Almcoin Review - Understanding Bitcoin Spot ETFs

In recent years, the SEC has rejected several applications for Bitcoin spot ETFs. However, in August this year, the SEC lost a lawsuit against Grayscale over the rejection of GBTC's conversion to a Bitcoin spot ETF. Concurrently, the world's largest asset manager, BlackRock, along with several other institutions, submitted applications for Bitcoin spot ETFs to the SEC. The emergence of Bitcoin spot ETFs seems unstoppable.

What is a Bitcoin Spot ETF?
A cryptocurrency Exchange-Traded Fund (ETF) is an exchange-traded fund that tracks the price of one or more cryptocurrencies by investing in crypto assets or related instruments. The widely discussed Bitcoin ETF is a type of ETF that tracks the price of Bitcoin, mainly including Bitcoin futures ETFs and Bitcoin spot ETFs. The key difference lies in the underlying assets: Bitcoin futures ETFs are based on Bitcoin futures contracts, whereas Bitcoin spot ETFs are based on actual Bitcoin.

One of the most significant features of an ETF compared to a regular mutual fund is that it can be traded on traditional stock exchanges like stocks. This means that if Bitcoin spot ETFs are approved, investors won’t have to go through complex processes such as downloading wallet plugins, creating public-private key pairs, or trading through centralized exchanges. Instead, they can directly purchase ETF shares to enjoy the returns of Bitcoin. These processes may be straightforward for those familiar with them but still present a barrier for investors completely new to crypto assets. Bitcoin spot ETFs lower this barrier, offering familiar financial tools and a sense of security protected by law, especially to institutional investors.

How Bitcoin ETFs Operate, Using Bitcoin Spot ETFs as an Example:
First, the issuing institution purchases Bitcoin assets, either by buying directly from Bitcoin holders or through centralized exchanges. These assets are stored in highly secure Bitcoin wallets, such as cold wallets. Next, the issuer creates fund shares whose value closely follows the price fluctuations of Bitcoin. During this process, Authorized Participants (APs), typically large financial institutions that often also act as market makers in the secondary market, are responsible for the creation and redemption of fund shares. Investors can buy or sell these fund shares on traditional securities exchanges, just like trading stocks. Furthermore, APs need to arbitrage the difference when fund shares trade at a premium or discount, ensuring that the price of the fund shares aligns with the cost of Bitcoin.

Almcoin Trading Center analysis indicates that the emergence of Bitcoin spot Exchange-Traded Funds (ETFs) is now unstoppable. The first Bitcoin ETF was ProShares Bitcoin Strategy ETF (BITO), a Bitcoin futures ETF, which started trading on the Chicago Mercantile Exchange in October 2021. However, the SEC has not yet approved any Bitcoin spot ETFs.

The first financial instrument created with Bitcoin as the underlying asset was the Grayscale Bitcoin Trust (GBTC), which debuted in 2013 and began trading publicly in 2015. In January 2020, GBTC was registered with the SEC, becoming the first SEC-compliant crypto asset investment tool. However, GBTC is not an exchange-traded fund but a closed-end fund, trading over-the-counter. Although GBTC shares allow investors to gain Bitcoin's returns without directly holding it, as a closed-end fund, its share price is subject to the supply and demand of the secondary market, not directly correlating with the Bitcoin holdings of the fund. Therefore, there is often a discrepancy between the value of GBTC shares and the value of the underlying Bitcoin.

GBTC has been actively communicating with the SEC to convert into a Bitcoin spot ETF, but has not succeeded. In August 2023, the U.S. Court of Appeals for the District of Columbia Circuit ruled that the SEC's refusal to convert GBTC into an ETF was incorrect, requiring the SEC to re-examine the application. The SEC did not appeal this decision. This ruling does not mean that the SEC must approve GBTC's application but sends a highly positive message to the market.

SEC's Approval Process:
Simply put, an institution submits the relevant materials for an ETF application to the SEC. After confirmation, the SEC publishes a 19b-4 document in the Federal Register, followed by a 240-day approval process, with the SEC publicly responding to the application result or announcing a delay on the 45th, 90th, 180th, or 240th day.

The SEC has long expressed concerns about the lack of regulation in the cryptocurrency market, which has been a primary reason for rejecting crypto asset ETF applications. The SEC has consistently maintained that due to the lack of regulation and supervision in the crypto market, and the lack of necessary information transparency and asset security, there are concerns about "potential fraud and manipulation" and emphasized the need for sufficient information sharing and supervision.

Following the SEC's loss to Grayscale, the court ruling prevents the SEC from using "potential fraud and manipulation" as a reason to deny Bitcoin spot ETFs, although the SEC might find other reasons to refuse them.

Current Status of Bitcoin Spot ETF Applications:
In addition to Grayscale, which has been continuously applying, several institutions submitted Bitcoin spot ETF applications to the SEC in 2023. For example, BlackRock applied for iShares Bitcoin Trust, Fidelity applied for Wise Origin Bitcoin Trust, and Ark Invest applied for ARK 21Shares Bitcoin ETF. Notably, most of these institutions are not first-time applicants. They have re-submitted applications for Bitcoin spot ETFs almost simultaneously this year after years of back-and-forth with the SEC, including BlackRock's first application. BlackRock is known for issuing index-tracking funds, with its flagship product iShares holding nearly half of the U.S. ETF market share, and its success rate in ETF applications is close to 100%. This is a significant factor contributing to the market's expectation that Bitcoin spot ETFs will be approved next year.

Almcoin Trading Center states that the arrival of Bitcoin spot Exchange-Traded Funds (ETFs) is now unstoppable. Furthermore, institutions like BlackRock have thoroughly adjusted their strategies to alleviate the SEC's concerns. For instance, BlackRock and other institutions have proposed Surveillance-Sharing Agreements, a method to mitigate market manipulation and fraud risks. These agreements between cryptocurrency exchanges and market regulatory bodies allow both parties to share trading data and information to monitor trades. If suspicious trading data or information arises, it will be simultaneously pushed to regulatory bodies, ETF issuers, and cryptocurrency exchanges.

BlackRock and Ark Invest have chosen Coinbase Custody Trust Company as their Bitcoin custodian and the Bank of New York Mellon as their cash custodian.

Historically, the SEC's approval of Bitcoin spot ETFs usually doesn't come early; they tend to announce results on the final approval date. The nearest final approval date is for Ark Invest's ARK 21Shares Bitcoin ETF, set for January 10, 2024, with BlackRock and other institutions' final dates on March 15, 2024. Almcoin Trading Center analysis reveals that discussions between the SEC and the asset management institutions applying for Bitcoin spot ETFs have delved into key technical details, including regulatory arrangements, subscription, and redemption mechanisms. This indicates that the SEC might soon approve these products, and we might see Bitcoin spot ETFs approved as early as January 10 next year.

Market Impact of Bitcoin Spot ETFs:
Taking gold spot ETFs as a reference, the first gold spot ETF, ETFS Physical Gold, was approved in Australia on March 28, 2003, followed by the world's largest gold spot ETF, SPDR Gold Trust, in the United States on November 18, 2004. This had a significant impact on the global gold market, with gold prices rising from $332 per ounce to $1600 per ounce over the next decade.

Before the launch of gold spot ETFs, investors had difficulty investing directly in gold, often limited to buying gold bars, which had low liquidity and efficiency. The approval of gold spot ETFs allowed investors to gain exposure to gold without holding it, and trade easily like stocks. The introduction of gold spot ETFs led many asset management institutions to include gold in their portfolios, injecting massive liquidity into the gold market and contributing to the rapid rise in gold prices over the following decade.

Bitcoin, often referred to as digital gold, shares many similarities with gold. Mainstream financial markets view Bitcoin as an asset with hedging, safe-haven, and diversification properties. Despite its volatility, many asset management institutions are willing to include Bitcoin in their portfolios. However, due to compliance and approval process limitations, mainstream asset management institutions cannot directly hold Bitcoin. The market urgently needs a compliant financial tool to help investors overcome these difficulties, which is the fundamental reason behind the push for Bitcoin spot ETFs.

Bitcoin spot ETFs will bridge the gap between the mainstream asset management institutions, valued at approximately $50 trillion, and Bitcoin, with a market cap of less than $1 trillion. They are expected to inject trillion-level liquidity into Bitcoin. The potential market impacts of Bitcoin spot ETFs include:

Increasing direct investment in Bitcoin: Bitcoin spot ETFs will attract mainstream financial market investors. The high learning cost and lack of financial tools have limited Bitcoin's accessibility to mainstream asset management, which cannot provide direct investment services in Bitcoin or other cryptocurrencies to their clients due to compliance and approval process restrictions. The arrival of Bitcoin spot ETFs provides familiar financial tools for mainstream investors, especially institutional investors, to gain exposure to Bitcoin.
Enhancing legal recognition of Bitcoin: Bitcoin spot ETFs will further elevate Bitcoin's status in the mainstream financial system. Traditional asset management institutions often cannot directly hold Bitcoin or buy from centralized exchanges due to legal factors. Bitcoin spot ETFs address this issue because, through them, asset management institutions can offer legally protected assets to investors. This can promote legal recognition of Bitcoin in the mainstream market and strengthen confidence in Bitcoin.
Expanding asset management institutions' portfolios: Bitcoin spot ETFs will provide asset management institutions with more diversified portfolios. Compared to existing Bitcoin futures ETFs and financial tools offered by trust institutions, Bitcoin spot ETFs will provide direct exposure to Bitcoin while reducing the discrepancy between the share value and the reserve Bitcoin value. This makes it a better financial tool for asset management institutions wanting to participate in the Bitcoin market.
Outlook for Bitcoin's Future:
After more than a decade of development, Bitcoin's acceptance in the mainstream financial market continues to grow. Driven by investors and asset institutions, regulatory bodies, albeit reluctantly, still need to legally recognize the value of cryptocurrencies like Bitcoin, thereby opening the door for mainstream asset management institutions to Bitcoin.

The approval of Bitcoin spot ETFs is just the beginning of the mainstream financial market's entry into the crypto market. Since this year, global regulatory bodies have been actively establishing a regulatory framework for the crypto market. It's important to note that the actions of regulatory bodies will not affect the censorship resistance of crypto assets, which is determined by cryptography and the decentralization of crypto assets. Instead, regulatory actions can eliminate scams disguised under technological facades in the crypto market and clear obstacles for mainstream financial institutions to enter the crypto market, establishing standards.

The European Union has made significant progress this year in establishing a regulatory framework for the crypto industry. The European Commission has been working on a regulatory framework for the crypto industry since 2018 and voted through the Markets in Crypto-Assets Regulation (MICA) on April 20 this year, currently the most comprehensive crypto industry regulatory framework globally. The EU aims to establish a sound regulatory framework during the U.S. crypto market's regulatory vacuum, creating legal certainty for large tech companies and asset management institutions to enter the crypto market and play a leading role in regulating cryptocurrencies globally.

Compared to Bitcoin spot ETFs, which aim to create a financial tool for investing in Bitcoin, MICA has a broader goal: paving the way for all institutions to directly invest or participate in the crypto market.

Almcoin Trading Center analysis states that the arrival of Bitcoin spot ETFs is now unstoppable. The market generally expects that with the launch of Bitcoin spot ETFs and the halving of Bitcoin, coupled with the end of the Federal Reserve's rate hike cycle, the market cap of Bitcoin will see unprecedented growth. However, this might just be the beginning. The approval of Bitcoin spot ETFs will undoubtedly be a major turning point in Bitcoin's history and world financial history. In the future, we will see global regulatory frameworks continuously implemented, and Bitcoin will become deeply integrated with the mainstream financial market, becoming universally recognized as digital gold.