Handicapping 1st US Bitcoin ETF Race

John Hyland, CFA, is a retired ETF executive and longtime investment industry professional who has contributed articles to ETF.com. His background includes extensive work with ETFs in the area of commodities and cryptocurrencies. Hyland currently serves as an independent director on the board of an ETF family. We caught up with him to help us handicap which ETF issuer will be first to market with a U.S.-listed bitcoin.

ETF.com: We already have eight filings in with the SEC. How many more do you expect to see?

John Hyland: I can name at least eight more firms that I know or suspect will file for a bitcoin ETF. This includes some Canadian and European firms that already have listed bitcoin ETFs, plus some more U.S. firms. This would include a refiling by my old firm, Bitwise.

ETF.com: You worked on building a bitcoin ETF in 2018 and 2019 [with Bitwise Investments] during the first wave of filings. How does this second wave compare? How are things different?

Hyland: Most of the filings done before 2019 had what I considered fatal flaws, meaning that even if the SEC was OK with a bitcoin ETF, it was not going to be OK with the particular filing.

For example, both the Winklevoss and VanEck filings proposed that they would self-custody their bitcoin. I just don’t see the SEC going for that idea. Then there was the proposed NAV [net asset value] pricing.

The Winklevosses proposed to price it off a single crypto exchange, that handled maybe 3% of global daily volume, and that they owned. VanEck was going to use quotes from OTC [over the counter] desks. Again, no and no.

What I designed in 2018 was to use a regulated third-party custodian, a bank or trust company, and price off a basket of five to six regulated U.S.-based crypto exchanges that represented a decent chunk of global volume.

In 2018, we were the first to propose that approach, but looking at the current filings, it seems most people are going that route. So that should help them with the SEC from a fund design standpoint. However, fund structure is not really the major issue for the SEC.

ETF.com: What is it going to take for the SEC to move forward here?

Hyland: There are two divisions at the SEC that mostly matter here. Corporate Finance has to sign off on the prospectus, and will be heavily concerned about structure and risk disclosure. By the way, I don’t think they’re focused on if a bitcoin ETF might lose a lot of value for investors. That is a value judgment about risk that’s not really their issue. But they won’t approve any product with obvious design flaws or inadequate risk disclosures.

Trading and Markets is who really matters here. Their primary concern is if bitcoin itself is subject to a high risk of price manipulation. That in turn would mean that the price of the ETF itself would represent a manipulated NAV.

So the crypto industry has to convince Trading and Markets that bitcoin is not an easily manipulated vehicle. Demonstrating that is going to be tricky, but you can see on the SEC website that Bitwise, among others, has done a huge amount of analysis and shared it with the SEC staff. At some unknown point, the staff will be comfortable enough to allow the listing to move forward.

ETF.com: What is your thought on timing of the SEC to approve a U.S.-listed bitcoin?

Hyland: The SEC just got a new Chairman, Gary Gensler. Gary and I have a bit of history going back 10 years when he chaired the CFTC, and we publicly tussled over position limits on ETFs like USO [United States Oil Fund LP] that own oil and natural gas futures. As a result, I know him a bit.

The thing about Gary is that even by the standards of Washington, D.C., he’s a very politically attuned individual. If he thinks the current administration or Congress really wants crypto ETFs, he’ll make it happen. Otherwise, he and the rest of the commissioners will have a lot of higher-priority items to deal with this year.

I think the administration and Congress are very much mixed on their views about crypto, so I’d guess Gary isn’t getting signals that this is a big item. So despite his obvious interest in—and knowledge about—crypto, I suspect he’ll be content to allow this to move on down the line for some time. As a result, I’m guessing that 2022 is the most likely approval time frame.

ETF.com: What’s the most interesting filing so far?

Hyland: I was talking to Matt Hougan [former CEO of ETF.com and current CIO of Bitwise] about how, with a bunch of firms filing, and most using a similar structure regarding pricing and custody, that to be first or second is either going to be blind luck or you’re going to have to do something different and bold.

As an example, given my prior history with Gary Gensler, having me be part of a submission might help a filing a lot, because Gary knows me and knows my ETF history OR it might hurt a lot, because Gary knows me and knows my ETF history.

In either case, it’s not likely to be neutral. However, if there are 10-12 competitors out there going the safe route, it’s not really such a great idea. Matt called this bold strategy “going with the ‘Crazy Russian’ approach.”

So who went “Crazy Russian” already? Clearly it’s First Trust, who teamed up with Anthony Scaramucci. Hard to imagine a more extreme selection. I don’t know if the “the Mooch” is a great choice given that the commission is going to be three Democrats and two Republicans. I might have looked for a similar high-profile, but Democratic, figure. But certainly nobody can say he was the safe choice!

ETF.com: Most disappointing filing so far?

Hyland: The way a filer formally makes their pitch to Trading and Markets is by filing a form called a 19b-4. In it, the filer and their stock exchange provide all the reasons the ETF should be allowed.

So far only VanEck/Cboe have filed one. I think they wasted time in the filing essentially making the argument that the current public products—like Grayscale’s semi-closed-end fund GBTC—are flawed structurally, and so the SEC should approve the better version, which is an ETF. I don’t think that particular argument will get far with the SEC.

Here’s why. Pretend Gary Gensler was the head ranger at a national park. Now say there’s an issue with people going to a nearby town, buying alcohol, and drinking and driving to the park, drinking at the park, and drinking and driving back from the park. Up shows a bar owner who says, “Gary, let’s put a bar in the park. Now people won’t buy beer in town and drink and drive as much, plus we can control and regulate their consumption at the bar.” Sounds logical, right?

Park rangers, like government regulators, tend to be risk adverse by nature. Right now if somebody drives drunk from your park and kills somebody, you can’t put the blame on the head park ranger. But if Gary approves a bar, and somebody drives home drunk from it and kills somebody, he’ll get the blame because he allowed the bar to open.

The SEC may not be happy with GBTC if something bad happens, but they’ll be unhappier if they explicitly approve a bitcoin ETF and something goes wrong. So the “An ETF is better than a semi-closed end fund” argument seems to me not a very good one. The SEC is worried about having reliable bitcoin prices. They’re not worried so much about investors buying closed-end funds at a premium.

ETF.com: Pull out your crystal ball and tell us who you think makes it to the finish line with the SEC and why.

Hyland: Of the six who have filed, I tend to like Valkyrie’s and WisdomTree’s chances. Good structures, and WisdomTree already runs a bitcoin fund listed on the Swiss Stock Exchange, so they can play up that experience with the SEC.

Of those who haven’t yet filed, I’d think that any one of the three Canadian firms that have bitcoin ETFs on the Toronto Stock Exchange might pull it off.

Finally, Bitwise remains a strong contender based on all the extensive data and research it has been providing the SEC staff over the last three years. I assume that the SEC appreciates their efforts.

Drew Voros can be reached at [email protected]