Grayscale’s Bitcoin Golden Goose: ‘GBTC’

Fee compression has been a constant in the ETF industry. The largest, most popular exchange-traded funds tend to be some of the cheapest funds on the market, and they’ve been getting cheaper every year.

There’s an obvious reason for that: competition. When you have so many high quality issuers offering similar funds, investors are going to gravitate toward the cheapest ones. It’s tough to launch yet another S&P 500 ETF when your much larger competitors are charging just a few basis points for theirs.

There are ways to avoid the never-ending fee war though. One-of-a-kind products that can’t be easily replicated by rivals tend to have higher expense ratios. The poster child for this phenomenon is ARK’s suite of actively managed ETFs, including the ARK Innovation ETF (ARKK).

ARKK’s 0.75% expense ratio is considered expensive in the ETF world, but for anyone who invested in the fund over the past several years, it’s been a price worth paying. Over the past one, three and five years, ARKK has gained 126%, 219% and 588%, respectively, making the fund’s expense ratio seem tiny by comparison.

As long as ARKK continues to outperform the broader market by a wide enough margin, investors will happily pay the fee. Would-be rivals can’t simply undercut the ETF on price either, because the strategy is unique, one that is dependent on ARK’s research and stock picking skills, rather than an easily replicable index.

Power Of A Unique Strategy

But what’s really eye-popping in this story is just how large the revenue gap between a high fee and a low fee product can be.

ARKK, for instance, takes in around $183 million in fees per year on $24.4 billion in assets under management. That’s more than the second- and third-largest ETFs combined. The iShares Core S&P 500 ETF (IVV) and the Vanguard Total Stock Market ETF (VTI), which together have $518.5 billion in assets under management, have “implied revenue” of $155.6 million. Implied revenue is the total assets under management multiplied by the expense ratio.

To drive home the point even further, ARK’s suite of eight ETFs pulls in $380.5 million of revenue per year on $50.6 billion in AUM versus $1.5 billion of revenue for State Street’s 132 ETFs.

In other words, ARK has 26% of the revenue of State Street despite having 5% of the AUM—$50.6 billion versus $1.5 trillion. Incidentally, State Street is the third-largest ETF issuer by assets, while ARK is the tenth-largest.

That’s the power of a unique strategy.

The $756 Million Product

Another product that exhibits this power is the Grayscale Bitcoin Trust (GBTC). To be clear, GBTC isn’t an ETF (it’s a quasiclosed-end fund that periodically offers private placements to accredited investors). It’s not even a product that trades on a U.S. exchange (it trades over the counter and is quoted on the OTCQX).

But it is a product that provides exposure to bitcoin in a way that is valued by investors and at a time in which the cryptocurrency has been on fire. GBTC charges a 2% annual fee, which, when applied to its $36 billion in assets under management, equals revenue of a whopping $756 million.

To put that in perspective, that’s more than double the implied revenue of the Invesco QQQ Trust (QQQ), the U.S.-listed ETF with the largest revenue haul. It’s even more than the combined haul of QQQ and the SPDR S&P 500 ETF Trust (SPY), which together generate $650.6 million in revenues.

If you add the $10 billion Grayscale Ethereum Trust (ETHE) into the mix, Grayscale is pulling in an estimated $1 billion per year from just two products (it has another 12 much smaller products).

For Grayscale to generate close to a $1 billion from just two products—the amount Vanguard takes in from all 82 of its ETFs—is truly impressive. For context, the entire U.S.-listed ETF industry generates revenues of just under $12 billion across almost 2,500 funds, with 56% of that going to BlackRock, State Street and Vanguard.

Lighting The Match

Yet GBTC wasn’t always the juggernaut we see today. Up until a year ago, GBTC never had more than $3.5 billion in assets under management. If you go back a year ago, GBTC wasn't raking in even close to the amount it is today. A 2% fee on $3.5 billion is $70 million—impressive, but not mind-blowing.

In that way, it was similar to ARKK. Both had grown slowly and consistently over many years to reach a respectable midtier status, and then a match was lit, and they exploded to the upside.

For GBTC, the match was the stunning rally in bitcoin prices over the past year, from around $9,000 to $60,000. That’s helped grow GBTC’s assets more than 10 times over that period.

GBTC was the right product at the perfect time. How did it get here?

Only Game In Town

Grayscale’s “Golden Goose” provides a unique product, just like the aforementioned ARK. For many years, GBTC was the only game in town when it came to offering investors easy exposure to bitcoin through their traditional brokerage accounts. 

The Grayscale Bitcoin Trust debuted in 2013 and became publicly quoted in 2015, back when many hadn’t even heard of bitcoin. This was also around the time that security (or the lack thereof) was a real issue in the cryptocurrency space. The world’s largest crypto exchange at the time, Mt. Gox, faced a catastrophic hack in 2014, crippling confidence in crypto-native exchanges and custodians.

In that environment, GBTC—which offered access to bitcoin in a familiar format—was truly valuable. You could simply buy it from your regular brokerage account, just as you would a stock or ETF, and Grayscale would take care of all the messy details of acquiring and storing bitcoin. With GBTC, you could do this as early as May 2015, when bitcoin was only $240.

To be sure, GBTC was never a perfect product. It’s struggled with massive premiums for much of its existence (and more recently, with sizable discounts), but it’s easy to trade, allowing investors to wade into the bewildering world of crypto without dealing with separate crypto-focused platforms.

With the SEC refusing so far to approve a U.S.-listed bitcoin ETF, for many investors, GBTC was the next best thing.

Competition Coming

Any bitcoin ETF would surely have an initial price tag that is much lower than 2% (incidentally, Grayscale has promised to eventually convert GBTC itself into an ETF at some point, while lowering its fees).

If multiple bitcoin ETFs exist, as will likely be the case, competitive pressures will force fees ever-lower, just as they have in other ETF categories. In fact, already, there may be some competitive pressures hitting GBTC on the margin from bitcoin ETFs listed in Canada.

Though these products aren’t direct competitors to GBTC given how onerous they are for most U.S. investors to buy, they are notably cheaper. The Toronto-listed CI Galaxy Bitcoin ETF has a management fee of 0.4% and a maximum total expense ratio of 0.95%.

Then there are crypto-native platforms like Coinbase and Gemini that offer the capability to directly buy and sell bitcoin and other cryptocurrencies. These platforms have come a long way since the tumultuous days of Mt. Gox, charging individual investors fees anywhere from 0 to 1.5% per transaction, with no ongoing fees for holding cryptoassets in an account (institutional investors may have to pay for custody services).

Poised To Be A Force

The glory and care-free 2% days of Grayscale Bitcoin Trust (GBTC) may be coming to an end. GBTC was last trading at a steep 14% discount to its net asset value—a sharp reversal from years past when the product would routinely trade at premiums of upward of 100% to its net asset value—suggesting that investors are now finding other ways of accessing bitcoin. A U.S. bitcoin ETF is almost certainly on the sooner than later horizon.

But those head winds hardly spell the end to GBTC. There’s so much energy, attention and investor interest in the crypto space that competition was bound to heat up.

Yet regardless of what happens, GBTC is poised to be a force, and will likely stick around no matter how the crypto fund space evolves. It still has a first-mover advantage and a liquidity advantage, so it can probably maintain a relatively high fee compared to its rivals (similar to the SPDR Gold Trust (GLD) or the iShares MSCI Emerging Markets ETF (EEM)).

Will it be 2% and $756 million? Probably not. But if GBTC does become an ETF, it could very well be one of the most profitable ETFs on the market.

Sumit Roy can be reached at [email protected]