In this blog post we are going to explore the cryptocurrency ETF, its working, benefits and regulatory status of them in a more detailed way.
What is a cryptocurrency ETF?
An ETF that invests in cryptocurrencies is known as a cryptocurrency exchange traded fund (ETF). A cryptocurrency ETF measures the price of one or more digital tokens, whereas other ETFs track an index or a basket of assets. The share price of cryptocurrency ETFs swings on a daily basis based on investor sales and purchases. They are traded on a daily basis, just like conventional stocks.
How does the cryptocurrency ETF’s work?
Cryptocurrency ETFs offer investors a number of advantages, including decreased cryptocurrency ownership fees and the elimination of the steep learning curve required to trade cryptocurrencies.
There are two types of bitcoin exchange-traded funds (ETFs):
- The first is a cryptocurrency that is backed by actual coins. The fund’s investment firm performs cryptocurrency purchases, and the coins’ ownership is represented by shares. Investors will indirectly own bitcoins if they purchase shares in the ETF. As a result, owners can obtain exposure to cryptocurrencies without incurring the cost and risk of outright ownership.
- The second is a synthetic variation that follows cryptocurrency derivatives such as futures contracts and cryptocurrency exchange traded instruments (ETPs). Many ETFs presented to the Securities and Exchange Commission (SEC) in the United States, for example, follow the prices of bitcoin futures contracts traded on the Chicago Mercantile Exchange (CME).
The ProShares Bitcoin Strategy ETF (BITO), the first cryptocurrency ETF, began trading in October 2021. This is an exchange-traded fund that tracks the price of bitcoin futures.
The price of an ETF share is based on derivatives rather than actual cryptocurrency prices. As a result, as the price of futures contracts rises, so does the price of shares in a cryptocurrency ETF. It decreases as a result of the decrease. Synthetic cryptocurrency ETFs, like other derivatives, pose additional risk because their activities are not necessarily transparent.
Regulatory status of cryptocurrency ETF:
ETFs are the holy goal for cryptocurrency aficionados, as they will increase liquidity and adoption of cryptocurrencies for investing purposes. The Winklevoss twins submitted an ETF proposal for bitcoin (BTCUSD) with the SEC in 2014, around five years after the cryptocurrency initially started trading on an exchange. 3
Their application was turned down by the agency. Since then, a flurry of applications have been filed by various investment businesses, including one founded by the Winklevoss twins, who applied again this year, in order to profit from bitcoin’s price volatility. At least 12 applications were received by the SEC in 2021 alone.
In a January 2018 letter, the SEC clarified its concerns and stated why ETF applications were denied. The lack of transparency at cryptocurrency exchanges (which establish the price of individual tokens), the possibility of market manipulation, and the low liquidity levels in cryptocurrency marketplaces are among its worries. 5
Since the agency’s letter was published, the situation in bitcoin markets has altered. The amount of trading on exchanges has increased dramatically. The total market capitalization of cryptocurrencies has topped $2 trillion as of April 2022. 6 (At the time the SEC issued its letter, it had reached a high of $800 billion.) Coinbase Global Inc. (COIN), North America’s largest cryptocurrency exchange, is now a publicly traded company, and, as previously indicated, the first cryptocurrency ETF began trading in October 2021.
At the top of the agency, there has also been a change of guard. Jay Clayton, the former chairman of the Securities and Exchange Commission, was a seasoned veteran who was known to be anti-cryptocurrency. He was replaced in 2021 by Gary Gensler, the former chairman of the Commodity Futures Trading Commission (CFTC), who taught a course on blockchain and cryptocurrencies at the Massachusetts Institute of Technology. Although Gensler’s appointment has reignited hopes for a Bitcoin ETF, he has stated that he agrees with his predecessor’s evaluation and opinions on the cryptocurrency markets.
Benefits of cryptocurrency ETF:
Cryptocurrency ETFs are a new asset class, and their market is still being established due to regulatory uncertainty. However, they may be one of the greatest ways to invest in cryptocurrencies. The following are some of the advantages of owning shares in bitcoin ETFs.
- The most significant advantage of bitcoin ETFs is that they provide exposure to cryptocurrencies without the added costs of ownership. Cryptocurrency ownership comes with a slew of additional costs. Custody fees, for example, are connected with cryptocurrency. An annual fee is also charged by secure digital wallets for storing purchased cryptocurrencies. These fees add up to a sizable annual bill. Other hidden fees, including transaction and network fees, occur with cryptocurrency ownership. These costs are passed on to ETF providers through cryptocurrency ETFs.
- Cryptocurrency ETFs provide exposure to a rapidly growing asset class at a fraction of the expense of buying crypto. The price of cryptocurrencies, particularly bitcoin, has soared in recent years. They are mostly out of reach for the average investor. A cryptocurrency exchange-traded fund (ETF) is a cost-effective way for investors to invest in the asset class. Think about the following scenario: Bitcoin’s price began in 2021 at $29,405.12 and climbed to a high of $63,569 in April before falling to $35,045 by the end of June. 9 The price of shares in Canada’s Purpose Bitcoin ETF (BTCC-B.TO) fluctuated between $10.09 and $6.44 throughout this time. For a trader, a major investment in the ETF would have resulted in significant profits.
- Cryptocurrency language, which is deep in its technological roots, has remained a stumbling obstacle to widespread adoption. The scale and operation of cryptocurrencies are tough for typical investors to comprehend. Crypto-speak, such as halving and blockchain, may be a difficult learning curve for investors who are unfamiliar with technology. Investing in a cryptocurrency exchange-traded fund (ETF) delegated the learning curve to analysts.
- Since their inception, cryptocurrencies have indeed been regularly hacked, raising concerns about the young asset class’s security. Individual investors who are unfamiliar with the workings of cryptocurrencies may find it difficult to ensure their security. The security functions of a cryptocurrency ETF are outsourced to the ETF providers.
- In trading exchanges, around 1,800 cryptocurrencies are available. The infrastructure for buying and selling these tokens has yet to be established. Some tokens, for instance, are accessible on some bitcoin exchanges but not others. The acquisition of these tokens also comes with a considerable price tag. Cryptocurrency ETFs allow investors to diversify their holdings without having to pay for each coin individually.
Alternatives to cryptocurrency ETF’s:
Though there are no cryptocurrency ETFs trading in the United States other than the aforementioned ProShares Bitcoin Strategy ETF, investors can invest in a variety of ETF-like products to gain exposure to the cryptocurrency market. The Bitcoin Investment Trust is the closest thing to a bitcoin ETF (GBTC). The trust is a closed-end fund that works similarly to an exchange-traded fund (ETF) in that it owns bitcoins on behalf of investors and trades on over-the-counter (OTC) markets.
Grayscale’s Bitcoin Investment Trust, on the other hand, is not an ETF. It is only available to investment firms, accredited investors, and high-net-worth individuals (HNWIs) and is not open to the general public. GBTC has a high minimum investment requirement, and each acquisition of its shares is subject to a lock-up period.
Grayscale Investment Trust, the fund’s sponsor, levies an annual fee, similar to ETFs. However, the fee, which is equal to 2% of the fund’s assets, is much greater than the fee charged by other ETFs. 11 GBTC share prices, like the underlying securities, are subject to wild volatility. The shares also trade at a substantial discount to bitcoin’s current price. During the 2017 run-up in bitcoin prices, for example, investors paid a premium of 100% over actual bitcoin prices to buy GBTC shares.
Other items similar to GBTC are also available on the market. The Bitwise Ethereum Fund and the Bitwise Uniswap Fund, for example, keep track of the prices of Ethereum (ETH USD) and the Uniswap token. It’s important to remember that these funds share many of the same characteristics as Grayscale’s offerings: they trade at a large discount to the actual token, are only available to accredited investors, and also have a higher min capital investment.
Another approach to engage in cryptocurrencies without direct ownership is to invest in companies that have bitcoin on their balance sheet. Some publicly traded corporations have become bitcoin holders. MicroStrategy Inc. (MSTR), for example, had 129,218 bitcoins as of April 4, 2022, purchased at an average price of $45,714 each. 14 Since August 2020, when it initially announced the purchase, the company’s stock has risen by about 220 percent, with no major improvement in its business prospects.
This has caused some to speculate that the increase in its stock price is attributable to its bitcoin holdings rather than its desirability as a company. Tesla Inc. (TSLA), an electric car company, has purchased $1.5 billion in bitcoin by December 2021.Galaxy Digital Holdings Ltd. (BRPHF) and Square Inc. are two more publicly traded firms that have bitcoin on their balance sheets.
Some investment firms have formed funds containing shares of companies that use or are connected with blockchain, the underlying technology behind most cryptocurrencies, in the hopes of capitalizing on investor enthusiasm for the technology. The Amplify Transformational Data Sharing ETF (BLOK) and the Siren Nasdaq NexGen Economy ETF are two examples of such funds (BLCN)
Also check out the 5 best cryptocurrency ETF’s by performance in 2022 here.
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