After I lamented in “Where Are Thou Bitcoin ETF?” earlier this month the SEC’s intransigence to approve a bitcoin ETF, I heard from the hinterland, Germany, that what I was seeking was launched a couple of months ago there. I could buy a physically-backed bitcoin ETF today.
It’s not in the form of an ETN, such as the one offered in Sweden—the Bitcoin Tracker One (CXBTF), an exchange-traded note (ETN) that started trading on the Nasdaq Stockholm in 2015. It’s been heralded as the first bitcoin security to trade on a regulated exchange and has some $400 million in assets. (Read: “How To Buy A Bitcoin ETN”).
It's also not in the form of a quasi-closed-end fund such as the Grayscale Bitcoin Trust (GBTC) in the U.S., which holds physical bitcoin and has attracted $8 billion in assets under management from investors comfortable with paying 2% expense ratio on top of a 20% premium to net asset value.
These are not ETFs; they are different animals. An ETN is subject to counterparty risk. If the ETN backer goes under, so does your money. GBTC, which allows accredited investors to buy into the fund through periodic private placements, is plagued by a 20% premium that reflects the demand for a secure investment vehicle for bitcoin. There’s no other way to get bitcoin exposure in a traded fund. Both of these creaky structures are examples of why we need a physically backed bitcoin ETF—in the U.S.
But there is a bitcoin ETF in a physically backed structure that is similar to physically backed gold and silver ETFs here, and is identical to those in Europe. Launched in August, the BTCetc Bitcoin Exchange Traded Crypto (BTCE) (BTCE-FF:Frankfurt Stock Exchange) has attracted more than $150 million in assets despite its steep 2% expense ratio fee. Indeed, a physically backed bitcoin ETF is up and running in Germany, thanks to different regulatory thinking, according to Hector McNeil, co-CEO at HANetf, Europe’s first independent “white label” provider of ETFs. HANetf is the issuer behind BTCE for the startup company ETC Group.
McNeil answered the call of “Where Are Thou Bitcoin ETF” with the answer, “right here in Germany.”
ETF.com: How did you launch a physically backed bitcoin ETF, and why in Germany?
Hector McNeil: Germany's pretty friendly with regards to cryptos, and made crypto an official financial instrument. They wanted to bring cryptos under the regulated umbrella. That basically meant that they would be very friendly to having an ETP [exchange-traded product] structure on the Deutsche Boerse in Germany. It took the product probably about eight months to get through BaFin, who's a regulator there, because every small step was debated and negotiated, etc.
ETF.com: Why can’t this get done in the U.S.?
McNeil: It boils down to the German regulators being happy with the structure. Germany's probably the largest ETF market in Europe, which is some 30 markets. Every country's got a different approach, even though the EU is a homogenous market. But you couldn't do this structure in Ireland or the UK, for example. They wouldn't allow you to do this structure yet.
Like the SEC, and some other places, they're reviewing their approach to crypto, particularly at the retail end of the market. But Germany has opened the door at the generic level to crypto as a financial instrument. And that paves the way to use this structure, which is pretty much the structure that's used for gold in the U.S. and Europe.
A physical deposit of crypto is put into cold storage, and the ETF is issued off the back of that. It's purely open-ended. It's not like Grayscale [GBTC]; it's not a trust or a closed-end structure. The usual market makers—Jane Street, Flow Traders and all those firms—can freely create/redeem the product. We fully intend to bring other crypto products. We'll ride that wave.
ETF.com: Where are you getting investors from?
McNeil: They're pretty much spread across Europe. It’s really about creating awareness about this product, like anything else. It's an open AP [authorized participant], so there are plenty of different APs. We're getting more institutional interest now.
But part of that process is they need to do the analysis required by compliance to allow them to: (a) either take cryptos, or (b) take this type of structure. We're doing a lot of conversations currently with the institutional world in that analysis. Most of the demand I'm seeing is for multiasset funds. Those who would typically buy gold ETFs or other similar things in their multiasset funds are looking to buy that.
BTCE is a regulated product on a regulated market, and it settles central counterparty. That's a first.
That's massive for the institutional world. Because if you think about it, you're trading in the underlying Wild West markets, and you've got complete counterparty risk to whoever you're buying from. That doesn't work for the institutional world. Having that central counterparty to this product is Eurex, which is owned by the Deutsche Boerse. That's the standard process that an ETF will go through when it's listed and traded on the Deutsche Boerse.
ETF.com: What’s the expense ratio?
McNeil: Two percent.
ETF.com: That's pretty high.
McNeil: Well, Grayscale's 2% and a premium, right? So, it's cheaper than that.
ETF.com: How does custody work? While this is a physically backed ETF, you can’t hold a bitcoin like with gold. It all centers around the bitcoin passwords, I assume?
McNeil: It goes into cold storage at BitGo [a digital asset custodian]. Once it's gone into cold storage, we issue the ETPs off the back of that. You’ll never be in a situation where the ETP isn't backed 100% by bitcoin. You can actually get visibility into the holdings. It's not quite the same as a barlist that you get in gold, but it is still accessible.
ETF.com: Then you have a converting option wherein you can convert into getting bitcoin for a fee?
McNeil: Yes, you can receive physical bitcoin.
The ability to buy BTCE will depend on your brokerage, but XBTCF in Sweden and GBTC are available on most U.S. brokerages. Some brokerages may require you to open a separate foreign securities account.
The beauty of a bitcoin ETF is in its tax advantage through the creation/redemption mechanism and cost, but it is not allowed in U.S. So the void is resulting in investors searching out these expensive and sometimes riskier funds. I won’t repeat the litany of reasons I outlined in “Where Are Thou Bitcoin?” on why the bitcoin market has matured in every way to warrant it be packaged in an ETF. Just remember that the world isn’t waiting for the SEC, and neither are investors.
Drew Voros can be reached at [email protected]