A Bitcoin ETF – Now What?

By: Thomas Lauman

The Bitcoin ETF has arrived! Ok, so now what…

BITO, the first Bitcoin ETF, started trading October 19th.  ProShares brought the exchange-traded fund (ETF) to the market utilizing Bitcoin futures to track the price action of the actual underlying cryptocurrency. This allows individual investors who may have concerns about investing directly in Bitcoin or regulated institutions prohibited from investing directly in cryptocurrencies the ability to obtain “safe” exposure due to the government’s regulation of the futures markets. The launch of this new ETF has helped push Bitcoin to all-time highs above $65,000. Besides enriching Bitcoin holders, what has this ETF accomplished? The legitimization of cryptocurrencies as an asset class.

An Existence Beyond Currency

Bitcoin started trading late 2009 on the BitcoinTalk forum when two members swapped 50 Bitcoins at a price of $0.00099 per Bitcoin! The cryptocurrency continued to expand its popular interest and increase its trading volume and price on new – yet unregulated – internet exchanges until late 2017. At that time, Bitcoin futures trading opened at the Chicago Board Options Exchange (CBOE), the largest U.S. options exchange, reaching a then record high $19,000. Bitcoin’s potential as a digital currency was certainly gaining momentum.

Unfortunately, until the end of 2020, the cryptocurrency rode a rollercoaster of opinion and price movements. A lack of the U.S. government support or major corporate endorsements as a suitable method for transactions deflated the hype and hope of many investors. As discussed in our earlier article “Can Cryptocurrencies Actually Become A Real Currency”, there are a number of issues that prohibit Bitcoin and others from being utilized as fiat money:

  • Volatility and lack of stability which diminishes confidence in sustained, constant value to engage in transactions
  • Lack of universal acceptance
  • Fragmented intermediaries with multiple cryptocurrencies competing
  • Limited production preventing ease of money supply growth when needed
  • Costly to the environment to produce
  • Inability of government to control, monitor and thereby tax cryptocurrency holders

It is that last point that will ultimately prevent any cryptocurrency from being real money. In fact, Nigeria recently launched its own, central bank sponsored digital currency on a platform integrated with thirty-three banks and a growing list of merchants. This is the future of digital currencies: state-designed and controlled. There will be a digital dollar, but it will come from the U.S. Treasury, not Bitcoin.

Legitimization As An Asset Class

What the Bitcoin ETF does is to further validate and legitimize the cryptocurrency as an asset class. It expands individual investors’ and institutional money managers’ access to cryptocurrency investing that were previously reluctant or restricted. Cryptocurrencies have now become part of the mainstream, which is somewhat ironic as they were developed to be an unregulated alternative to the established monetary system.

As stated in our earlier article on the possibility of cryptocurrencies becoming fiat money, investors should consider Bitcoin and its crypto brethren as “digital gold”. Similar to gold, they are used predominantly as a possible inflation hedge, a security to hold money in times of crisis, or simply as a speculative trading vehicle. However, unlike gold, there will be a number of distinct cryptocurrencies to choose from. After this successful launch, expect multiple Bitcoin and other cryptocurrency ETFs (such as Ethereum) to flood the market, with ProShares and other ETF providers eager to charge high fees for these new products to hungry investors. The deluge of various cryptocurrency ETFs will unfortunately dilute potential price action relative to the underlying asset. Also, it should be noted that the IRS also classifies cryptocurrencies as an asset class – like stocks and bonds – for tax purposes.

Bitcoin As An Asset Class

We can all agree that Bitcoin is an asset class. But is it a worthwhile asset? Profitability or return on investment usually drives an asset’s valuation. Stocks, bonds, real estate, and commodities all have a value due to 1) a basic monetary worth driven by earnings and dividends, interest and principal, property prices, or utilization in society (manufacturing, industrial or personal consumption); 2) current supply and demand; and 3) perceptions of future supply and demand.

The Houston firefighters’ pension fund recently announced the purchase of $25 million worth of Bitcoin and Ether in their defined-benefit plan’s portfolio. Obviously, they – and many other investment managers – consider cryptocurrencies an investable asset. But without any intrinsic value as a means of exchange, besides as a place to hide funds or as a means of ransomware payoffs, why are they worth anything, let alone $65,000? It is through the public’s perception of limited supply and expanding demand that drives Bitcoin’s valuation.

Simply put, Bitcoin is a spectacular vehicle for speculation, where buyers believe the demand for this finite asset (no more than 21 million tokens can be mined) will continue to increase as it becomes more acceptable, more mainstream. However, there are a number of factors that may curb investor enthusiasm. As the world becomes more environmentally conscious, the heavy reliance on fossil fuels to mine tokens presents an issue for ESG-minded investors. New York is considering legislation to ban the use of fossil fuels to mine Bitcoin.

Also, as UBS analyst Mark Haefele notes, the regulatory risk is still great and price gyrations make cryptocurrencies a questionable value. It should also be noted that the Houston firefighters’ pension crypto investment represents less than one half of a percent of their $5.5 billion in assets. Bitcoin may be a legitimate asset class, but institutional investors are not “all in”. And SEC Chairman Gensler warned that even with increased regulatory oversight, BITO is “a highly speculative asset class”.

In Summary

The Bitcoin ETF BITO has solidified the cryptocurrency as a viable asset class. It will never be utilized like money to pay for goods and services due to its lack of stability or government oversight. Yet, despite little, if any, intrinsic value, its volume, price movements and momentum make Bitcoin and its ETF effective and attractive vehicles for speculation.

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