Crypto ETFs: From a no-go to a maybe Crypto ETFs: From a no-go to a maybe Crypto ETFs: From a no-go to a maybe

Crypto ETFs: From a no-go to a maybe

Mads Eberhardt

Cryptocurrency Analyst

Summary:  The crypto industry and the Securities and Exchange Commission (SEC) of the United States have not been on the best of terms recently, but now it appears that the two sides have found common ground seeing that the SEC appears to have changed its view on crypto ETFs. The ETFs might result in a significant inflow into Bitcoin and Ethereum if approved, something we view as likely.

In 2023, following the downfall of the crypto exchange FTX, the Securities and Exchange Commission (SEC) of the United States has exhibited substantial involvement within the cryptocurrency market. To set the scene, the SEC's stance on the crypto market has not been positive this year. On the contrary, it has fueled scrutiny and excess uncertainty in perhaps the single most crucial market for crypto assets, namely the US.

To name a few examples, at the beginning of this year, Kraken, a prominent cryptocurrency exchange, consented to a $30 million settlement with the SEC after the agency claimed that Kraken's staking service was organized in a manner resembling securities. As part of the settlement, Kraken also agreed to discontinue its staking service for clients in the United States. Later, the SEC took legal action against two other major players in the exchange landscape: Coinbase, the largest crypto exchange in the US, and Binance, the world's largest exchange, including its US subsidiary named Binance US.

The allegations centered around the accusation that these exchanges are operating as unregistered securities exchanges. While the range of allegations against Binance are far more extensive, the overarching question of whether a significant portion of cryptocurrencies and their associated products should be classified as securities carries immense significance for the entire market. This determination could potentially have far-reaching consequences, including the possibility that many cryptocurrencies might no longer be eligible for trading within the US. Such an outcome would profoundly impact the respective ecosystems of these cryptocurrencies.

In this context, the sole cryptocurrency that might definitively be excluded from being classified as a security, as indicated by the SEC, is Bitcoin. The Chairman of the SEC, Gary Gensler, explicitly contended last year that Bitcoin should be considered a commodity rather than a security, although he has stated that he believes that most cryptocurrencies are securities: “The law is clear. I believe based on the facts and circumstances most of these tokens are securities”. On the other hand, Coinbase has argued that they do not deal with securities, battling the SEC on its stance, which caused the latter to sue Coinbase in June.

So, it has been a tough year as to regulation in the US, to say the least. Now, however, it appears the SEC might have some positive impact on the crypto market, as the agency could change its stance on a crucial matter, namely crypto exchange-traded funds (ETFs).

A Bitcoin futures ETF and that’s all

Crypto ETFs have been the holy grail for the community ever since Cameron and Tyler Winklevoss (yes, the twins portrayed in The Social Network) filed for the first spot Bitcoin ETF in 2013. It is assumed that an ETF is to bring considerable assets under management, as it allows non-crypto native retail and institutional investors to effortlessly get exposure to Bitcoin within a thoroughly regulated framework. Still, the SEC rejected the ETF proposal by the Winklevoss twins, highlighting that the crypto market is prone to manipulation and lacks investor protection. Another shot was given by the twins, but the SEC once again turned down the proposed Bitcoin ETF in 2018.

Since that, countless firms have tried to sweet talk the SEC into approving spot Bitcoin ETFs but without any luck. Despite these rejections, the SEC gave the market a little taste of crypto ETFs in 2021, as the agency approved a Bitcoin ETF based on regulated futures. The latter was highly anticipated since the market counted on it to attract outside capital more easily and viewed it as a stepping stone for a spot ETF to follow. The futures Bitcoin ETF has attracted a reasonable amount of capital, as the largest ETF titled ProShares Bitcoin Strategy ETF has about $1.1bn in assets under management.

When that has been said, as these are based on Bitcoin futures, they carry additional expenses from rolling futures contracts every month, for instance, leading the ProShares Bitcoin Strategy ETF to underperform Bitcoin this year. As these ETFs have exposure to Bitcoin futures rather than exposure to spot Bitcoin, they have archived significantly less inflow than a spot ETF would have realized, altogether meaning that Bitcoin has seen limited gain from these ETFs.

Source: Saxo Group

BlackRock started the party in June

Then, from nowhere, the world’s largest asset manager BlackRock joined the party by filing for a spot Bitcoin ETF in mid-June. This was rather significant, mainly considering the magnitude of BlackRock in financial markets worldwide, but also seeing the firm’s ETF success rate. BlackRock has seen 575 ETFs approved by the SEC, whereas only a single ETF proposed by BlackRock has been rejected. In other words, BlackRock does not play around. Somehow, BlackRock must have great conviction that they are the ones to get the green light from the SEC. The BlackRock filing provoked many other firms, including Fidelity, Ark Invest, and WisdomTree, to file for a spot Bitcoin ETF. What also speaks in favor of a spot Bitcoin ETF is that Volatility Shares managed to get the first approval for a leveraged futures Bitcoin ETF in late June, so it seems that the SEC has in fact changed its view on crypto ETFs.

Fast forward to the start of August, at which point another ETF avalanche saw the light of day. In the span of a few days, multiple firms filed for futures Ethereum ETFs, including ProShares, Bitwise, and Grayscale. It is not the first time that such ETFs have been filed, however, in the other cases, the SEC asked the firms to withdraw their application a maximum of seven days after filing for the ETFs. In this case, no firm has withdrawn any filing, although it is about two weeks since the first filing hit.

Based on the above, we are optimistic that both a spot Bitcoin ETF and a futures Ethereum ETF are to be approved by the SEC in the next six months. Our conservative view is that there is a 50% likelihood of approvals within 6 months, respectively. The SEC likely views the futures Ethereum ETF as a smaller step, as it replicates the existing futures Bitcoin ETF but just with another cryptocurrency. This means that it is possible that any Ethereum ETF launches as early as mid-October before any potential spot Bitcoin ETF.

Now, we might come full circle in terms of securities regulation. This is purely speculation with many unknown factors but provided that the SEC approves an Ethereum ETF, it may indicate that like Bitcoin the SEC does not view Ethereum as a security, as there would perhaps be a mismatch between approving an Ethereum ETF on one hand and pursuing the path that Ethereum is a security on the other hand. On this assumption, it would reduce regulatory risks associated with Ethereum.

Source: Saxo Group
Source: Saxo Group

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