After Bitcoin Dropped 10%, How Likely Is An ETF Now?
As Tyler and Cameron Winklevoss’s almost four-year-long pursuit to offer a Bitcoin exchange-traded fund or ETF nears its final deadline on March 11, developments in bitcoin continue to shift the calculus for tea-leaf readers.
On Thursday, bitcoin shed 10% of its price as two of the biggest Chinese cryptocurrency exchanges put a hold on withdrawals after the People’s Bank of China warned Chinese exchanges about the need for stronger anti-money laundering and know-your-customer controls. (The price has rebounded somewhat and is trading at about $1,000 as of press time.)
This week also saw the Winklevoss twins update their proposal to the Securities and Exchange Commission.
And then there’s the news coming out of the new presidential administration, which last week embarked on some ambitious priorities around financial regulation.
Here’s how these events and other factors affect the odds of SEC approval (labeled positive, neutral or negative), as well as what the market seems to be thinking. (For more discussion around the prospects for Bitcoin ETF approval, check out this episode on my podcast, Unchained — links here to the show notes and to the podcast itself on the web, Google Play, iTunes, Stitcher or TuneIn Radio.)
Cofounders of Winklevoss Capital and cryptocurrency exchange Gemini, Tyler and Cameron Winklevoss (Noam Galai/Getty Images)
The China Factor: Marginally Positive
Spencer Bogart, vice president of Equity Research at Needham Company, and one of my guests on the podcast, previously put the odds of SEC approval at 25% or less, mostly due to the generally conservative nature of the SEC. (His remarks on bitcoin are published in reports on the Bitcoin Investment Trust, a private placement security for wealthy investors that also trades after a one-year lockup period over the counter under the ticker GBTC.)
He sees this week’s beefing up of AML and KYC processes on Chinese cryptocurrency exchanges as only slightly helping the odds for a bitcoin ETF.
Events in China in January also help a bit. Previously, because many Chinese exchanges did not charge fees to trade, it appeared that 95% of all trading in bitcoin worldwide occurred in China. A month ago, regulators in China urged exchanges to produce “real volume,” prompting the biggest three exchanges to institute fees for trading. (This week, it looks like a host of smaller exchanges are following suit.)
Bogart says that since this wasn’t “economically meaningful volume,” the fact that trading is somewhat more evenly spread geographically worldwide probably only marginally helps the case for a bitcoin ETF with the SEC. “But I don’t know that that was ever the main factor that the SEC was concerned about,” he says.
And, as Daniel Masters, director of Global Advisors, which offers the Global Advisors Bitcoin Investment Fund, mentioned in my podcast, other ETFs have underlying assets that trade heavily in China, such as a copper ETF.
The Fact Of The Amendment: Neutral
If the SEC intends not to approve a filing, it often will notify the involved parties who can then gracefully withdrawal. However, the fact that Winklevoss twins updated their proposal this week indicates either that the SEC has not made a decision, or that it has not notified them or the BATS Exchange, where their COIN ETF would list, that it won’t approve the filing.
“Why go through the expense of filing this extra S-1 if you think it won’t be approved?” says Bogart, referring to the name of the registration form.
A Technical Matter In The Update: Negative
However, the substance of the update has raised a red flag. One of the challenges with putting a cryptocurrency like bitcoin into an ETF form stems from the fact that bitcoin is created by software run by thousands of computers worldwide. As long as the computers are all in agreement in certain ways, that software will only support one version of bitcoin. But sometimes, upgrades to the network will require changes that run the risk of two versions of the currency being produced, each with their own value determined by market demand. This change is known as a hard fork.
(A well-known hard fork in another cryptocurrency called Ethereum last summer did actually result in two different currencies — Ether and Ether Classic — much as if there was a shadow dollar that traded around but was worth only a fraction of the dollar that was more widely used.)
The updated Winklevoss filing describes how the trust would determine which coin to accept in the event of a hard fork (it would opt for the network that had “the greatest” computing power after 48 hours), but people with technical knowledge of hard forks believe the plan to be insufficient and in fact somewhat dangerous, as it could expose the ETF to market manipulation. (The events that gave rise to Ether Classic occurred more than 48 hours after the hard fork.) Even if the twins re-filed to amend this, the fact that the contingency plans for potentially serious events in bitcoin are being revised somewhat last-minute does give Bogart pause. “How is the SEC going to look at this and be OK with that risk?”
Still, overall, Bogart believes if the SEC disapproved the ETF, it would likely hinge on concerns about bitcoin itself rather than on any specific aspect of the Winklevoss filing.
The Trump Administration’s Priorities: Negative
While the Trump administration would seem to be somewhat sympathetic to bitcoin — its nominee for White House budget director is known bitcoin proponent Representative Mick Mulvaney of South Carolina — it likely has higher priorities than bitcoin on its agenda.
David Brill, the former lawyer for Gemini, the cryptocurrency exchange run by the Winklevoss twins, who recently remarked that he thought approval was unlikely, says, “When you look at what’s on the [Commodity Futures Trading Commission] and SEC’s plate collectively, blockchain broadly speaking is going to get some attention, but I don’t know if the agencies will want to put a lot of resources to bitcoin and blockchain, because other things are higher priorities.”
Other obstacles could be the directive to remove two regulations for every one that’s incorporated, the hiring freeze and the fact that the CFTC is only operating with three commissioners instead of the full five.
“That’s not a lot of bandwidth to be dealing with what may be viewed as extraneous products or issues in the grand scheme of things for the commissioners,” says Brill.
Indications In The Market
For a long while, it seemed as if the cryptocurrency community expected the Bitcoin ETF to be approved. But a few market movements indicate that sentiment is currently mixed.
Bitmex, an offshore exchange for cryptocurrency derivatives, currently offers a contract the allows for speculation on the approval odds for a bitcoin ETF. It has been trading below 50% (at 40% as of press time), though the market is thinly traded.
For a long while, GBTC, whose price is pegged at one-tenth of one bitcoin, has traded at a premium to bitcoin itself, indicating pent-up demand for an investment vehicle that would provide exposure to bitcoin in an investment portfolio. However, that premium has dropped significantly in recent months. At about 100% last summer, it is now less than 20%.
GBTC premium over NAV
Bogart hypothesizes that some of this could be due to speculators shorting the stock if they think approval of a bitcoin ETF is likely. It could also be attributed to investors who bought GBTC through the private placement selling in order to lock in that premium now, since it would likely disappear if the ETF is approved.
“That premium is essentially free money on the table,” says Bogart, “so you might say, I’ll take my 15% premium and buy bitcoin instead.”
Finally, the premium could be lessening simply because the value of bitcoin has gone up so much recently, while the demand for GBTC may have either stayed the same or increased at a slower rate. (However, for Feb. 10, the market price went up by about 1.5%, in contrast to the price of the private placement falling almost 3%.)
Impact Of Decision On Price
If approved, a bitcoin ETF would drive up the price of bitcoin significantly. Bogart estimates that at least $300 million in assets would flow into a bitcoin ETF in its first week, which would outpace typical volumes, which have typically ranged from $15 million to $30 million traded daily against the dollar, though over the last month or two, volumes have been more in the $30 million to $60 million range. “Regardless, at either of these levels, it would be difficult to source $300 million of bitcoin over a few days without drastically increasing price,” writes Bogart in his report on GBTC, updated Friday.
He also posits that the boost in reputation, lower perceived regulatory risk and media attention would increase the price.
However, his imagined scenario for disapproval isn’t all that pessimistic. Though it might cause the price to dip, he writes, “The vast majority of owners will continue holding bitcoin regardless of the SEC’s decision and would likely welcome the opportunity to buy at a lower price.”
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