Sailing Into the Crypto Abyss (Weekly Insights 01/29/2024)
Key Takeaways:
- On January 10th the SEC approved the first U.S. listed Bitcoin ETFs.
- Spot-price ETFs allow investors direct exposure to the underlying asset.
- Approval adds a layer of regulatory oversight to an otherwise questionable market.
- Security risks remain a key component investors should consider.
- Similar product releases signal trouble may be ahead.
On January 10th, 2024, the SEC approved the first U.S. listed ETFs that track the price of Bitcoin. Previously, investors who wanted to buy Bitcoin needed to open accounts at a centralized crypto exchange, such as Coinbase, where they would be exposed to hefty transaction fees. If someone did not want to open an account on a crypto exchange, they could invest in futures-based Bitcoin ETFs, which indirectly track the price of the cryptocurrency using derivative products. The most recent approval marks a milestone for cryptocurrencies, Bitcoin specifically, offering investors direct exposure to the underlying asset in the form of spot-price ETFs. This week, we wanted to provide investors with insights into the new products and what they mean for the cryptocurrency space.
- Navigating the changing tides: The SEC’s approval was specifically tied to the approval of spot price ETF products. Unlike futures-based products, the spot-price ETFs allow the ETF manager to directly buy/sell the underlying crypto currency rather than only invest in derivative instruments tied to price movements of Bitcoin.
- Investors planning on a smooth ride: The new ETFs allow investors to have direct exposure to Bitcoin in their brokerage or retirement accounts without needing to open additional crypto exchange accounts. The primary benefit to investors is the convenience factor. Investors and asset managers are now able to purchase and/or sell shares of the ETF much easier than the underlying asset itself. Additionally, there is an added layer of regulatory oversight and transparency with these products, compared to virtually no oversight of crypto exchanges.
- It’s not all clear sailing: While some investors are cheering the approval, it is important to consider the risks with these ETFs. First and foremost, Bitcoin itself is still highly volatile and unregulated. Many see security risks as one of the largest threats to the space. The ETFs would have to hold such a large amount of Bitcoin, making them a potential target for cybercriminals. While ETF managers have various security protections in place, there is no way to ensure the full safety of the system, putting potentially millions of dollars at risk, which would damage (if not destroy) investor confidence.1
- Launch of previous Bitcoin products: In October 2021, the ProShares Bitcoin Strategy ETF (using derivative products) was launched and pulled in $950 million in trading volume on its opening day and was the fastest ETF to hit $1 billion AUM in history. The underlying price of Bitcoin gained 20% during the month of the launch as investor demand surged.2 In the one-year following the release of the ETF, Bitcoin plunged 70.33%, while the ProShares Bitcoin ETF fell a comparable amount (-71.8%).
The Bottom Line:
While the SEC’s approval of the new spot-price Bitcoin products marks a key milestone for crypto bulls, investors should carefully consider all the risks associated with these products. Trading volume in these products has trailed off substantially since the announcement of the launch and the price of Bitcoin has fallen ~10%. In addition, our view on Bitcoin and other cryptocurrencies has not changed. These are still highly volatile, speculative investments that lack underlying fundamentals (e.g., earnings) for analysts to deliver a fair valuation. We recommend increased caution when considering these ETFs.