Investing > Bitcoin ETFs Explained

Bitcoin ETFs Explained

The king of crypto is about to meet the queen of passive investing—and some say it could turn out to be a true match made in heaven.

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Updated April 27, 2021

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So—you understand how Bitcoin works, and you’ve probably already stacked some sats.

But what the heck is a Bitcoin ETF?

Well, surely you remember what happened to Bitcoin’s price action in late 2017. Bitcoin shocked the world by breaching $19,000—only to tumble to under $4,000 less than a year later.

But that was nearly half a lifetime ago—and now in 2021, we are looking at a betrothal of two investment titans. One is quite volatile (looking at you, BTC), and the other is a little different. To boot, the very first Bitcoin ETFs with a real chance of SEC approval are on the horizon—and we are holding our breath.

Here, we dive into all the goods: how a Bitcoin ETF works, what’s preventing SEC approval, Bitcoin ETF strengths and weaknesses over other types of assets (including Bitcoin itself), and how you could best invest in them.

Sound good? Let’s dive in. 🚀

What you’ll learn
  • What is a Bitcoin ETF?
  • ETF vs. Buying Bitcoin Directly
  • Tax Benefits
  • Downsides of a Bitcoin ETF
  • Bitcoin ETF Pros & Cons
  • Bitcoin ETFs in the USA
  • Bitcoin ETF Alternatives
  • Conclusion
  • Bitcoin ETF: FAQs
  • Get Started with a Broker

What is a Bitcoin ETF? 🔎

Bitcoin exchange-traded funds are rare and hard to find—and they don’t exist in the U.S. yet. The SEC has traditionally been reluctant to approve any such ETFs due to the unregulated nature of the crypto market. However, the crypto market has come a long way in moderating itself.

For example, itBit, though a relatively small crypto exchange, is considered highly regulated as it is registered as a bank, and is under the oversight of the New York Department of Financial Services (DFS).

Furthermore, seven other crypto exchanges operate as licensed Money Service Businesses (MSBs). These include Coinbase and OKCoin and have to register with the Financial Crimes Enforcement Network (FinCEN) in the US.

Additionally, other countries have already approved BTC ETFs. Canada’s Purpose Bitcoin ETF has accumulated more than $1 billion in assets just 2 months after launching—and Brazil has recently approved its very first BTC ETF.

So, what exactly is a Bitcoin ETF?

Essentially, a BTC ETF would work like any other ETF. Instead of owning the world’s most popular cryptocurrency directly, you can get an ETF that would track its value, as well as values of various other assets. This is an approach that has already proven very effective and efficient with other types of securities.

However, there may still be reasons why you would rather own Bitcoin directly.

Why Not Just Buy Bitcoin Directly? 💡

Owning Bitcoin—and crypto in general—has several very real advantages. Firstly, it is possible to trade bitcoin without middlemen, thus having greater control over this very dynamic asset. Trading BTC can be very lucrative if you catch the right opportunity—it’s a volatile asset and offers plenty of opportunities.

You only have to think of its incredible rise in the autumn of 2017, the subsequent fall in value, and the rising trend that followed. To recapitulate, Bitcoin reached more than $19,000 in late 2017, fell to less than $4,000 by mid-2018, and rose again afterward reaching more than $60,000 in April 2021.

While there certainly is a lot of volatility regarding this cryptocurrency, it is overall on a rising trend. These two factors combined make Bitcoin a good bet whether you are trying to make money quickly, or are looking to be a long-term investor.

volatile uptrend of Bitcoin
The volatile uptrend of Bitcoin that started in 2017. Image by TradingView.

While it is dubious if its popularity on the Dark Web can be worn as a badge of honor, it is certainly a testament to the anonymity Bitcoin can provide. This goes hand-in-hand with the fact that you can store bitcoin in a private digital wallet—or literally in your pocket on a special flash drive—safe from prying eyes.

While the stock market can appear downright arcane, figuring out how it works isn’t that hard. More than 200 years have passed since Wall Street was founded and in that time many rules and regulations have made it familiar and readable. There is a lot of precedent and a long history to learn from—as well as numerous tried-and-tested household names among the brokers and advisors to help you along the way. 

On the other hand, while learning to invest in Bitcoin can be very worthwhile, it is still a completely different, stranger beast, and a road less traveled for a good reason.

Accessibility 🏛

There is a learning curve to investing in crypto. The market is still in relative infancy and there are many hoops to jump through. On the other hand, ETFs have been around for a long time and the conventional stock market is rather user-friendly with an immense pick of good brokers to manage your portfolio.

ETFs in particular represent a user-friendly option. They are excellent for passive investing—in fact, they tend to be designed around it—and enable you to diversify your portfolio and get exposed to various more exotic securities with a single package.

This means that they stand in stark contrast to crypto. This ease of access has so far proven excellent for ETFs as they have been on a steep and steady rise since their inception three decades ago.

Potential Liquidity 🌊

Bitcoin is typically easier to sell off than most assets, but its ETF would likely be similar in that regard. A recent study has shown that about 78% of circulating supply of Bitcoin is illiquid—that means that investors are holding rather than actively trading it. Nonetheless, Bitcoin is still very easy to sell quickly at a reasonable price—as long as you are not using a crypto exchange with very low trading volume.

Similarly, a Bitcoin ETF would likely be picked up by various financial managers, institutions, robo-advisors—a lot of people in general. This would increase its trading volume and liquidity, making the Bitcoin ETF easy to sell in a pinch, just like raw BTC. 

Canada’s BTC ETF has already shown that this kind of offering would rouse a great deal of excitement. These factors and the fact that ETFs are traded on the conventional market—unlike BTC—make it almost certain that any popular Bitcoin ETF would have good liquidity.

The final nail in this strange, positive coffin is the fact that ETFs are generally considered natural risk-mitigators since they track numerous assets they aren’t particularly vulnerable to large fluctuations in the value of a particular security. This means that people who would otherwise be put off by Bitcoin’s volatility might consider a BTC ETF.

This is overall great news for everyone looking to make or save money trading but is especially useful for day-traders who rely heavily on their assets being liquid on a day-to-day basis.

Safety and Security of a Bitcoin ETF 🦺

There is a rather famous story of a British man who accidentally got rid of a hard drive containing over 7000 Bitcoin. He has since been going to extreme lengths trying to recover it, and has so far been unsuccessful. A cold-storage wallet like a hard-drive is prone to breakage and loss. 

A hot storage digital wallet can’t be lost or broken, but it can be broken into and the access to it can be lost—2020 alone had three major crypto hacks. Electronics can generally be rather fickle and capricious so you always have to keep your guard up when owning cryptocurrency.

On the other hand, a BTC ETF would be managed by a large company with a vast security and insurance infrastructure in place. This would have compounding effects with ETFs’ innate diversification of funds in making a Bitcoin ETF very resilient and safe enough to satisfy even the most cautious of investors.

Tax Benefits ✅

Everyone knows that the US Postal Service and the IRS are not to be trifled with. Bitcoin gains are taxable like any other capital gains, and trying to avoid paying them can be very risky.  ETFs come in handy once again as they offer several very real tax benefits.

Chief of these benefits is the ability to trade ETFs using an IRA or a Roth IRA—thus making your gains largely, or entirely non-taxable. Another strategy you could utilize with a BTC ETF is tax-loss harvesting. That is to say, by selling some of your assets at a loss, you could offset taxes on capital gains later down the line.

That being said, tax-loss harvesting is possible with cryptocurrencies but is a much bigger hassle. For one, the costs of holding crypto are far less streamlined than with ETFs. Additionally, since cryptocurrencies like Bitcoin can fluctuate in value so much so quickly, you might take a far larger loss than anticipated.

Additionally, figuring out how taxes on stocks work can be troublesome enough on its own. Therefore, if you’re a more casual investor, it will likely be a hassle to go through learning all the additional caveats to do tax-loss harvesting—and taxes in general—on cryptocurrencies. 

It is generally far better for your blood pressure and hairline longevity to keep things as simple as possible, especially when trying to make money quickly, and double-especially when dealing with potential high-earners like Bitcoin.

Downsides of a Bitcoin ETF ⚠️

When dealing with ETF downsides there is a list of usual suspects. While ETFs in general boast low expense ratios, actively-managed funds might still be rather pricey. This could be of particular concern when it comes to BTC ETFs as they might need more human oversight. This is because BTC value can rise or drop sharply—ETFs aren’t perfectly precise even when tracking more regular indexes.

ETFs tend to have good liquidity, but this isn’t always the case—the most popular ones do, while many don’t. ETF liquidity also tends to drop towards the end of its lifespan—the timing of which isn’t really under the control of an investor.

Additionally, while the diversification of assets an ETF provides is good protection against drops in the value of a particular stock, it also serves as “protection” against gains—to a certain extent. 

Since its inception, Bitcoin has had a rocky history—it was worth $1 in 2011, $19,000 at the end of 2017, around $4,000 in the spring of 2018. If that wasn’t enough, it peaked in mid-April of 2021 at $60,000, but dropped to around $50,000 in late April of the same year.

These immense fluctuations mean that other assets under management of an ETF wouldn’t really do that much to protect against huge BTC price drops—all the while stifling the earning from large price spikes. This issue would probably be compounded by the index tracking error some ETFs are prone to.

A downside particular to BTC ETFs is the lack of direct ownership of the cryptocurrency. Bitcoins are mutually tradable with other cryptos like Ethereum—which is something an ETF wouldn’t provide.

The Good and the Bad with Bitcoin ETFs 👍👎

Pros

  • Ease of access
  • Traded on the stock market
  • Better protection against fraud, hacking, and loss
  • Access to various assets in addition to BTC in a single package
  • Easier tax loss harvesting
  • Higher trading volume

Cons

  • No direct ownership of BTC
  • Index tracking errors
  • Creeping expense ratios
  • Less gains when prices rise and less-than-stellar protection if they drop
  • No ability to directly exchange for other cryptocurrencies
  • Lack of anonymity crypto otherwise provides

When is a Bitcoin ETF Coming to the US? 🇺🇸

Unfortunately, the best answer we can confidently give is soon, probably. While some analysts say that we might see the first BTC ETFs approved within a year or two, the SEC has so far proved very reluctant to approve any.

Some of the names among the failed attempts are Winkelvoss—the first ones to apply back in 2013. Another is Grayscale. They are the company who withdrew their application and listed their offering on the over-the-counter (OTC) market. Direxion and GraniteShares added their names in 2017 and both were rejected in 2018.

The most interesting proposal to date has been from Wilshire Phoenix which hoped that their fund composed from both Bitcoin and US Treasury securities would soften up the SEC. They were, however, also disappointed—their ETF was rejected in early 2020.

One of the chief reasons given is the unregulated nature of the cryptocurrency market which the SEC views as prone to manipulation. However, there is hope now more than ever—countries like Canada, Germany, and Brazil have all recently approved their own BTC ETFs.

Additionally, the conditions that an ETF must fulfill to be approved are clearly listed in the so-called ETF rule. This means that any company seeking to launch a BTC ETF doesn’t have to play the guessing game.

The cryptocurrency market has taken concrete steps to moderate itself and blockchain has proved itself rather reliable when tracking transactions. All these factors combined are likely to nudge the SEC in the direction of approval soon.

On the SEC side, there has been a change in leadership recently. In December 2020 SEC Chair Jay Clayton stepped down, and in January 2021 president Biden appointed Gery Gensler—former Chair of the Commodity Future Trading Commission.

Since then VanEck, Valkyrie, NYDIG, and Fidelity all filed their BTC ETFs for approval, and all are pending decisions from the SEC. 

Bitcoin ETF Alternatives 👇

At this point, if you want to invest in Bitcoin you have three main options—investing in BLOK ETF, Grayscale funds, or foreign BTC ETFs. Buying BTC directly is also an option, but let’s just take a brief look at the available funds.

Grayscale Funds 🏛

Grayscale has both a Bitcoin and an Ethereum fund, GBTC and ETCG respectively. GBTC started its life as an attempt to get a BTC ETF up and running but was withdrawn instead and listed on the OTC market. These funds are the closest you can get to invest in a crypto ETF within the US. Just as with exchange traded funds, you aren’t directly owning Bitcoin or Ethereum but are investing in a fund.

The drawback of this option is that the operational costs of these funds are greater than with just buying Bitcoin. On the flip side, you have greater security since the fund is responsible for the coins. 

BLOK ETF 📊

Amplify Transformational Data Sharing ETF (BLOK) is a fund that invests in companies that deal with blockchain and cryptocurrency development. It isn’t quite like owning Bitcoin or investing in a real BTC ETF, but you still benefit from the growth of companies that do benefit from crypto. It is also decently priced at an expense ratio of 0.71%. The fund was established in late 2018 but really took off in 2020 when it achieved a yearly growth of 114%.

Foreign Bitcoin ETFs 🌍

Major markets that have approved BTC ETFs include Canada, Germany, and, as of this year, Brazil. Generally, if these options are of any interest to you will depend on personal preference. 

However, when investing in foreign markets it is important to do your research beforehand. Various regions have various financial climates, and tax laws which might seriously harm your investments and bog you down in paperwork.

It is also noteworthy that Canadian Horizons ETF Holdings is launching an inverse BTC ETF which aims at making money off plunges in the value of cryptocurrency. Whether you will have access to these ETFs depends on your broker’s range of foreign investments.

Conclusion

While we can be reasonably certain that the SEC will at one point start approving Bitcoin ETFs it is hard to say exactly when. Still, the fact that other major countries have their own BTC ETFs means that the US is likely soon to follow. 

There is also another hidden force in the works here for the future. The fact is that both ETFs and Bitcoin are hugely popular—so popular that some people including Michael Burry believe ETFs may be creating a new market bubble.

When a BTC ETF is finally approved in the US, it might open the floodgates for all the as-of-yet reluctant investors. Although this could ultimately cause a bubble, it is hard to tell what its exact impact will be. Certainly, traders who are skilled at shorting stocks can benefit greatly if the bubble bursts. 

Also, it could launch cryptocurrencies completely into the mainstream—they are already viewed as digital gold—a haven from the mayhaps of regular markets and currencies.

Bitcoin ETF: FAQs

  • Can Bitcoin Crash?

    A Bitcoin crash is always possible, though it's typically dependent on a variety of factors, and most of them are external to Bitcoin. However, in general, yes—Bitcoin can crash. In fact, it has crashed beforenotably dropping from around $19,000 in late 2017 to under $4,000 in late 2018, and even lower to $3,000 in late 2019. Still, it has risen and reached $63,000 in mid-April 2021. 

    It is hard to tell if another crash like that will happen—and how long the price drop would last. Some experts are predicting a “crypto winter” without any significant rises for a long time, while others anticipate a quick recovery with prices going well over the contemporary ones.

  • Who Owns the Most Bitcoin?

    Satoshi Nakamoto, the creator of Bitcoin who is estimated to own around 1 billion bitcoins. However, this is a harder question to answer than you might think since nobody knows who Nakamoto is—or if this famous persona is actually a single person.

  • Will Bitcoin Rise if an ETF is Approved?

    Since a BTC ETF would effectively bring Bitcoin to Wall Street it would hugely increase its trading volume and interest. This would almost certainly cause a rise, at least in the short term.

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