A Bitcoin exchange-traded fund (ETF) is a type of fund that will allow investors to buy shares in the asset, just like any other stock. This means that anyone can invest in Bitcoin without dealing with crypto exchanges or wallets. Bitcoin exchange-traded funds are important for opening up the crypto market because they make it easier for people who don’t have experience with crypto to get involved.
This piece discusses what Bitcoin ETFs are, how they work, and the benefits and disadvantages of using them.
What is an exchange-traded fund (ETF)?
Exchange-traded funds (ETFs) are not exclusive to the crypto world. ETFs by definition are funds that combine various assets like stocks, bonds, commodities, and more. They give people the opportunity to invest in multiple financial markets for an affordable price without having to buy each individual asset separately.
An ETF can be exposed to up to 200 different shares, which endeavours to replicate the performance of a specific index such as the S&P ASX 200 (the top 200 biggest public companies on the ASX). This is often considered a safer investment option than an individual stock as it tracks the performance of a portion of the market rather than one company’s performance. ETFs also provide investors with an opportunity to build a diversified portfolio.
What is a Bitcoin or crypto ETF?
Crypto ETFs are funds that track the performance of one or more digital assets, such as Bitcoin. Crypto ETFs can be bought like a stock through the stock market. They provide an alternative avenue for people to buy Bitcoin and other digital assets, as opposed to using a crypto exchange.
Did You Know?
It was only in October 2021 that the SEC finally ruled to support a Bitcoin ETF. This ETF was the ProShares Bitcoin Strategy ETF (BITO), which was listed on the New York Stock Exchange (NYSE).
Why would you choose a Bitcoin or crypto ETF?
In an exchange-traded fund setup, the value of Bitcoin and other digital currencies can be held in your portfolio without directly holding the asset. This helps avoid some of the associated risks.
While security and regulation around cryptocurrency have advanced massively, some traditional investors may perceive the stock market to be a safer avenue for investing in crypto. Additionally, Bitcoin ETFs are more thoroughly regulated than Bitcoin itself.
How do Bitcoin and crypto ETFs work?
Bitcoin and crypto ETFs work similarly to standard ETFs. People can purchase shares of the ETF and then gain exposure to Bitcoin. The price of a share will follow that of BTC’s value, so if the Bitcoin market is doing well, you’ll see an increase in your ETF share as it moves up too.
One way a crypto ETF may operate is by purchasing and storing the BTC or other crypto asset itself, then dividing that asset into shares. Alternatively, they may operate by owning futures contracts, though we’ll explore that in more depth later.
The technicalities of how each Bitcoin or crypto ETF actually works depend on the type of ETF, but they all offer the same benefits an ETF setup does. Having smaller investments in multiple assets means you can benefit from each, while also hedging against the risk some assets may not perform as well as you expect by holding others to “pick up the slack”.
Different types of crypto ETFs
With futures-backed ETFs, the contracts aren’t based on actual physical coins. Rather, they are based on an agreement that is put in place to purchase or sell a certain number of coins at a certain value and by a certain date.
This agreed-on price does not waiver, even if the asset increases or decreases in market value during that time. While this could profit investors, there is also the risk that the futures contract will end up costing more than the value of the asset when they reach the buy date.
BITO: The First Bitcoin (Futures) ETF
BITO is an ETF launched by ProShares. It was launched on October 19, 2021 and marks the first Bitcoin ETF in the U.S. that is trading. On its launch, BITO rose 4.8% on its first day of trading, nearly breaking records for the most traded fund on its debut.
The important thing to note is that BITO is a future-backed ETF. This means ProShares do not actually hold any BTC themselves. Rather, they hold Bitcoin futures contracts with the promise of purchasing BTC at an agreed-upon price in the future. This means ProShares is protected against future negative price movements, but equally at risk of losing out if the price of BTC rises.
Physical-backed ETFs hold actual, mined crypto assets. They also track the value of coins, meaning as the value rises, so does your investment. In this scenario, the coins are held by the ETF company, which negates the need for a wallet or storage on your part.
Grayscale spot ETF
Another company looking to launch its crypto ETF is Grayscale. Unlike the ProShares version though, Grayscale is looking to offer a spot Bitcoin ETF. This means Grayscale will own the BTC themselves. Thus, the value of an investment in the ETF will rise and fall with the movements of BTC in the market.
Spot price refers to the current market price that any asset can immediately be bought or sold for.
Currently, institutes cannot hold cryptocurrencies on behalf of their investors. A spot ETF would change this, meaning there would likely be a spike in institutional investing. Spot ETFs would help negate price-tracking and cost issues associated with Futures.
Benefits of Bitcoin and crypto ETFs
There are many benefits to investing in Bitcoin ETFs, such as:
Convenience. It offers investors an easy and convenient way to invest in Bitcoin and blockchain technology without having to go through the process of setting up a digital wallet. Like a stock market investment, users have easy access to funds at any time.
Profits. Potential gains from Bitcoin’s price appreciation.
Dividends. Traders can receive dividends from an ETF share that is invested into traditional stocks or bonds depending on the fund.
Security. It adds an extra layer of security for those worried about losing their private keys or sending funds to the wrong address.
Bitcoin and crypto ETFs bring exposure to Bitcoin and crypto through more traditional avenues, such as the stock market. They can be a safer and easier investment decision for investors to enter the crypto market without having to obtain in-depth crypto knowledge or set up digital wallets.
Disadvantages of Bitcoin and crypto ETFs
There are also some disadvantages to investing in Bitcoin ETFs, such as:
Fees. In exchange for the convenience that ETFs provide users, they usually charge management fees. This means that owning a large number of shares in a Bitcoin or crypto ETF could result in high management fees over time.
Price inaccuracy. Although ETFs monitor the price of an underlying asset, sometimes they contain multiple asset holdings in order to diversify the portfolio. This means that an 80% rise in the price of Bitcoin may not be reflected accurately in the value of the ETF as a result of its other holdings.
Inability to trade. On cryptocurrency exchanges, Bitcoin can be traded for thousands of other cryptocurrencies, such as Ethereum, Litecoin, and many more. Bitcoin or crypto ETFs do not allow users to make any trades, as the ETF merely tracks the price of the digital assets.
No ownership of BTC. Perhaps the biggest disadvantage is that investors don’t actually own any Bitcoin. That means that they cannot take advantage of the many benefits of owning Bitcoin, such as hedging against banks and fiat currencies or access to anonymous transactions.
Is investing in Bitcoin and crypto ETFs worth it?
Choosing what type of Bitcoin or crypto ETF is crucial, however, a lot of it will come down to the individual fund itself. Regardless, Bitcoin and cryptocurrency ETFs are likely to be a game-changer in the overall investment market. They open an avenue for more traditional investors to add Bitcoin exposure to their portfolios.
Bitcoin and crypto ETFs allow investors from the stock market to speculate on the price of Bitcoin and other cryptocurrencies without needing in-depth crypto knowledge. This can be a great way to make profits, however, these investors miss out on many of the benefits of owning cryptocurrencies.