Back To The Futures - The U.S. Bitcoin ETF

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From its earliest days, a variety of people (and their numbers are growing) have hitched their fortunes to that of Bitcoin by buying it and investing in businesses that deal in it. It would be hard to argue that it hasn’t been rewarding for those people. After all, Bitcoin’s value has exploded and the number of Bitcoin unicorns, or businesses with a market cap of over $1 billion USD, has risen proportionately.

For the average person however, one of the only ways to engage with Bitcoin for most of its existence has been buying it directly. Most people haven’t engaged with proxy funds like Grayscale’s Bitcoin Trust (GBTC) since it typically only trades at over the counter venues. Hedge funds, venture capitalists, and investment banks meanwhile are commonly the only groups who get access to early stage investment rounds at crypto companies. On the whole, investing in Bitcoin outside of direct purchases has been rather exclusionary. That has now changed and the market will never look back.

A Short History of Bitcoin ETFs in the U.S.

Tuesday was a historic day for Bitcoin and Bitcoin supporters as a Bitcoin Exchange Traded Fund (ETF) was finally approved to trade publicly in the United States. The ETF is managed by ProShares and trades on the New York Stock Exchange under the ticker BITO.

Bitcoin ETFs in the U.S. have been a long time coming. The Winklevoss twins, of Facebook fame, filed for the first ETF way back in 2013, but the offering was rejected by the U.S. Securities and Exchange Commission (SEC) because it felt that Bitcoin markets were susceptible to market manipulation. The regulator has taken a similar stance with all Bitcoin ETFs submitted since that time up until this week, and there have been many. The Winklevi and many other entities tried again in 2018, only to be turned down. And over a dozen Bitcoin ETFs have been filed since the start of the current bull market late last year. All of them but the one that launched this week are still sitting with the SEC for approval.

The beauty of an ETF is that it is open to investors of any size or sophistication. I remain a huge proponent of buying and hodling Bitcoin directly. That said, I freely admit that Bitcoin ETFs will help drive adoption for many people, companies, and investment funds that wouldn’t likely buy Bitcoin directly in the near future, or perhaps ever. Simply put, a lot of mom and pop investors probably believe custodying Bitcoin is more hassle than they’d like to take on. Similarly, a large number of companies and investment funds have very strict mandates that limit the types of assets in which they can invest. A Bitcoin ETF certainly fits the bill for many of those investors.

Futures vs. Spot ETFs

ETFs are securities that attempt to track the price of a specific commodity, asset, or index. While ETFs commonly track the chosen investment by purchasing it directly, that is far from the only way. A large number of proponents indeed hoped that the first Bitcoin ETF would buy and hold Bitcoin, which is colloquially called a “spot” ETF. However, it turns out that the SEC and its leader, Gary Gensler, nurtured a preference towards an ETF that dealt in Bitcoin futures contracts.

If you’re wondering what the difference is between the two ETF types, you’re probably not alone:

Spot ETF

As we discussed before, a spot ETF buys and sells Bitcoin directly rather than investing in any type of asset that could be considered a proxy to Bitcoin’s price, like Coinbase or MicroStrategy stock. Since a spot ETF deals with actual Bitcoin, it’s a safe bet that the ETF’s trading price would track the underlying price of Bitcoin rather closely. 

Keep in mind however that ETF operators almost always charge fees to cover trading commissions, management costs, and the like. As a result, I’d expect the spot ETF’s price to trade at a slight discount to the actual Bitcoin price under normal market circumstances.

Futures ETF

The Bitcoin futures ETF that launched this week does not purchase Bitcoin directly. Instead it deals primarily in futures contracts, which are agreements to buy and sell Bitcoin at a predetermined price in the future. While the price of Bitcoin futures contracts is certainly influenced day to day by the actual price of Bitcoin, they are not directly tied together. This means that the value of the futures ETF will likely vary quite frequently from the Bitcoin price quoted on crypto exchanges.

In fact, I expect that the value of ProShares’ Bitcoin ETF will lag the actual price of Bitcoin even more for one simple reason: they’ve chosen to invest over thirty percent of the ETF’s value in United States Treasury Bills, or T-Bills. In case you don’t know, T-Bills are considered extremely low risk, which means they have a very low return to match. Investors will be lucky if the return on the T-Bills keeps up with inflation. Given Bitcoin’s historical performance, over the long-term there’s a high likelihood that they will severely underperform the potential return of Bitcoin itself.

All in a Day’s Work

While it may not have been the exact ETF that many Bitcoiners hoped for, it certainly has been popular. The ETF saw massive volume on its first day as around $1 billion USD was traded back and forth over the less than twelve hours that trading was available.

Additionally, several more Bitcoin futures ETF are expected to launch in the next few weeks. Their own performance remains to be seen, but it might not be too far off to assume that even greater trading volume is coming to Bitcoin ETFs in the near future.

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