Bitcoin ETF May Feel Good to BTC Enthusiasts, but Adoption May Not Advance In-Kind

While cheered emphatically by the crypto community, the bitcoin ETF’s simplicity hides many drawbacks, especially for long-term investors unfamiliar with the inner workings of the futures market and the rocky results of historical ETF launches.

The First Crypto’s Saga Continues as Accessibility Broadens

With the first Proshares bitcoin exchange-traded fund (ETF) with ticker BITO opening for trading on October 19th, investors with brokerage accounts can finally access the cryptocurrency just like they can any other stock or ETF available.

For bitcoin aficionados, the SEC’s announcement catalyzed a positive change in the market, as the price of BTC hit an all-time high above $66,000 amid heightened CME futures and options activity. Likewise, crypto experts believe that with the launch of the bitcoin ETF, bitcoin as an investment option will be more widely accessible and that bitcoin’s recognition will grow.

According to Ben Caselin, AAX’s head of research and strategy:

Over the long term, the approval will change and elevate the conversation about Bitcoin – both in the mainstream media and among institutional investors. This in turn will likely help to further develop a regulatory framework around digital assets.

The crypto community has been urging regulators to approve a bitcoin ETF for years, and many expect its arrival to inspire a new class of investors. While many ordinary investors are afraid to engage with bitcoin due to the complexities of managing wallets and safeguarding private keys, they can now simply log into their brokerage accounts and buy the ETF just like any other stock.

Yet, ease of use doesn’t necessarily mean adoption will rise or deliver the steep price gains crypto hodlers anticipate.

The Deceptive Value of Futures Trading in a Stock

An exchange-traded fund (ETF) is a security that tracks the performance of a particular asset or a group of different assets. In the case of the first US-listed Bitcoin ETF, the ETF will be tied to front-month futures contracts, which are settled in cash at the end of the month and rolled into the following month’s contract. This is different from spot prices, which reflect the current market price for an asset. More importantly, investors in the BITO ETF have no claim to the underlying asset in this case: bitcoin.

Moreover, the accompanying ease of use comes at a high price. For one, due to the contango structure of the bitcoin futures market, which reflects higher futures prices relative to spot prices, ETF investors are likely to pay a premium to participate in any bitcoin appreciation.

Next, the ETF’s 0.95% management fee, which may not seem like much, seriously impacts long-term investors. For short-term day traders speculating on bitcoin’s rampant volatility, this figure is less relevant. However, this fee eats away at returns over time for long-term investors betting on appreciation, due to the ETF’s need to roll over contracts every month.

This fee and contango can result in long-term underperformance relative to holding underlying bitcoin that can reach double-digit rates within years. For example, even though the difference between spot and futures prices was much tighter, the same reality played out in a gold futures ETF with no gold holdings compared to a trust holding physical gold, leading to a double-digit underperformance of 13% over a 5-year horizon.

Remarking on the ETF, the CEO of the U.S. subsidiary of Currency.com, Steve Gregory, notes:

People will grow more curious and hopefully when they see the futures bitcoin ETF isn’t a good deal for investors, they will explore ways to buy actual bitcoin. Once they go down that route, they will see all the easy-to-use and amazing products crypto exchanges have built. This ETF could serve as the gateway to get more traditional investors into bitcoin.

While the bitcoin ETF could very well help move the ball forward in terms of crypto’s wider recognition, its impact on prices is unclear because it moves according to futures market reference rates, not the spot market. For instance, US-based gold trust GLD, which owns the gold to back up each share, has a demonstrable impact on the spot gold market.

Futures activity could similarly influence bitcoin prices, especially if the newly introduced ETF sparks a feeding frenzy among institutional investors. Yet, BITO can be shorted, meaning that investors could take either side of the market. Because of the premium of futures prices relative to spot prices, some investors may choose to exploit the arbitrage opportunity by shorting the ETF and buying actual bitcoin. This could put downward pressure on ETF prices but potentially have a positive impact on the spot market.

Although too early to state with certainty how one market for bitcoin will impact the other, the first day of the BITO bitcoin ETF was positive, marking one of the most successful ETF launches in history after reaching nearly $1 billion in trading volume.

‘Good for Bitcoin’ Might Not Be Good for Blockchain Adoption

While the newly greenlit bitcoin ETF is great news for the Bitcoin community, it only benefits a cryptocurrency that already commands the largest market share. Other promising cryptocurrencies like ethereum, cardano, and other altcoins are nowhere near getting their own ETFs, at least for now, namely due to the absence of regulatory clarity on their categorization.

Kucoin CEO Johnny Lyu adds:

We think more cryptocurrency ETFs will be launched in the future as crypto-related investment products get growing interest from more traditional investors to hedge against an economic downturn. However, it took years for the SEC to approve the launch of BTC Futures ETFs, and we might not be able to anticipate another crypto ETF coming to the market in the short term until the financial regulatory bodies have more control on the stable outcome of the current experiment.

Only time will tell if bitcoin ETFs will act as a primary catalyst for the growth of bitcoin only, or play a critical role in accelerating mass adoption of cryptocurrencies in general.