ETF Expectations: The Crypto Market’s Awakening

As cryptocurrencies have gradually entered the mainstream over the past decade, starting with Grayscale’s GBTC, the inflow of capital channels in traditional markets has attracted more and more attention from the cryptocurrency market. The recent market recovery is closely related to traditional institutions: According to CoinShares’ crypto asset flow data statistics, starting from the beginning of October, except for a small amount of selling in one week in December, there have been net inflows for more than ten consecutive weeks. The price of Bitcoin has also risen from around US$25,000 to over US$45,000.

The market generally believes that this is a reflection of investors’ market expectations that the U.S. SEC will pass a number of traditional asset management giants’ Bitcoin spot ETFs in January. According to past ETF approval processes, the longest time it takes for the SEC to issue final approval is 240 days. Hashdex, Ark & 21 shares are the earliest institutions in this batch to submit applications for Bitcoin spot ETFs. The deadline for SEC approval is January 10, 2024. If this Bitcoin spot ETF is approved, there is a high probability that subsequent Bitcoin spot ETFs from institutions such as BlackRock and Fidelity will be approved.

However, even before Bitcoin spot ETFs are approved in the United States, the capital market already has compliant channels to gain exposure to cryptocurrencies. As early as 2013, Grayscale’s GBTC was launched, allowing investors to indirectly hold Bitcoin by purchasing shares of the GBTC trust through traditional brokerage channels.

In the past few years, there have been hundreds of ETPs related to cryptocurrency listed on traditional trading markets in Europe, allowing investors in those regions to purchase cryptocurrencies through traditional channels. Large asset management giants have also launched Bitcoin spot ETF products in non-U.S. capital markets, such as Fidelity’s FBTC, which was listed and traded on the Toronto Stock Exchange (TSX) in Canada in 2021.

There is already no shortage of channels to purchase cryptocurrencies in the market, so why is there such a focus on Bitcoin spot ETFs in the United States? What are the differences between these products and existing compliant channels for purchasing cryptocurrencies?

The current state of the investment pipeline for compliant crypto assets

According to CoinShares, a digital asset issuance organization, the weekly statistics on the flow of funds in compliant cryptocurrency products across various regions worldwide are as follows. The data includes products issued by major institutions, investments in cryptocurrency assets, and products traded through traditional financial channels, including various Exchange Traded Products (ETPs) and trust products. This data reflects the movement of funds from traditional finance, particularly institutional investor funds, in and out of cryptocurrency assets. The latest data is as of December 31, 2023. Based on the geographical distribution of exchanges, the asset management scale in each region is as follows:

The main assets invested by these channels are:

The main asset providers are:

Among them, the situation and product structure of the top five issuers in terms of asset management scale are as follows:

Grayscale Investments LLC

· Introduction: Grayscale Investments is a leading global crypto asset manager headquartered in the United States. Grayscale was founded in 2013 as a subsidiary of Digital Currency Group and launched GBTC, a Bitcoin trust product, in 2013.

· Main product: Grayscale Bitcoin Trust (GBTC)

· Legal Structure: Trust (Physical Collateral)

· Fees: 2% management fee

Trading platform: OTCQX

· Inception date: 2013.09.25

· Investor requirements: Only available to accredited and institutional investors

· Total (Crypto) Assets Under Management by the Issuer: 33,370 (unit: million US dollars, 2023.12.31)

CoinShares XBT

· Introduction: CoinShares is a leader in the cryptocurrency ETP industry, providing investors with convenient and reliable access to diversified digital asset exchange-traded products (ETPs). CoinShares’ XBTProvider is the first entity in Europe to offer investors easy access to Bitcoin and Ethereum with compliant products.

· Main product: Bitcoin Tracker One (COINXBT SS)

Legal Structure: Tracking Certificate (Synthetic Guarantee)

· Fees: 2.5% management fee

· Trading platform: Nasdaq Stockholm

Issue date: 2015.05.18

· Investor requirements: Nordic retail investors

· Total (Crypto) Assets Under Management by the Issuer: 2,374 (unit: million US dollars, 2023.12.31)

21 Shares AG

· Introduction: 21Shares is the world’s largest issuer of cryptocurrency exchange-traded products (ETP). It was founded in 2018 and is headquartered in Zurich, Switzerland. Its products include the first physically-backed Bitcoin and Ethereum exchange-traded products (ETPs).

· Main Product: 21Shares Bitcoin ETP (ABTC)

· Legal Structure: Debt collateral (physically-backed)

· Fees: 1.49% management fee

· Trading platform: Swiss Stock Exchange

· Issuance date: 2019.2.25

· Investor requirements: Nordic retail investors

· Total Assets Under Management by Issuer: 2,336 (in million USD,2023.12.31)

ProShares ETFs

· Introduction: ProShares is one of the world’s largest issuers of ETFs, with more than $65 billion in assets under management.

· Main products: Bitcoin Strategy ETF (BITO)

Legal Structure: Futures ETF (Synthetic Guaranteed)

· Fee: 0.95%

· Trading platform: New York Stock Exchange (NYSE) Arca

· Issuance date: 2021.10.18

Investor requirements: US retail investors

· Total (Crypto) Assets Under Management : 1,846 (unit: million US dollars, 2023.12.31)

Purpose Investments Inc ETFs

· Introduction: Purpose Investments is an asset management company with more than $18 billion in assets under management. Purpose Investments has a relentless focus on client-centric innovation and offers a range of managed and quantitative investment products. Purpose Investments is led by renowned entrepreneur Som Seif and is a division of independent technology-driven financial services company Purpose Financial.

· Main Product: Purpose Bitcoin ETF (BTCC)

Legal Structure: Spot ETF (Physical collateral)

Fee: 1.00%

· Trading platform: Toronto Stock Exchange (TSX)

Issuance date: 2021.2.25

· For investors: North American retail investors

· Total (Crypto) Assets Under Management : 1,764 (unit: million US dollars, 2023.12.31)

How do these products differ from spot ETFs?

According to the product legal structure, compliant cryptocurrency products currently on the market can be divided into ETP (Exchange Traded Products) and Trusts. Among them, ETP can be further divided into ETN (Exchange Traded Notes), ETF (Exchange Traded Fund) and ETC (Exchange Traded Commodities), with ETF and ETN being the main products related to crypto assets.

Among them, ETF provides better accessibility for investors, allowing them to invest in multiple assets simultaneously, with lower fees and suitable for long-term investment. However, ETFs are prone to tracking errors, as there may be differences between the value of assets in the ETF and the benchmark value it should be tracking, which may ultimately result in lower-than-expected returns. In addition, ETFs have higher complexity in terms of taxation, subscription and redemption processes, liquidity, and other issues.

ETN is a type of debt structure that is generally issued by financial institutions as unsecured debt instruments. Investors purchase the debt of the issuer, which usually carries higher risk due to credit issues. Compared to ETF structures, ETNs generally have lower liquidity. However, the advantage of ETNs is that they can offer a more diverse range of asset types, without tracking errors and with greater tax flexibility. Among the mentioned products, 21Shares Bitcoin ETP is a typical ETN product.

Trust structures are relatively complex and generally only traded in the OTC market. For example, Grayscale’s GBTC is only traded on the OTC QX, which has lower liquidity and fewer investors. The entire OTC QX platform’s daily trading volume is only $1.3 billion (as of January 2, 2024). Furthermore, Grayscale GBTC is issued through a trust structure and can only be purchased, not redeemed. Investors can only receive their shares six months after purchase and trade them on the secondary market. This nature of the product leads to GBTC trading at a premium during bull markets and at a discount during bear markets.

Furthermore, if the above products are divided according to the underlying assets, they can be divided into two categories: Physically backed and Synthetically backed.

Physical Backed ETP: Purchase the physical underlying assets and hold them so that the price of the product shares can track the price of the underlying assets. The product performance of physical guarantees is directly related to the performance of the underlying assets. For example, Purpose Investment’s BTCC is a spot ETF listed on the Toronto Stock Exchange. Each ETF corresponds to a certain number of Bitcoins held directly by the ETF manager. Generally, Bitcoins are held by professional custodians. For example, the custodians of BTCC are Gemini Trust Company and Coinbase Trust Company.

Synthetic Backed ETP: Using a swap agreement with a counterparty (usually a bank) to provide a return on an underlying asset. To ensure daily delivery of returns, swap counterparties are typically required to deposit collateral (usually Treasury bonds or blue chip stocks) with the issuer that is held by an independent custodian. The amount of collateral required fluctuates with the value of the asset being tracked. For example, ProShares BITO is a Bitcoin futures ETF on the New York Stock Exchange, and the fund invests in Bitcoin futures on CME.

What kind of market impact will the SEC’s adoption of a Bitcoin spot ETF have?

The above types of cryptocurrency financial products traded in traditional financial channels provide investors with a one-stop channel for gaining exposure to crypto assets, bypassing the various technical and compliance barriers that hinder investors from directly obtaining cryptocurrencies such as Bitcoin and Ethereum, such as private key management, taxation, fiat currency deposits and withdrawals, etc. As a result, it attracts trillions of dollars of funds into the cryptocurrency market.

Compared to various existing products in the current financial market, why is the SEC-approved Bitcoin spot ETF so important? There are two main reasons:

Reaching a larger capital base:

More investors. The United States is one of the largest financial markets, and listing a Bitcoin spot ETF on mainstream exchanges can reach qualified investors, institutional investors, and retail investors. Trust structures like GBTC can only be traded by qualified investors on the OTC market, and similar Bitcoin spot ETF products traded on exchanges in Europe, Canada, and other regions have lower liquidity and smaller capital volume compared to the US market.

· Broader investment channels. Traditional asset management departments, such as various fund managers and financial advisors, have difficulty incorporating cryptocurrency assets into their portfolios without a Bitcoin spot ETF.

Better acceptance:

Bitcoin spot ETF products issued by institutions such as BlackRock and Fidelity are more likely to be accepted by mainstream funds due to the endorsement of these institutions’ brands.

· Solving the compliance issues of cryptocurrency assets; such products will have clearer compliance and attract more investment and the development of related ecosystems.

As the largest capital market, if a Bitcoin spot ETF is approved in the United States, it will have a huge impact on the cryptocurrency asset market. These impacts are not only the inflow of a broader capital base but also the compliance of various participants in the Bitcoin network worldwide, as well as changes to Bitcoin network activities. We will continue to observe the impact of these asset compliance on cryptocurrency assets and look forward to cryptocurrency assets shaping the next generation of capital markets.

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