The SEC is besieged everywhere, what are the dilemmas faced by Ethereum spot ETFs?

Original editor: Wu said blockchain

Griffin Ardern is the Head of Research at BloFin Academy. Here's his analysis of the current situation in the cryptocurrency market. Some of the content is translated by AI and may be biased.

The current progress of the Ethereum ETF approval and its importance

Compared to Bitcoin ETFs, especially those based on Ethereum futures, Ethereum ETFs are relatively small in terms of size and trading volume. The largest Ethereum futures ETF has assets under management (AUM) of less than $100 million, which is significantly smaller compared to some Bitcoin ETFs. However, it is worth noting that this represents the largest AUM among Ethereum futures ETFs, with other AUMs being even lower and can be considered insignificant.

The approval of the Ethereum spot ETF could lead to an increase in investment, funding, and liquidity from the U.S. stock market, supporting Ethereum's price. This could mimic the impact of Bitcoin, where external liquidity has significantly boosted its price, leading to new all-time highs in a relatively short period of time. However, challenges and uncertainties regarding the Ethereum ETF approval remain.

If an Ethereum ETF is approved, it could set new standards for other cryptocurrencies and provide them with examples of applying for their own ETFs, especially those seeking to launch spot ETFs. These cryptocurrencies have similar characteristics to Ethereum, such as proof-of-stake and staking mechanisms.

The approval of Ethereum ETFs by entities like BlackRock could pave the way for ETFs that cover other cryptocurrencies, expanding the range of crypto assets available to investors through regulated financial products. Conversely, if an Ethereum ETF is rejected, it could mean that only those cryptocurrencies that follow the same criteria as Bitcoin, such as Proof of Reserves, will be considered for ETFs. This would exclude proof-of-stake (PoS)-based cryptocurrencies from being considered by ETFs.

All in all, the approval of the Ethereum ETF is seen as a critical and potentially transformative step in the future of crypto ETFs. Not only will it benefit Ethereum, but it will also set a precedent for how other PoS-based cryptocurrencies can fit into mainstream financial products. The crypto community is eagerly awaiting this development as it could have a significant impact on liquidity, investments, and wider acceptance of cryptocurrencies.

Given the current landscape and regulatory environment, the approval of Ethereum ETFs faces several significant challenges, particularly from the perspective of the Securities and Exchange Commission (SEC). Under the leadership of Chairman Gary Gensler, the SEC has expressed a preference for cryptocurrencies that follow a Bitcoin-like standard. This poses a particular challenge for Ethereum due to its security and securitization risks. (The SEC recently revealed that it has been investigating the Ethereum Foundation since the Ethereum switch to POS)

Ethereum's initial coin offering (ICO) in 2014 and the way its assets were distributed raised concerns about centralization and security labeling. A significant amount of Ethereum was sold during its ICO, and a significant portion is still held by the Ethereum Foundation and early investors. This concentration of holdings may be seen as a deviation from the decentralization characteristic of cryptocurrencies like Bitcoin.

In addition, Ethereum's transition from Proof-of-Work (PoW) to Proof-of-Stake (PoS) introduces another layer of complexity. This shift could change Ethereum's classification, moving it from the "commodity" category to a category closer to that of securities, as the staking mechanism and the rewards it generates are similar to the dividends of stocks.

The SEC has also expressed concerns about potential market manipulation within the Ethereum ecosystem, particularly given the influence that the major holders and protocols involved in the staking protocol may exert on the network. Despite its deflationary mechanism, Ethereum's unlimited supply could also lead to the SEC's hesitation, given its preference for assets with capped supply or explicit deflationary policies.

Based on these considerations, it looks like the chances of the SEC approving an Ethereum spot ETF in the near term are relatively low. Concerns surrounding security triage, centralization, market manipulation, and the shift to PoS pose significant obstacles. However, the future remains uncertain, especially if Ethereum's infrastructure and governance effectively address these concerns, and regulatory perspectives are likely to evolve. The possibility of approval exists, but is overshadowed by significant regulatory challenges that need to be navigated.

Will the SEC honor the arguments in the Greyscale court order?

Greyscale's legal challenge to the SEC, which rejected a similar application for an Ethereum ETF due to the approval of a Bitcoin ETF, has raised significant concerns about the cryptocurrency regulatory environment. This challenge highlights the perceived inconsistencies in the SEC's views on different cryptocurrencies and their evaluation criteria.

The SEC's concerns about Ethereum, particularly regarding its shift from proof-of-work (PoW) to proof-of-stake (PoS), the potential for market manipulation, and Ethereum's overall security classification, were key to its hesitation to approve the Ethereum ETF. If Greyscale's arguments validly challenge the SEC's position, and if the court upholds Greyscale's arguments, it may force the SEC to reconsider its position.

If the court upholds Greyscale, indicating a lack of consistency or fairness in the way the SEC handles Ethereum ETF applications, the SEC may be under pressure to be more consistent in its approval process than Bitcoin. This may involve re-evaluating Ethereum under its new PoS mechanism and addressing specific concerns about security, decentralization, and market manipulation risks.

However, it is important to note that the SEC's approval decision is complex and multifaceted, taking into account a range of regulatory, market stability, and investor protection concerns. The outcome of Greyscale's challenge may indeed affect the SEC's approach, but the extent of its impact on Ethereum ETF approval remains uncertain.

Decide on the price before and after the announcement

In the crypto options market, traders have begun to consider the potential of potentially announcing the approval or rejection of an Ethereum ETF. This expectation manifests itself in the implied volatility (IV) of Ethereum options, particularly those expiring in May and June, demonstrating a higher IV. This suggests that traders are expecting greater volatility and price movement for Ethereum during the announcement period.

According to the latest data, if the Ethereum spot ETF is not approved or rejected outright, the price of Ethereum is expected to fall sharply, by more than 20% to 25%. Conversely, if an ETF is approved, the price may rise by a similar magnitude, reflecting the market's reaction to positive news, similar to what has happened with major crypto announcements in the past.

Interestingly, the skew of the options market – which reflects the imbalance between call and put prices – shows a negative skew for options with near-term expirations, such as March and April. This shows that the market tends to hedge against the downside risk of potential non-approval of ETFs. For longer-term options, the skew looks neutral to slightly positive, suggesting a more balanced or slightly optimistic view of Ethereum's future beyond the immediate announcement period.

In addition, the Butterfly Index, which provides insight into tail risk pricing, shows that Ethereum's index is significantly higher than Bitcoin's. This may even exceed the index's annual average, suggesting that traders, investors, and market makers are pricing in higher tail risk for Ethereum. This heightened concern may be related to the uncertainty over the ETF approval and its possible impact on the price of Ethereum.

What will be the impact of the Bank of Japan's interest rate adjustment?

The Bank of Japan's (BoJ) interest rate adjustment is significant, especially given the yen carry trade, which is a popular strategy in global finance. The yen carry trade involves borrowing in yen at historically low interest rates and investing in high-yielding assets elsewhere, usually denominated in U.S. dollars. This strategy profits from the difference in interest rates between the two currencies and the potential appreciation of the investment asset.

Until the Bank of Japan is likely to raise interest rates, investors can borrow cheap yen, invest in high-yield assets in the U.S. or other markets, and benefit as long as the yen remains weak against the dollar. Japanese government bonds (JGBs) as collateral will maintain their value, facilitating this transaction.

However, if the Bank of Japan decides to raise interest rates, the dynamics of such transactions could change dramatically. Higher interest rates in Japan could strengthen the yen against the dollar, making the yen less attractive for a carry trade. In addition, if the Bank of Japan ends its yield curve control (YCC) policy – which aims to keep long-term interest rates at target levels – it could lead to a rise in JGBs yields and a decrease in their prices, affecting the collateral value of traders engaged in arbitrage.

Due to higher interest rates and the possible end of the YCC, investors may be forced to liquidate their dollar-denominated investments to repay yen-denominated borrowings. This could lead to selling pressure across a wide range of assets, including U.S. equities, cryptocurrencies, precious metals such as gold and silver, oil, and other commodities. Essentially, those assets that benefit from cheap yen inflows are likely to see reduced demand and lower prices.

The impact of the Bank of Japan's interest rate adjustment extends beyond the carry trade itself. It marks a shift in Japan's monetary policy stance and could lead to a stronger yen. A stronger yen would make yen-denominated assets more attractive and could reverse the flow of funds from dollar-denominated to yen-denominated assets, affecting global asset prices and potentially leading to a reassessment of risk in global financial markets.

Discuss the current cryptocurrency market

The volatility of the cryptocurrency market has led to a significant drop in prices, forcing those who are unable to meet their debt obligations in a timely manner to face margin calls or even liquidations. This situation necessitates the sale of assets to pay off debts and may provide an opportunity to invest in undervalued assets such as the Japanese yen or Nikkei 225. The strength of the yen implies an improvement in the performance of yen-denominated assets, encouraging investors to switch from dollar-denominated assets to yen-denominated assets, thus affecting the liquidity and value of the former.

Under these conditions, Bitcoin appears to perform better, benefiting from more diversified sources of liquidity, including U.S. stocks and cryptocurrency markets. In addition, Bitcoin's price is supported by hedging activities by market makers during market declines, unlike Ethereum, which is more dependent on the liquidity of the cryptocurrency market and lacks similar support, leading to a possible larger drop in price.

Observations of on-chain data show that large Ethereum holders ("whales") continue to sell despite the recent price increases, indicating a lack of confidence in Ethereum's short-term price stability. This selling pressure is exacerbated by panic selling during periods of falling prices. The decline in the exchange rate between Ethereum and Bitcoin reflects investors' expectations that Ethereum will underperform compared to Bitcoin.

It is expected that Ethereum's performance may improve after the Federal Reserve Rate cut, which may increase market liquidity. However, currently, Ethereum lacks a diverse source of liquidity and relies heavily on stablecoins such as USDT and USDC. In contrast, Bitcoin benefits from multiple liquidity channels, suggesting that the duration of any potential market pullback could be shorter for Bitcoin, while for Ethereum and other altcoins, it could experience a longer downturn.

The approval and launch of the Bitcoin spot ETF has cemented Bitcoin's position as a key global macro asset, with strong ties to traditional markets, unlike Ethereum and other altcoins, which lack such connectivity. This distinction means that altcoins can only perform better when market conditions, such as the Federal Reserve cutback rate, support increased liquidity in the crypto market.

Market inflow dynamics are changing, and despite outflows from products such as GBTC, Bitcoin asset allocation is driving continued interest, particularly in ETFs offered by the likes of BITO and BlackRock. Even in the face of overall market outflows, this continued inflow underscores Bitcoin's resilience and its attractiveness to investors in the U.S. stock market and institutional sector, which is expected to receive continued support.

Altcoin vs Bitcoin

When discussing altcoins vs. Bitcoin, we're essentially looking for the most favorable outcome. However, focusing on more realistic scenarios, such as rejection excluding external factors, reveals that the price movement of Ethereum and other altcoins is primarily influenced by two factors. First of all, the distribution of liquidity in the cryptocurrency market plays a key role. There is about $1.5 trillion in funds allocated in the crypto market, with Ethereum and altcoins competing for this liquidity. However, in the longer term, the Federal Reserve is expected to cut interest rates, with two or three rate cuts expected this year and possibly more next year. This correction could reintroduce liquidity into the crypto market, subsequently supporting the price of Ethereum and other altcoins.

Currently, Bitcoin is expected to perform stronger as overall market conditions are bullish. At the same time, altcoins are likely to be relatively weak with limited liquidity. This situation is especially relevant for traders in the Asia-Pacific region, who play an important role in investing in lesser-known coins and altcoins. Currently, these traders tend to buy more Bitcoin and other mainstream cryptocurrencies like Ethereum or Solana.

The crypto market is increasingly segmented into sub-markets. One focused on Bitcoin and mainstream cryptocurrencies, investing is driven by macroeconomic changes around the world. The other, which can be called a speculative market, includes Ethereum, certain emerging coins, and meme coins. In this segment, especially traders from the Asia-Pacific region, they take advantage of limited liquidity by participating in speculative trading.

Overall, while we're all looking for the best investment outcomes, Bitcoin and Ethereum, as well as other cryptocurrencies, will perform differently when considering a variety of factors, including market liquidity, the regulatory environment, and global macroeconomic implications. Future market trends will be influenced by numerous variables, including regulatory decisions, technological developments, and changes in investor sentiment. In this ever-changing environment, maintaining flexibility and constant attention to market dynamics will be key to successfully investing in the crypto market.