What is a Bitcoin ETF?
ETFs aren’t new products. They have existed in the traditional financial sector for a few decades and are gradually incorporating assets from the nascent crypto sector. The idea to create a Bitcoin ETF emerged as the digital asset rose in value and investor demand increased.
A Bitcoin ETF is beneficial in many ways. Firstly, it provides convenience to traditional investors — sometimes also referred to as normies — because they don’t have to go through the hassle of registering a crypto exchange account, buying bitcoin, holding it in a wallet, and securing the wallet’s private keys. This means Bitcoin ETFs are suitable investment vehicles for mainstream investors who prefer investing in crypto assets through what they consider a familiar investment product.
Secondly, and this point relates to the first, Bitcoin ETFs can conveniently be bought through brokers or one’s house bank. As traditional financial products, any Bitcoin ETF comes with what’s called an ISIN, a 12-digit code that is used to uniquely identify investment products of all sorts. With an ISIN, any product, including a Bitcoin ETF, can easily be bought by banks and brokers for their investors.
Thirdly, Bitcoin ETFs allow for an investment in the Bitcoin-adjacent sector without investing in Bitcoin the asset. There are ETF products that invest in the stocks of Bitcoin-focused companies. And even if the ETF only holds bitcoin, investors can diversify their portfolios with traditional asset classes.
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How does a Bitcoin ETF work?
Traditionally, ETFs work like this: The fund provider buys the underlying asset, which they own and hold. They then design a fund and issue shares that track the performance of the underlying asset. Any investor that buys a portion of the ETF owns a share in the fund but not the underlying asset. The investor’s investment is handled by the company managing the fund. That means investors virtually have nothing to do but wait to earn their returns. This is why one can think of ETFs as passive investing. A Bitcoin ETF works in a similar manner. However, BTC is the underlying asset in this case.
There are two different versions of Bitcoin ETFs, namely: Bitcoin Spot ETFs and Bitcoin Futures ETFs. A spot ETF holds actual bitcoin, while a futures ETF holds bitcoin futures contracts. A futures contract permits investors to buy or sell BTC for a specified price at a given time in the future. In other words, investors bet on the price of bitcoin through futures when they invest in a futures ETF.
Pros and Cons of Spot and Futures ETFs
Bitcoin Spot ETFs Pros
- It facilitates the real adoption of Bitcoin because the underlying asset that is held by the fund is actual, “physical” BTC.
- Bitcoin Spot ETFs represent a more hassle-free investment than buying bitcoin directly.
- Spot ETFs maintain their position indefinitely.
Bitcoin Spot ETFs Cons
- It exposes investors to a high level of risk because bitcoin, as considered by U.S. regulators, is still prone to price and market manipulation.
- Regulators may be reluctant to approve Bitcoin spot ETFs due to fears of price manipulation on platforms that are based in jurisdictions where regulations are weak.
Bitcoin Futures ETFs Pros
- According to regulators, Futures ETFs represent lower risk than spot ETFs because futures contracts are regulated financial products.
- It is less demanding than purchasing bitcoin directly.
Bitcoin Futures ETFs Cons
- The fund does not hold actual bitcoin.
- Futures ETFs experience contango bleed. The term contango refers to the cost Futures ETFs take on to renew or roll a futures contract. Futures ETFs typically roll their positions forward over time because the futures they hold come with an expiry date. If later-month futures contracts are more costly than near-month contracts, investors may incur a cost due to the rolling of positions.
- The performance of the ETF may deviate from spot bitcoin prices.
By some investors, especially from within the crypto space, Bitcoin Spot ETFs are preferred to Bitcoin Futures ETFs because the underlying asset is actual BTC. Bitcoin Spot ETFs more credibly facilitate the real adoption of Bitcoin, especially among mainstream investors. Moreover, Bitcoin Spot ETFs don’t experience contango bleeds, a scenario that could incur additional costs for investors. This is why many consider Bitcoin Spot ETFs to be better investment vehicles in the long term.
The U.S. Securities Exchange Commission (SEC) hasn’t approved any Bitcoin Spot ETF as of yet despite receiving over a dozen applications. It has turned down applications from WisdomTree, One River, and Bitwise, just to name a few. As pointed out by some, the irony here is that the SEC has approved Bitcoin Futures ETFs as well as a Bitcoin Short ETFs by ProShares.
Alternatives Bitcoin Investment Vehicles
Several Bitcoin Futures ETFs like ProShares’ and VanEck’s Bitcoin strategy ETFs currently exist in the U.S. These investment vehicles may serve as alternatives to Bitcoin Spot ETFs in the country. Bitcoin ETFs are also available in Australia, Brazil, and Canada, among other countries. For instance, the purpose Bitcoin ETF, which trades in Canada, holds actual BTC, meaning that it is a spot ETF. Australia has the 3iQ CoinShares bitcoin feeder ETF — which trades on Cboe Australia — and about five other crypto ETFs. Brazil’s first bitcoin ETF, QBTC11, launched in 2021. It trades on the country’s B3 stock exchange.
Other alternatives are exchange-traded products (ETPs). An ETP is an umbrella term for financial instruments such as ETFs that track the price of an underlying asset. Crypto ETP providers include 21Shares, WisdomTree, Iconic, and Valour.