With spot bitcoin ETFs looming, clock ticks on futures products

Two years ago the first US exchange traded fund linked to bitcoin became the fastest ETF to hit $1bn in assets. But the coming weeks are set to test whether it and rival bitcoin futures ETFs can survive.

The ProShares Bitcoin Strategy ETF (BITO) now stands at $1.4bn, and it tracks the crypto token through futures. This type of product has been the only way for US investors to add bitcoin ETFs to their portfolios, as regulators have not approved numerous applications to launch ETFs tracking the crypto token itself.

But the Securities and Exchange Commission now faces a January 10 deadline to approve one or more pending applications for “spot bitcoin” ETFs, which are expected to provide a cheaper way for investors to gain bitcoin exposure.

“I don’t think there’s much life for that product after spot bitcoin launches,” said Will Peck, head of digital assets at WisdomTree, which has filed to launch a spot bitcoin ETF. Peck acknowledged that bitcoin futures ETFs could retain some short-term trading utility but “if you’re a financial adviser or long-term investor, I don’t see why you’d have it”.

This summer brought a flurry of fresh applications for spot bitcoin ETFs in a rush prompted by BlackRock and a legal blow for the SEC after a federal appeals court ruled against the regulator in a bitcoin ETF-related lawsuit in August.

US regulators continue to hold doubts around whether spot bitcoin ETFs would be appropriate for investors, in part because of the heightened risk that the price of these often illiquid tokens is vulnerable to manipulation. Big trading platforms in this space are subject to a range of regulatory investigations and one of the biggest, FTX, imploded a year ago leading its chief executive Sam Bankman-Fried to be found guilty on multiple fraud and money laundering charges this month. However, industry insider still believe regulators will approve spot bitcoin ETFs in early 2024.

If that happens, some think the futures ETFs and spot ETFs can coexist.

“I think savvy investors who are risk-averse will gravitate to a product like BITO,” said ProShares chief executive Michael Sapir, whose firm has not filed for a spot product. Oversight of the futures market by the Commodity Futures Trading Commission and fund administration services provided by a known financial juggernaut both offer support to the model he espouses.

“There is risk in investing directly in the spot market [as opposed to BITOs] regulated futures contracts being held by JPMorgan,” he said.

Peck also pointed out that bitcoin itself is already obtainable by anyone with investable assets and the technical skill to set up a digital wallet. This should temper expectations for “some giant organic demand right out of the gate” for spot bitcoin ETFs.

“I view the [spot bitcoin] ETF as a workflow solution for primarily the wealth management channel,” Peck said.

Cathie Wood’s Ark Investment Management and Swiss crypto manager 21Shares, which are among the firms hoping to launch a spot bitcoin product, earlier this month launched a suite of five digital asset ETFs, including a bitcoin futures strategy, which also indicates that futures ETFs will still have a role. Those two firms’ spot bitcoin ETF application is set for its final deadline on January 10 after repeated delays on a decision by the SEC.

The potential for a dozen of spot bitcoin ETFs raises the prospect of fierce struggles to differentiate an ETF’s brand, distribution tactics or price. In addition to 10 asset managers filing to launch spot bitcoin ETFs from scratch, Grayscale wants to reinvent the $23.3bn Grayscale Bitcoin Trust (GBTC) as an ETF — the SEC’s initial refusal to allow this manoeuvre triggered Grayscale’s lawsuit — while Brazilian asset manager Hashdex is trying to convert its existing bitcoin futures ETF into a spot bitcoin ETF.

BlackRock, Ark Investment Management, Fidelity and Invesco are among the issuers waiting to hear from the SEC on their prospective spot ETFs, which trade over exchanges like stocks and enjoy favourable tax treatment. Spot bitcoin ETFs would not incur charges that futures-based products must bear, such as the cost of rolling over contracts on a regular basis, so they are expected to be substantially less expensive than both BITO and GBTC, which charge fees of 0.95 per cent and 2 per cent, respectively.

Because the pending products are so similar and may launch all at once, their fees are likely to be a key differentiator compared to a typical ETF launch, which could drive down costs to investors, said Bryan Armour, director of passive strategies research for North America at Morningstar. He noted that providers are likely to fight for investors with low fees because “this is such a huge opportunity”.