to worry about private keys, wallet set ups, or any of the other complexities of holding cryptocurrencies,” he says.
Steve Sosnick, chief strategist at Interactive Brokers, notes that many investors are constrained to buying stocks, or stocks and bonds, and that ETFs fit under that umbrella.
“Not every investor wants to go to the trouble of opening an account with a crypto exchange as it is a different sort of counterparty to what many advisers are familiar with,” he says. “Also, there are issues of trust, especially in the wake of [the issues at] Binance and FTX.”
Investors who invest in a Bitcoin ETF will no longer need to manually record cost bases and any capital gains or losses for taxes, as this will now happen automatically, just like any other asset in their brokerage account.
“Additionally, all of the complexities around buying, storing and safekeeping Bitcoin will be outsourced to professional asset managers,” says Zach Pandl, managing director of research at Grayscale.
Setting a precedent
There is a feeling in some quarters that the approval of Bitcoin ETFs sets a precedent for similar products offering exposure to Ethereum, which is by some distance the second-largest cryptocurrency by market cap.
The obvious hurdle that Ethereum will have to clear is market depth, since its spot and futures markets are not as large and liquid as Bitcoin’s. There are also questions about the extent of Ethereum’s decentralization and whether it meets the criteria of a commodity.
Grayscale is particularly enthusiastic about the prospects for Ethereum ETFs – hardly surprising, since it manages a range of crypto investment vehicles, including an Ethereum fund.
“Upon appropriate regulatory approval we intend for all these products to up-list to national exchanges as ETFs and we are committed to continuing to work with regulators and policymakers to promote the merits and disclose the risks of various crypto assets,” says Pandl.
Perkins is also bullish about the Ethereum ecosystem, although he reckons the ETFs will not be the exciting product some market participants expect.
“This is because I do not expect regulators to approve the staking of the underlying Ether, and without staking, investors will be deprived of a very exciting real yield,” he says. “I expect institutional investors to instead focus on scalable, benchmarked total return products.”
Crypto staking is when cryptocurrency holders pledge their cryptocurrency towards helping validate transactions on the blockchain in exchange for rewards, which are usually a percentage of the tokens staked.
