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Navigating the Future: Understanding Bitcoin ETFs and BlackRock's Impact on the Crypto Market

Navigating the Future: Understanding Bitcoin ETFs and BlackRock's Impact on the Crypto Market

9th Jan, 2024

Exchange-traded funds that track the value of Bitcoin and trade on traditional market exchanges

What are Bitcoin ETFs?

Bitcoin ETFs are exchange-traded funds that track the value of Bitcoin and trade on traditional market exchanges rather than cryptocurrency exchanges. They allow investors to gain exposure to Bitcoin’s price movement without having to go through the hassle of using a cryptocurrency exchange. Bitcoin ETFs track the performance of Bitcoin as an underlying asset

Investors that purchase Bitcoin ETFs are, in essence, buying shares or units of the fund that uses Bitcoin as its underlying asset. The value of the ETF is intended to reflect Bitcoin’s performance, giving investors an alternative method to invest in Bitcoin without having to set up and maintain a digital wallet or use cryptocurrency exchanges.

How Do Bitcoin ETFs Work?

An ETF (exchange-traded fund) is an investment fund that tracks the price of an underlying asset or index. Today, ETFs are available for several assets and industries, ranging from commodities to currencies.

A Bitcoin ETF would work the same way—the price of one share of the exchange-traded fund would fluctuate with the price of Bitcoin. If Bitcoin increases in value, so does the ETF, and vice versa. But instead of trading on a cryptocurrency exchange, the ETF would trade on a market exchange like the NYSE or TSX.

Advantages of Bitcoin ETFs

Regulated and Well-Known Investment Structure

A significant advantage of Bitcoin ETFs is their regulated and well-known investment structure. This allows investors to track changes in Bitcoin's price within established financial markets, gaining access to the ETFs’ liquidity and transparency.

Convenience and Accessibility

Investing in a Bitcoin ETF provides leverage to the price of Bitcoin without having to learn about how Bitcoin works or sign up for a cryptocurrency exchange. It eliminates the risks of owning Bitcoin directly, such as the potential loss due to forgotten wallet passwords. A Bitcoin ETF simplifies the process of investing in Bitcoin.

Basket Holding and Diversification

Bitcoin ETFs often hold a basket of Bitcoin and other assets, including Bitcoin, Apple stocks, Facebook stocks, and more, providing advantages such as diversification. This approach allows for daily buying and selling of shares, akin to other publicly-traded securities. Trading on a regulated market exchange provides an opportunity to diversify existing equity portfolios.

Tax efficiency

Given that Bitcoin is unregulated and decentralized, the majority of the world’s tax havens and pension funds do not allow for purchases of Bitcoin. On the other hand, a Bitcoin ETF trading on traditional exchanges would likely be regulated by the SEC and eligible for tax efficiency.

However, it is crucial to remember that the accessibility of Bitcoin ETFs may differ depending on the jurisdiction and legal framework. Before making any investment selections, investors should carefully analyze aspects, including fees, tracking precision and the custodian arrangements of the ETF.

Disadvantages of Bitcoin ETFs

Management fees

ETFs usually charge management fees for the convenience they provide. Therefore, owning a significant amount of shares in a Bitcoin ETF could lead to high management fees over time.

ETF inaccuracy

While ETFs track the price of an underlying asset, they can also have multiple holdings in a bid to diversify the portfolio. However, this suggests that a 50% rise in the price of Bitcoin may not be accurately reflected in the value of the exchange-traded fund due to its other holdings. Therefore, while an ETF provides leverage to Bitcoin’s price, it may or may not be an accurate tracker of its price.

Limits to cryptocurrency trading

Bitcoin can be traded for other cryptocurrencies, like Ethereum, Litecoin, XRP, and more. A Bitcoin ETF would not be eligible to trade for other cryptos, as it is not a cryptocurrency but simply an investment fund that tracks the price of Bitcoin.

Lack of Bitcoin ownership

Bitcoin serves as a hedge against central banks, fiat currencies, and equities. By being independent of central banks, Bitcoin provides a way to mitigate risks associated with the financial system. Bitcoin also protects users and investors by providing privacy through the Bitcoin blockchain. A Bitcoin ETF would be regulated by the government, eliminating these benefits.

Difference Between a Bitcoin Futures ETF and a Bitcoin ETF?

A Bitcoin futures ETFs aims to track the price changes of Bitcoin by buying and selling derivatives contracts. A Bitcoin ETF, by contrast, directly holds Bitcoin in its portfolio.

Futures-based Bitcoin ETFs, in contrast to spot-based Bitcoin ETFs, aim to track the price of Bitcoin as closely as possible, but with some notable differences in their approach. 

First, futures-based ETFs frequently hold front-month futures contracts that must be rolled over each month, incurring extra expenses. Furthermore, futures contracts have expiration dates, necessitating ongoing management and repositioning by portfolio managers. 

To prevent market manipulation, futures exchanges such as the Chicago Mercantile Exchange (CME) also set position restrictions on futures contracts. When position limits are reached, portfolio managers of futures-based Bitcoin ETFs are obligated to buy longer-dated futures contracts to comply with the restrictions. This ensures that they can continue to manage the fund’s positions within the regulatory framework and avoid concentration risks.

However, these variances affect how Bitcoin’s price is tracked and may cause variations in the spot market. For instance, the contract’s accuracy in tracking the spot market decreases with time until its expiration date.

Compared with current options, Bitcoin ETF is anticipated to provide better price tracking and possibly lower fees. 

For investors in the cryptocurrency market, the launch of BlackRock’s spot Bitcoin ETF is likely to result in several favorable improvements, including more accurate tracking of Bitcoin values and possibly more affordable investment options, which could enhance the overall investor experience.

What does the BlackRock Bitcoin ETF mean for crypto?

The introduction of a BlackRock Bitcoin ETF could have a significant impact on the cryptocurrency sector. Here are a few possible effects:

Increased adoption

BlackRock’s participation in the cryptocurrency industry through an ETF may attract more institutional and retail investors. It could increase the legitimacy of Bitcoin as a form of investment and lure more conventional investors into the market.

Liquidity and price impact

An ETF would give investors a regulated and accessible way to get exposure to Bitcoin without buying and storing the digital currency directly. As demand for the ETF shares would reflect investor sentiment, this may increase Bitcoin market liquidity and affect its price.

Regulatory attention and investor protection

BlackRock’s submission for a Bitcoin ETF draws regulatory attention and emphasizes the significance of clear rules and safety nets for the cryptocurrency sector. The involvement of a well-known financial institution in providing a regulated investment vehicle emphasizes how important it is to have clear frameworks that put investor protection first. 

These innovations have the potential to provide an open, safe environment for investors as they go through regulatory evaluation, which would eventually assist the market’s long-term stability and expansion.

Market risk and volatility

While a Bitcoin ETF would increase market liquidity and mainstream involvement, it might also increase market risk and volatility. A sudden sell-off or sizable institutional investments could impact the price of Bitcoin because ETFs are subject to market swings.

In summary, Bitcoin ETFs are investment funds that track Bitcoin's price on traditional stock exchanges, offering a convenient and regulated way to invest without the hassle of crypto exchanges. They offer advantages like diversification, transparency, and tax efficiency, but also come with drawbacks like fees and potential tracking inaccuracies. BlackRock's upcoming Bitcoin ETF could significantly increase adoption, liquidity, and regulatory attention in the crypto market, while also raising concerns about volatility.


Emmanuel Nchuma


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