Investing In Crypto

As we point out in a separate story in this issue of ETF Report, after eight years, only modest progress has been made in the quest for a U.S.-listed bitcoin ETF.

But the cryptomarket isn’t waiting around. Every day, exciting new developments are taking place in the crypto space as developers and creatives push the boundaries of what blockchains are capable of.

From decentralized finance (DeFi) to nonfungible tokens (NFTs) to decentralized autonomous organizations (DAOs), the initialisms are piling up, as are the gains for early crypto adopters. All this excitement and money being generated in the crypto space has left anyone standing on the outside looking in with a serious case of FOMO.

For traditional ETF investors, the issue is compounded by the lack of a cryptocurrency ETF. Many investors may be interested in investing in this burgeoning nascent space, but the product they’re most comfortable investing in—the exchange-traded fund—has been unable to offer them the exposure they want.

So, what’s an investor to do?

As Convenient As An ETF
Fortunately, even though the SEC has been reluctant to approve a cryptocurrency ETF, investors in the U.S. aren’t completely without options.

One of the most popular products for investors seeking the convenience of investing in an ETF-like product is the Grayscale Bitcoin Trust (GBTC). To be clear, GBTC is not an ETF. It’s a quasi-closed-end fund that is quoted on the OTCQX. But for U.S. investors, trading GBTC is as easy as buying and selling any ETF, and for that reason, it’s been a hit with them.

This is a product with a whopping $32.4 billion in assets currently, making it bigger than 98.5% of all U.S.-listed ETFs. GBTC attracted all of those assets for good reason; it was one of the earliest products to offer exposure to bitcoin in a familiar format. Quotations on the product began in May 2015, when bitcoin was at only a little over $200.

Historically, there’s been so much demand for GBTC that the trust has tended to trade well above its net asset value. But more recently, with many other avenues for buying bitcoin opening up, GBTC’s premium has disappeared. In fact, today GBTC trades with a discount of about 13%, meaning shares of the trust are trading below their net asset value.

The Osprey Bitcoin Trust (OBTC), a copycat product with a cheaper expense ratio than GBTC—0.79% versus 2.00% for GBTC—is similarly trading at a 10% discount to NAV.

For its part, Grayscale has committed itself to converting GBTC into a full-fledged ETF if and when the SEC allows it. It may do the same for the Grayscale Ethereum Trust (ETHE), the firm’s $12 billion over-the-counter-traded product that holds ether, the native cryptocurrency of the Ethereum network.

First-Mover Mutual Funds
Remember mutual funds? Investors love ETFs for the intraday liquidity and tax efficiencies they provide, but mutual funds are still a popular asset class, particularly in retirement accounts. As products registered under the Investment Company Act of 1940, mutual funds are known for their strong investor protections.

There are plenty of ’40 Act ETFs too, but it’s mutual funds that’ve gotten the green light from the SEC to buy bitcoin first—well, bitcoin futures that is.

As of this writing, there are three bitcoin futures-based mutual funds in the U.S., the Bitcoin Strategy ProFund (BTCFX), the Stone Ridge Bitcoin Strategy Fund (BTCIX) and the Cboe Vest Bitcoin Target Volatility Strategy Fund (BTCVX). The first two provide straightforward, rolling exposure to bitcoin futures, while the latter tries to smooth out the volatility of bitcoin by adjusting its futures positions up and down based on market conditions.

Notably, using futures for bitcoin exposure introduces tracking error, as futures-based funds must roll their positions forward over time. 

That may be why none of these products have attracted significant interest from investors—though in their defense, they’re all quite new, having launched in July and August of this year. Annual expense ratios for the funds range from 1.15% to 1.45%.

Blockchain ETFs
So far, none of the products we’ve discussed in this story are ETFs. The reason for that is obvious—there are no U.S.-listed cryptocurrency ETFs.

But that doesn’t mean there aren’t any U.S.-listed crypto ETFs. While the field of cryptography has been around for thousands of years, today “crypto” is widely used to refer to blockchains and the use cases that they support.

Cryptocurrencies are one part of the broader crypto ecosystem, but they aren’t the only part of it. There are countless other crypto assets, as well as an ever-growing number of companies involved in the crypto space in varying capacities, some of which enable users to interact with blockchain-based assets and applications more easily.

Bitcoin and ether ETFs aren’t available for trading in the U.S., but ETFs targeting some of these other parts of the crypto space are available.

These are sometimes referred to as blockchain ETFs to distinguish them from cryptocurrency ETFs. These blockchain ETFs don’t hold any crypto assets per se; rather, they hold shares of public companies that are operating in the crypto space.

That includes shares of companies like Coinbase, a cryptocurrency exchange; Square, a provider of a mobile wallet that allows cryptocurrency trading; Hut 8 Mining, a Bitcoin and Ethereum miner; and others.

As time goes on, more and more publicly traded companies focused on crypto will likely come to market, expanding the universe of stocks that are available for these blockchain ETFs to buy.

Currently, the largest ETFs in the category are the $1.3 billion Amplify Transformational Data Sharing ETF (BLOK), the $290 million Siren Nasdaq NexGen Economy ETF (BLCN), the $127 million First Trust Indxx Innovative Transaction & Process ETF (LEGR), the $75 million Bitwise Crypto Industry Innovators ETF (BITQ) and the $60 million VanEck Digital Transformation ETF (DAPP).

Other Options
If you’re an investor and you still aren’t satisfied with the types of crypto products mentioned in this story, there are a few more things you can do.

One, you could buy one of the overseas-listed cryptocurrency ETFs. Regulators outside of the U.S. have been more permissive than the SEC when it comes to something like a bitcoin ETF. A number of such funds launched in Canada this year, including the 3iQ CoinShares Bitcoin ETF and the Purpose Bitcoin ETF.

Just note that major U.S. brokerages typically require special accounts to trade international securities, a category that includes bitcoin ETFs listed in Canada, Europe and elsewhere.

Another option is to skip the fund structure altogether and go straight to the source. Coinbase, Gemini and other crypto exchanges allow investors to trade dozens of cryptocurrencies on their platforms. Adventurous investors can go even further by custodying their cryptocurrencies themselves, either in a software or a hardware “wallet.” Going this route opens up the possibility to interact with blockchain protocols more directly and own countless other crypto assets, including NFTs.

But going down these more direct paths to crypto ownership opens up security vulnerabilities the average investor may not be equipped to handle. Especially in the crypto space, where transactions are almost always final, something like an ETF—which can handle security and custody on the behalf of investors—makes a lot of sense.