BItcoin futures exchange-traded funds (ETFs) have arrived in the United States with the Securities and Exchange Commission (SEC) approving ProShares’ Bitcoin Strategy ETF (BITO), and a host of others are expected to follow.
Should you buy one of them?
As I told my subscribers Crypto-capitalist letterThe short answer is no.
Mark E. Jeftovic is the CEO of easyDNS and author of The Crypto Capitalist Letter.
We have better ways to get our bitcoin exposure, and here we’ll see why a bitcoin futures ETF has drawbacks even compared to a spot ETF.
The difference between a forward ETF and a spot ETF is that the latter holds the underlying asset in cash. Think of a pile of gold in a safe somewhere, against which stocks are issued and sold in the open market. Ownership of shares correlates with claims on retained assets. In spot ETFs, you can even buy back your stocks for the assets they represent.
This is also possible in cryptocurrency ETFs and closed-end funds. You can trade your shares for the underlying bitcoin, or ethereum or any other vehicle the vehicle is invested in.
Unlike the old, futures ETFs. While some commodity futures are meant to be settled in the commodity itself (urban legends abound that flat-footed traders wake up on the morning of their contract settlement day to discover a truck entering their driveway. and spilling a few tons of sugar or coffee beans on their lawn), bitcoin futures ETFs are settled in cash.
This means that no matter what happens to the price or what you decide to do with your positions in the future, there is no option to redeem the underlying asset, you have no rights to the. real bitcoin.
You are only a party to a contract for cash settlement at a later date.
One of the main attractions of assets like gold and bitcoin is the lack of counterparty risk. You may face custody risk, which is a separate issue. But in terms of quid pro quo, when you own gold or bitcoin, the price is the price, and you own what you own no matter how it affects anyone in the world.
Read more: Why a Bitcoin Futures ETF is bad for investors – Michael J. Casey
Below are four reasons why we will avoid these ETFs, followed by what you should buy instead.
Reason n Â° 1: Counterparty risk
In the movie âThe Big Short,â you may remember how the protagonists (who had long predicted that mortgage-backed securities would blow up the markets) felt a special kind of angst when their trades. were ultimately justified, only to find their profits in jeopardy as cascading failures blew up their counterparts. FrontPoint Partners, in particular (the team led by Steve Carell’s character), found themselves in the surreal position of their own parent bank going insolvent due to its exposure to derivatives that FrontPoint had sold heavily short.
Cash-settled futures ETFs are all derivative products and therefore all have counterparty risk.
Reason # 2: diluted exposure
Due to SEC regulations (consumer protection, etc.), bitcoin futures ETFs can only mimic bitcoin exposure up to 85% of their net asset value (NAV). The remaining 15% must be âsaferâ instruments like treasury bills or bonds to provide some kind of cushion.
Reason # 3: rot
As the settlement date of future contracts approaches, they should be carried over to the next period. This causes degradation as it results in transaction costs when closing and opening new positions.
On top of that, there are the actual fund charges, which in the case of BITO is an additional 0.95%. (The “contango” phenomenon refers to when longer-term contract prices are higher than shorter-term ones.)
If you own bitcoin directly, or even a spot ETF, you don’t have rot. You are just a long bitcoin and the only thing you really need to worry about is the actual price.
Reason # 4: Divergence
Goldbugs have been complaining for decades that paper futures do not reflect the underlying value of spot gold. We see this visibly messed up during episodes of high volatility like #silversqueeze earlier this year – when physical silver was trading at premiums north of 30% on the futures price.
We can see the opposite happening, such as when oil futures traded at a negative value for one day on April 20, 2020.
In this sense, trading futures ETFs is actually more about betting on the price of the futures contracts itself than on the underlying asset that the futures contracts represent. The spot price and the futures price are two different things that, for the most part, are somehow correlated. But not always. The times when they don’t are usually quite chaotic.
Read more: Contango Conmigo: Why a Bitcoin Futures ETF could be a bloody race – David Z. Morris
What to do instead
Here in Canada, that is not a problem. Bitcoin and ethereum ETFs have been around for quite some time now and there are a number of options to choose from.
In the United States, it can be trickier.
If so, here are two options: the Bitwise 10 Crypto Index Fund (BITW) and the Grayscale Trust Bitcoin Fund (GBTC). (Grayscale is a unit of Digital Currency Group, which also owns CoinDesk.)
Grayscale made no secret of his intention to convert to a spot ETF, and with those approved futures ETFs, they’ve already completed the paperwork to do so.
The Bitwise fund is primarily allocated to the two major cryptocurrencies by market cap, with 63% in bitcoin and 26% in ethereum. The remaining 10% is distributed among other layer 1 cryptos like cardano, litecoin, polygon and cosmos.
Let bitcoin futures ETFs raise the profile of the space and open up the asset class to previously inaccessible investors like pension funds. But for our purposes, these instruments are for other people.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.