Despite filings from many reputable companies, including Bitwise Asset Management and the Winklevoss twins (who run the U.S. cryptocurrency exchange Gemini), the Bitcoin market is yet to see an exchange-traded fund (ETF).
In the past year, however, the lack of a Bitcoin ETF has not stopped institutions from investing in the cryptocurrency market.
According to Grayscale’s Q1 2020 report, over the last three months institutional investors have allocated more than $389 million into the Grayscale Bitcoin Trust (GBTC), a publicly tradable investment vehicle that allows institutions to invest in Bitcoin.
“88% of inflows this quarter came from institutional investors, the overwhelming majority of which were hedge funds. The mandate and strategic focus of these funds is broadly mixed and includes Multi-Strat, Global Macro, Arbitrage, Long/Short Equity, Event Driven, and Crypto-focused funds,” the report read.
With or without ETFs, institutional investors have increasingly invested in cryptocurrencies like Bitcoin over the past 12 months. But because there are no ETFs, institutions often have to pay high premiums to purchase crypto assets.
Premium rates for institutional investors can emerge because of the lack of infrastructure for institutions to invest in cryptocurrencies in the public market. Grayscale’s Bitcoin Trust, for instance, is a publicly tradable investment vehicle in OTCMarkets in the U.S., which allows institutions to trade Bitcoin in the same way a stock is traded. But because the market is overloading on Grayscale’s products and there is an absence of alternatives like ETFs, Grayscale’s Bitcoin Trust and Ethereum Trust have consistently seen high premiums.
While it depends on the design of every ETF, some ETF proposals submitted in the past two years would drop premiums to a large extent as they provide standardized pricing of crypto assets by using prices from both the retail spot and institutional markets through an index of prices from exchanges and platforms all over the world.
As LongHash reported last month, Grayscale Bitcoin Trust showed that institutional investors were trading BTC with a premium of around 30%. When BTC was valued at $10,000 in the retail market, institutions were investing in the asest with a valuation of over $13,000.
The absence of standardized pricing creates an even larger discrepancy between retail and institutional prices for crypto assets with lower liquidity than Bitcoin, like Ethereum.
Blocktown Capital managing partner Joseph Todaro said that the cost to purchase the equivalent of one ETH through Grayscale Ethereum Trust shares was $900 on April 16. That is a 430% premium on top of the spot price.
In cryptocurrency trading, a spot market refers to the retail market in which investors buy and sell cryptocurrencies with no borrowed capital or leverage. Coinbase, as an example, allows individual investors based in the U.S. to buy and sell Bitcoin with USD. On Coinbase, Ethereum traded at around $170 on April 16, yet institutions were buying Ethereum with a $730 mark up.
Previously, the Securities and Exchange Commission (SEC) denied many ETFs due to its concerns that it is difficult to find the fair value of Bitcoin. It said that the price of Bitcoin was potentially subject to manipulation and the presence of unregulated overseas markets remained a threat to proper pricing.
In March 2017 Coin Center executive director Jerry Brito commented on the rejection of the first Bitcoin ETF proposal:
“The Winklevoss ETF proposal was rejected because the SEC found that the significant markets for Bitcoin tend to be unregulated overseas markets that are potentially subject to price manipulation. But this creates a chicken and egg problem. How do we develop well-capitalized and regulated markets in the U.S. and Europe if financial innovators aren’t allowed to bring products to market that grow domestic demand for digital currencies like Bitcoin?”
The high markups and extreme premiums paid by institutions to invest in cryptocurrencies could also be prevented with a strong ETF infrastructure. A similar point was raised by SEC commissioner Hester Peirce earlier this year, when she said that permitting institutions and regulated exchanges in the cryptocurrency market would lead to robust protection for all investors.
In a statement of dissent submitted to the SEC regarding the denial of a Bitcoin ETF proposal (The Winklevoss Bitcoin Trust on the Bats BZX Exchange), commissioner Peirce said in February 2020:
“Permitting institutional investors and regulated exchanges to enter this market would lead to more robust protections for retail investors (who, to be clear, are already active in the underlying spot market), to better custody solutions for Bitcoin, and to more effective surveillance for market manipulation and other fraudulent activity.”
The thriving institutional activity in the cryptocurrency market this year and throughout the latter half of 2019 has suggested that accredited and institutional investors are continuously investing in cryptocurrencies in spite of the absence of Bitcoin ETFs. The significant premiums that these institutions pay because of the lack of strictly regulated alternative investment vehicles remain a strong argument for Bitcoin ETFs.