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Bitcoin emerged in 2009 as the world's first cryptocurrency and remains the one with the most market value. It was created as a way to enable people to exchange currency without having to go through a regulated intermediary, such as a bank. Transactions are conducted through digital marketplaces and are managed using blockchain technology.
Some investors find buying and selling Bitcoin through a digital exchange to be complicated and confusing. This is one of the reasons behind the development of Bitcoin exchange-traded funds. Through an ETF, investors can get exposure to Bitcoin without having to buy the actual cryptocurrency itself. So Bitcoin ETFs work like any other ETF — but instead of tracking the performance of an asset group, it tracks the price of Bitcoin.
Bitcoin proponents in the US have been trying to get regulatory approval for an ETF that tracks the price of the cryptocurrency since at least 2013. The idea is to create a fund that holds Bitcoin and allows investors to buy and sell it in essentially the same way they would stocks on the open market.
A Bitcoin ETF would work like other ETFs, which are traded on stock market exchanges and regulated by the Securities and Exchange Commission. But instead of being linked to a group of stocks or an index like the SP 500, which many ETFs are tied to, the value of the shares in a Bitcoin ETF would track the price of the cryptocurrency, which can be quite volatile.
As of early 2022, the SEC hadn't approved any ETFs tied to the spot price of Bitcoin. It only allowed ETFs that provide exposure through Bitcoin futures. That means these ETFs don't invest directly in Bitcoin but in contracts that speculate on how the price of Bitcoin will fare.
That's a structure commonly seen in ETFs that invest in other commodities including oil and gold. While some do hold the actual physical assets such as barrels of oil or bars of gold and track the daily spot prices, they more typically invest in futures contracts linked to them.
"A futures contract is an agreement between two traders that obligates a trader to buy or sell an asset at a specific time, quantity, and price," says James Wo, founder and CEO of Digital Finance Group. "Therefore a Bitcoin futures contract is an agreement on the future value of Bitcoin with the obligation to buy or sell the asset at a specific time, quantity, and price."
Bitcoin is considered a commodity in the US, which means any futures trading related to it has to take place on a regulated futures exchange, such as the Chicago Mercantile Exchange (CME). This provides some protection to investors because Bitcoin futures contracts are subject to the rules of the Investment Company Act of 1940 and are supervised by the Commodity Futures Trading Commission (CFTC).
As of late January 2022, there wereat least four Bitcoin ETFs available in the US:
All of these ETFs are tied to Bitcoin futures. Bitcoin ETFs tied to spot prices have been trading internationally for some time now. An ethereum-based ETF is available on the Toronto Stock Exchange. Though there have been many applications for SEC approval of spot Bitcoin ETFs, none have succeeded.
"One possible reason that an ETF tracking spot Bitcoin has yet to receive regulatory approval is the significant concern expressed by regulators, like the SEC and CFTC, about the lack of oversight of and transparency into cryptocurrency exchanges," says Anne Termine, head of the cryptocurrency practice at the Bracewell Law Firm and former chief trial attorney for the CFTC.
She says that regulators have ongoing concerns about the security of cryptocurrency exchanges and the possibility of market manipulation. She points out that the SEC chairmanhas specifically said these exchanges "lack sufficient customer protections, experience unwarranted volatility , and are subject to manipulation, wash trading, and other illicit activity."
Regulators have also questioned whether or not the market data provided by cryptocurrency exchanges is legitimate, including trading volume data, says Termine. "If the regulators have concerns about the exchanges as operating entities and do not trust their market data, then they will not be willing to approve a market product that relies on such data."
There are several advantages of choosing an ETF as a way to invest in Bitcoin.One of the biggest is that you can purchase shares through your established brokerage. You diversify the portfolio you are already growing and add in cryptocurrency exposure without having to open a new account or manage a separate investment. Everything is taken care of in one place.
Another benefit is that investing through a regulated exchange is easy to understand. To start buying Bitcoin directly, you have to learn a lot about how cryptocurrency and blockchain technology work. You have to establish a wallet that requires identity verification and safeguarding of the private keys that are generated.
Because an ETF is a traditional investment vehicle, the tax implications and guidance for how to handle gains and losses also are much clearer. Additionally, you can include an ETF in a tax-advantaged account, such as an IRA, and avoid having to pay capital gains taxes that may come with profiting on the value of actual Bitcoins. Plus, you don't have to manually track your gains and losses to figure out your tax responsibilities, like you would when trading actual Bitcoins.
Finally, there is more security in investing in an ETF. When you purchase a bitcoin, you have an asset you have to secure according to the rules and limitations of the technology. You don't have a physical coin to keep in a lock box. Rather, you have a virtual asset that has vulnerabilities.
"You can hold your bitcoin on the exchange, or you can move to cold storage," says Andrew Hambleton, an accredited wealth management advisor and financial life advisor with Telemus Capital. "If you keep the bitcoin on the exchange, you run the risk of the exchange getting hacked (which has happened before). If you move your assets to cold storage, then you run the risk of sending the bitcoin to the wrong address (the bitcoin will be gone forever) and you will have to pay fees to move the bitcoin."
Perhaps the biggest drawback of a Bitcoin ETF is that the fund is invested in the future of one asset. Most ETFs have a basket of securities that make up the value of the fund and are not likely to be hit as hard with fluctuations. Cryptocurrency is a highly volatile market. When you are invested in an ETF that only tracks one asset, the value of your fund can vary wildly if it closely tracks Bitcoin's spot value.
On the other hand, you are also not in a position to take advantage of that volatility as it happens. ETFs are only traded during market hours, while crypto exchanges trade 24/7. If there is a price shift during off-hours, you could miss out on the opportunity to profit from that movement.
With investing in ETFs come fees, particularly expense ratios and management fees associated with working through a brokerage. Though expense ratios for Bitcoin ETFs — and ETFs in general — are generally low, they will add up over time.
Because you're investing not in actual bitcoins but shares of the ETF, you don't benefit from being able to use Bitcoin as currency. You still have to deal in dollars and cents, having to sell your ETF shares to use your investment to fund purchases.
Investing in a Bitcoin ETF brings regulation into what is meant to be a decentralized, peer-to-peer financial system.
"Within the crypto community, having a Bitcoin ETF over the actual Bitcoin is an alternative that is not generally accepted due to the common idea of, `Not your keys, not your crypto,'" says Wo. "[This means] if the investor does not hold the private keys to their Bitcoin or cryptocurrency holdings, they are more susceptible to being harmed by hackers or even regulatory oversight."
Buying Bitcoin or other types of cryptocurrency directly gives you the most exposure to this market. You can do this by setting up accounts through an exchange, like Coinbase, Kraken, or Gemini.
"Alternatively, many fintech platforms are adding the ability to buy and sell cryptocurrency within their existing platforms, like PayPal, Robinhood, and SoFi," says Brad Gregory, senior portfolio manager, research analyst, and investment operations manager with Buckingham Advisors.
Gregory adds that there are several ETFs that have ancillary exposure to cryptocurrency. They don't "hold physical or derivatives of cryptocurrencies, but instead hold publicly traded cryptocurrency exchanges, cryptocurrency miners, and companies that hold cryptocurrencies on their balance sheets," he says. "There are [also] publicly traded trusts that directly invest in cryptocurrencies such as the Grayscale Bitcoin Trust (GBTC) and the Grayscale Ethereum Trust (ETH)."
Another option is to invest in public companies that are actively buying cryptocurrency or are investing in blockchain technology or crypto mining. Some examples include Coinbase Global (COIN), MicroStrategy (MSTR), Marathon Digital (MARA), and Hut 8 Mining (HUT). For a very indirect exposure, you can invest in sectors that participate in the cryptocurrency market on a smaller scale, such as PayPal, JP Morgan Chase, Microsoft, and Samsung.
Bitcoin ETFs can provide a balance between traditional investment vehicles and the evolving cryptocurrency market. Trading shares is easy and familiar, much like buying and selling stock through your preferred brokerage. But the future of this kind of investment is far from certain. With more applications for Bitcoin ETFs based on spot trades and as more futures-based ETFs are approved, the landscape could change very quickly. Before investing, be sure to fully understand the risks involved.
6 4 Associated CointreeAlex on 01/02/2022 - 14:07 cointree.com (142...Read More