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Bitcoin ETFs guide
Learn everything you need to know about Bitcoin ETFs (exchange-traded funds).
Exchange-traded funds (ETFs) have been a popular investment vehicle for nearly 3 decades. They are traded on traditional stock exchanges and track the value of a specific asset, index or group of commodities.
This investment method gives people exposure to certain industries without having to hold the actual asset. ETFs can be particularly appealing for those looking to invest in Bitcoin, as some investors are still wary of cryptocurrency exchanges and e-wallets.
The US Securities and Exchange Commission (SEC) is in charge of regulating and approving ETFs for trade on the American stock market. As Bitcoin rose in popularity throughout the 2010s, the SEC and other government agencies repeatedly rejected applications for crypto-based ETFs.
However, after half a decade of lobbying, the SEC approved the first-ever publicly traded Bitcoin ETF in October 2021 – ProShares' Bitcoin Strategy ETF. Other Bitcoin-related ETFs quickly followed, giving investors exposure to Bitcoin through traditional stock exchanges for the first time.
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What is a Bitcoin ETF?
An ETF is a type of investment that can be traded on the stock market much like shares from any other company. They are often composed of a "basket" of different assets that tracks the performance of an underlying index (such as the S&P 500) or a single asset (like Bitcoin). This allows investors to easily diversify into different sectors, like cryptocurrency, while continuing to trade on a traditional stock exchange.
Bitcoin's moniker of "digital gold" is very apt when looking at Bitcoin ETFs. Gold ETFs are designed to give investors access to the asset without having to actually buy, store and secure the metal. The same premise applies to Bitcoin ETFs – potential investors no longer need to worry about complicated digital wallets, seed phrases and gas fees if they want to buy Bitcoin.
Some beginner investors may also be anxious about holding Bitcoin at all. Risks of hacking have decreased substantially since BTC's early days, but the security of a government-regulated alternative may be comforting for newcomers.
Bitcoin ETFs are designed for those that are unable (or unwilling) to purchase the actual coins even though it is much more efficient to purchase Bitcoin directly than to use an ETF. This is because of the associated fees.
Fund managers typically charge an annual fee, which can vary from a flat rate to a percentage of your investment value. This is on top of a brokerage fee, which is generally higher on the stock exchange than Bitcoin brokerage platforms.
Investors familiar with the framework of traditional stock markets but not ready to make the leap into cryptocurrency exchanges are the primary market for Bitcoin ETFs.
How do Bitcoin ETFs work?
The most standard form of Bitcoin ETF is based on the actual underlying asset. These are known as physically-backed ETFs. The term "physical" is used to describe the ownership of actual Bitcoin coins, rather than derivatives products or assets related to Bitcoin.
In this instance, the fund administrators will buy and store BTC, which forms the bulk (or all) of the fund. The value of each individual share will depend on the number of BTC owned by the fund as well as any management fees.
The other form of Bitcoin ETF is a little different. These ETFs are known as futures-backed ETFs. These funds aren't based on the value of Bitcoin, but rather on "futures contracts". A futures contract gives investors the option to buy or sell Bitcoin on a specific date, for a specific price.
These contracts essentially allow traders to bet on whether the price of Bitcoin will fall ("going short") or rise ("going long") over an agreed-upon period of time. This lets both bearish and bullish investors participate in the market.
Though futures-backed ETFs are a little more complex than physically-backed ETFs, they still represent a more accessible vehicle for Bitcoin investment in the United States, due to their listing on major exchanges such as NASDAQ and the New York Stock Exchange. That said, those that wish to track the actual price of Bitcoin should ensure to invest in a physically-backed ETF, although these are generally restricted to accredited investors.
Examples of Bitcoin ETFs
ProShares' BITO ETF was the first-ever Bitcoin-based fund approved for trading by the US Securities and Exchange Commission. It was launched on Tuesday, 19 October 2021.
BITO is a futures-backed ETF, meaning the fund doesn't actually own any BTC. Instead, it purchases futures contracts and earns money based on Bitcoin's price swings. Therefore, BITO will not completely follow the price of Bitcoin, though it will still be susceptible to wild fluctuations in its value.
ProShares is based in the US and BITO stocks can be purchased via the New York Stock Exchange with a management fee of 0.95%.
BITO's launch was extremely successful, becoming the fastest ETF to reach over US$1 billion in managed assets.
Valkyrie's Bitcoin Strategy ETF was the second cab off the rank in receiving SEC approval. The fund started publicly trading on Friday, 22 October 2021.
BTF is another futures-backed ETF and does not directly track the price of Bitcoin. Instead, BTF follows Bitcoin's price fluctuations via futures contracts.
BTF is comprised of Bitcoin futures contracts, cash and cash-like equivalents. The holding of cash (or other relatively stable assets) in this fund is to allow for the purchasing of contracts as well as associated maintenance fees.
The fund is actively managed, with the goal of providing exposure to Bitcoin "as close to" 100% of the time as possible. It charges a 0.95% management fee.
Valkyrie has plans in place to release a physically-backed Bitcoin ETF in 2022. The management team is based in the USA, and BTF units are sold on the NASDAQ.
VanEck's Bitcoin Strategy ETF was launched on 16 November 2021, publicly trading on the Cboe BZX exchange.
Like other available Bitcoin ETFs on US stock exchanges, VanEck's XBTF is a futures-backed fund.
The advantage of XBTF over its competitors is the lower management fee – with VanEck only charging 0.65% for its services. In comparison, ProShares and Valkyrie charge 0.95% for their ETFs.
VanEck was founded and is based in New York.
How to invest in a Bitcoin ETF
ETFs are designed to be bought and sold like regular company stocks. This means they can be purchased via traditional securities exchanges, using your regular online brokerage account.
Prior to SEC approval, investing in Bitcoin ETFs was a laborious process inaccessible to most people. Now, these funds can be purchased the way you would any other stock.
You can sign up for an everyday trading account through a number of methods. Your regular financial institution (such as your bank) will likely have online trading accounts that can be easily accessed, although you will need access to US markets.
Pros and cons of investing in a Bitcoin ETF
- Greater diversity. Bitcoin is regarded as a hedge against inflation and has a low correlation with global markets, such as shares and commodities. This makes it a useful tool for diversifying your portfolio and mitigating risk.
- Accessibility. Despite being easier than ever, learning how to navigate cryptocurrency exchanges, set up a wallet, and store your Bitcoin can be a little intimidating for beginners. The ETF structure is a far simpler way for prospective investors to gain exposure to Bitcoin.
- Avoid hacking and loss risks. ETFs are regulated and at much lesser risk of theft than Bitcoin exchanges. Furthermore, not owning and storing Bitcoin takes away the issue of password loss. If you lose your password to a trading account, chances are you will be able to recover this account. If you choose to move your Bitcoin to a private wallet and lose access, your assets are likely gone forever. Fortunately, most exchanges will keep custody of your Bitcoin on your behalf.
- Higher fees. While ETFs typically incur lower management fees than other types of funds (like trust or mutual funds), it is still much less efficient to invest in a Bitcoin ETF than to buy the coins directly.
- Lack of competition. There are still very few Bitcoin ETFs available on the market. All of the SEC-approved funds are backed by futures contracts, not actual Bitcoin. This restriction of choice may be off-putting to investors looking for specific opportunities.
- Exposure to risks of Bitcoin. Even though an ETF is a "safer" and simpler investment than buying Bitcoin directly, ETF holders are just as susceptible to price volatility. ETF brokers and trading accounts can also be hacked or exploited.
- No benefits. Those that decide to purchase a Bitcoin ETF miss out on the benefits of buying Bitcoin directly. Such benefits include earning interest by lending out your coins, spending Bitcoin like regular currency and trading for other cryptocurrencies.
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