What the Ethereum Update Means for ETFs

August 19, 2022

Nowhere is the dream that digital assets can revolutionize many industries—and the exchange-traded funds that focus on them—more apparent than the ethereum ecosystem.

Released in 2015, ethereum is designed to be a general purpose blockchain platform. That’s in contrast to bitcoin, which excels in its single-use case as a digital currency, but isn’t as extensible. 

Next month, a long-awaited upgrade will transition the smart contract platform from proof-of-work to proof-of-stake. This new format will make the platform much more energy efficient and accessible.  

Vitalik Buterin, the creator of ethereum, has likened bitcoin to a pocket calculator and ethereum to a smartphone. While, a pocket calculator does its job well, a smartphone can contain a variety of applications—one of which could be a calculator app. It’s this open-endedness that has put ethereum squarely at the center of much of the innovation currently taking place in the crypto space. That includes decentralized finance to nonfungible tokens to decentralized autonomous organizations. 

The excitement surrounding those areas has naturally died down as cryptocurrency prices have tumbled. The price of ether has been cut in half since the start of the year. 

Ether is the digital currency of the ethereum ecosystem. To interact with ethereum smart contracts, users pay ether, making it similar to a commodity.  

But ether can also be used as a currency and a store of value, similar to bitcoin. And it can also be “staked,” a novel mechanism whereby ether holders lock up their cryptocurrency in exchange for more ether. To earn their rewards, stakers validate transactions on the ethereum network, though individuals can offload that responsibility to other entities who can do the work on their behalf for a fee. 

Investment Options  

For investors looking to participate in the growth of ethereum, ether is the natural choice.  

Unfortunately, there are currently no ether ETFs trading in the U.S., but investors can consider the over-the-counter Grayscale Ethereum Trust (ETHE), which trades with a 25% discount to its net asset value, or funds in Canada, like the Purpose Ether ETF (ETHH).  

Outside of traditional brokerage accounts, investors can also purchase ether through crypto platforms like Coinbase or even digital wallets like Cash App and Venmo. 

Upgrade Coming  

Staking is a crucial element of the massive software upgrade that will hit ethereum next month. The ethereum community has been eagerly anticipating this moment for years.  

With proof-of-stake, validators will replace miners as the arbiters of which transactions are included in the blockchain. It is a much less compute- and energy-intensive process, and one that anyone who holds a certain amount of ether can be a part of. 

Validators don’t compete; they are chosen at random. That means they don’t need supercomputers to participate in the process. Would-be validators simply stake a certain amount of ether—at least 32 ETH based on the current rules—for a chance at proposing a new block of transactions. 

Because of the nature of proof-of-stake (i.e., there is no need for expensive computers and huge amounts of energy), the number of new coins that must be issued to get network participants to validate transactions and secure the network is much less than under a proof-of-work system.  

That’s why some expect that once the transition is complete, ethereum’s issuance will drop significantly. Net ether supply growth may actually turn negative, which is why ether prices have nearly doubled since their low point in June. 

Ether is currently the second-most-valuable cryptocurrency, with a market cap of $228 billion. On a year-to-date basis, it’s down around 50% this year. 

 

Follow Sumit Roy on Twitter @sumitroy2      

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