What Is Bitcoin Exchange-Traded Fund (ETF)?

| Updated
by John Caroline · 9 min read
What Is Bitcoin Exchange-Traded Fund (ETF)?
Photo: Shutterstock

In this guide, we are going to explore the ins and outs of Bitcoin ETFs in tandem with the reasons why they are a viable choice for investment.

Bitcoin Exchange-traded fund (ETF) as an investment option is widely discussed. Though they are said to bring a lot of benefits for investors, the regulatory bodies still have a lot of doubts about them. We believe that after reading this guide, you will be able to decide for yourself whether or not the regulatory authorities should approve Bitcoin (BTC) as well as other cryptocurrencies ETFs.

Understanding of a Bitcoin ETF

A vivid understanding of what a Bitcoin exchange-traded fund is all about will give a good insight into how it works and how investors can utilize it for more benefits.

First, let’s talk about exchange-traded funds (ETF) itself. Exchange-traded funds (ETFs) are funds basically used for the purpose of investment which imitates the price of an underlying asset or index. Traditionally, ETFs are classified by the United States Securities and Exchange Commission (SEC) as securities, and they monitor the movements of particular security which could be commodities, fiat currency or particular company stock. They can carry this out without the investor buying or owning that security.

They are very useful for palliating risks while still allowing adequate or real-time exposure in live markets, and have been long recognized as important tools for new and wary investors. In other words, these investment funds track down the value of commodities and assets of different sorts and act as a replacement for them for simpler investment processes.

Meanwhile, Bitcoin exchange-traded fund is an exchange-traded fund that tracks the price of the leading cryptocurrency, Bitcoin, and mimics it for investment’s sake.

The Bitcoin exchange-traded fund allows people to easily venture into its underlying cryptocurrency being Bitcoin, without having to go through the defaulted complicated processes required for investing in BTC itself.

Since the Bitcoin ETF tracks the price of Bitcoin and mimics it, the price of the bitcoin ETF fluctuates in the same way and level as that of Bitcoin. As such, the value of a share of the BTC exchange-traded fund would fluctuate with the price of BTC within the same period of time.

Investing in a Bitcoin ETF means an indirect investment in Bitcoin. The holders of the ETF are indirectly investing in bitcoin through its ETF, hence, the ETF relieves them of the stress of the complexities that comes with directly investing in Bitcoin. Investors have no reason to worry about the complex storage and security procedures cryptocurrency investors are expected to experience during the course of investment.

Moreso, Exchange Traded Funds, including the Bitcoin ETF, do not trade on cryptocurrency exchanges. Instead, they trade on market exchanges like the New York Stock Exchange (NYSE) or Toronto Stock Exchange (TSX).

How Does a Bitcoin ETF Work?

Cryptocurrency is an extremely volatile and unstable market and has rather high entrance barriers for new investors. Thanks to the ETF option, traders won’t directly invest in Bitcoin itself and they don’t have to bother with complex storage and security measures expected by default. Bitcoin ETFs will add layers of insulation and protection since the investors’ funds will be tied to the price and not to the cryptocurrency itself.

Another feature that makes the Bitcoin ETF worth attention is the fact that there is no minimum investment. Most exchanges demand a certain minimum buy to cover their fees when a user is buying or selling Bitcoin. Since ETFs do not mean ownership of the underlying asset, this discomfort can be bypassed.

If you’re looking for a tool to help you manage risks while still being as purely volatile as possible, then Bitcoin ETFs can be considered the way to go.

Why Not Just Invest in Bitcoin?

Sometimes, people are asking: “If Bitcoin ETFs mimic the price of the cryptocurrency itself, why not just invest directly in Bitcoin?” Well, there are several reasons for this.

Firstly, as mentioned above, in the case of ETFs, investors seldom have to bother about the security procedures associated with investing in Bitcoin or another cryptocurrency directly. Also, there is no need to deal with cryptocurrency exchanges directly, investors can trade ETFs through traditional exchanges and markets.

Secondly, a very important benefit of trading Bitcoin ETFs rather than Bitcoin itself is that being an investment vehicle, ETF provides investors with an option of short-selling Bitcoin if they believe that the price of Bitcoin might decline. This cannot be done in the traditional cryptocurrency market.

One more point that is worth being mentioned is the numerous advantages that ETFs provide traders with, including minimal trading fees, immediately reinvested dividends, limited capital gains tax, lower discount or premium in price, adequate diversification, an easily understandable interface, and a host of other advantages. Investors looking to get involved with digital currency with little time to learn every detail can easily navigate ETFs.

These are the main reasons why ETFs are getting increasingly adopted globally.

The Road to Bitcoin ETF Approval

The existence of Bitcoin ETFs was immensely challenged for so many years, as they have received several backlashes and have been restricted by regulators since the idea popped out for approval.

Potential institutional investors and retail investors that have been looking to launch bitcoin ETFs have been challenged severally by the regulatory agencies.

An example of such endeavor was that of Cameron and Tyler Winklevoss whose petition to launch a Bitcoin ETF was denied by the SEC in 2017. The reason for the denial was the fact that Bitcoin was traded on exchanges that were highly unregulated thereby rendering it very open to fraud and manipulation. However, in June of 2018, their unrelenting efforts caused them to secure a patent from the U.S. Patent and Trademark Office for a firm called Winklevoss IP LLP, 2018.

Just like the Winklevosses, other reputable firms like the Cboe Global Markets (CBOE), and the VanEck and SolidX had also made efforts to launch their bitcoin ETFs but was all denied by the regulatory agencies. These firms decided to make efforts to provide alternatives that would remediate the risk challenges hindering approvals from the SEC. They sought to build insurance components that would help protect the interest shareholders against the operational risks of sourcing and holding Bitcoin.

However, after all the abortive efforts so far on the launch of the Bitcoin ETF, it is interesting to know that the very first BTC-related ETF began trading on October 19, 2021.

This date saw ProShares Bitcoin Strategy ETF making its way to become the first successful bitcoin ETF to enter the market. The fund trades under the ticker BITO and commenced tracking Bitcoin (BTC/USD) prices through futures contracts traded at the Chicago Mercantile Exchange (CME).

The successfully launched ProShares’ ETF was designed to function a little differently from the previously proposed bitcoin ETFs. The fund revealed that its value will not be directly tied to the spot price of Bitcoin and instead, it tracks the future price of bitcoin.

As such, the returns from funds like BITO based on BTC futures contracts can be much different from Bitcoin’s spot price.

Advantages of Investing in Bitcoin ETF

The benefits of investing in Bitcoin ETF are numerous.

  • Simplified investment process. There is so much convenience with investing in a Bitcoin ETF as it provides leverage to the price of bitcoin. This way, investors do not need to learn about how Bitcoin works, nor do they need to sign up for a cryptocurrency exchange, which tackles the challenges associated with owning BTC directly. Bitcoin holders can easily lose their funds if they lose the password to their wallet addresses and may never be able to recover the funds again. A Bitcoin ETF simplifies the process of investing in BTC a great deal.
  • Accommodation of more assets to aid diversification. It is expedient that investors learn to diversify their assets as putting all eggs in one basket is undoubtedly riskier than having them diversified. Interestingly, the Bitcoin ETF aids the process of diversification as it is capable of accommodating more than one asset. A Bitcoin ETF could accommodate Bitcoin, Apple Inc. (NYSE: AAPL) stocks, and lots more. This feature will allow investors to easily diversify their portfolios.

Disadvantages of Bitcoin ETF

On the other hand, there are several risks to consider.

  • No benefits of decentralization. Amongst the core benefits of Bitcoin is independence from centralized authorities and acting as a hedge against central banks, fiat currencies, and equities. This way, the asset is able to curtail the risks associated with the financial system. The benefits of a decentralized system also enable the asset to protect its users and investors by providing privacy through the bitcoin blockchain. Unfortunately, the Bitcoin ETF is designed to be regulated by the government. As such, the mentioned benefits of decentralization are not enjoyable with the Bitcoin ETF.
  • High management cost. The simplicity and convenience of exchange-traded funds involve charges like the management fees. Hence, investors who hold massive quantities of shares in a bitcoin ETF are liable to pay high management fees on their assets.
  • Inaccuracy in price tracking. There are tendencies that the Bitcoin ETF might not be able to exactly track and reflect the price of Bitcoin on some occasions. Since ETFs accommodate more assets, it may become inefficient while trying to track all underlying assets in a user’s portfolio. As such, a 30% increase or decrease in the price of Bitcoin may not be accurately reflected in the value of the ETF.

Conclusion

Even though the SEC has so far refused to approve any cryptocurrency ETF, enthusiasts are optimistic that one would be approved soon. An insider at the Commodities Futures Trading Commission (CFTC) has said that there is a 90% chance of a Bitcoin ETF getting approved this year. A reason this might be possible is that the crypto markets have become a bit more moderated and regulators have observed the drama surrounding the Bitcoin futures across several exchanges around the globe.

The SEC has created a commentary forum relating to the Bitcoin exchange-traded fund for the public to solicit opinions on the product. A lot of commenters including cryptocurrency enthusiasts and traditional investors have expressed quite optimistic opinions about the new product, which has proved that a Bitcoin ETF launch is likely to have early success. Successively, a Bitcoin ETF launch would result in drastic gains for Bitcoin and, as other altcoins are connected to the performance of Bitcoin, it would mean gains across the entire cryptocurrency space.

Share:

FAQ

What is a Bitcoin ETF?

Bitcoin ETF is an exchange-traded fund that tracks the price of the leading cryptocurrency, Bitcoin, and mimics it for investment’s sake.

How does Bitcoin ETF work?

The Bitcoin ETF allows people to easily venture into its underlying cryptocurrency being Bitcoin, without having to go through the defaulted complicated processes required for investing in Bitcoin itself.

Is Bitcoin ETF better for investing than Bitcoin itself?

Investing in Bitcoin ETF has some advantages over investing in Bitcoin itself especially in the regard of the convenience it provides for investors to indirectly invest in Bitcoin. Meanwhile, investing in Bitcoin as well as some advantages over the Bitcoin ETF.

What are the advantages of the Bitcoin ETF?

  • There is so much convenience with investing in a Bitcoin ETF as it provides leverage to the price of bitcoin. This way, investors do not need to learn about how Bitcoin works, nor do they need to sign up for a cryptocurrency exchange, which tackles the challenges associated with owning BTC directly. Bitcoin holders can easily lose their funds if they lose the password to their wallet addresses and may never be able to recover the funds again. A Bitcoin ETF simplifies the process of investing in BTC a great deal. Besides, it is expedient that investors learn to diversify their assets as putting all eggs in one basket is undoubtedly riskier than having them diversified. Interestingly, the Bitcoin ETF aids the process of diversification as it is capable of accommodating more than one asset. A Bitcoin ETF could accommodate Bitcoin, Apple Inc. (NYSE: AAPL) stocks, and lots more. This feature will allow investors to easily diversify their portfolios.

What are the disadvantages of a Bitcoin ETF?

Bitcoin ETF defaults in some ways which include inaccuracy in price tracking, high management cost, and no benefits of decentralization.

guides
What Is Santa Claus Rally? December 31st, 2021

A common explanation behind this phenomenon is investors' tendencies to sell stocks prior to year-end so they can claim capital lo...

What Is Squeeze and How Does It Work? December 30th, 2021

The term "squeeze" refers to stock price rising in response to short-sellers betting against the stock. It can also refer to spa s...

What Is Crypto Tourism? December 19th, 2021

Amongst the diverse activities and engagements that cryptocurrencies are being introduced to is crypto tourism. Here is a guide to...