Crypto ETPs are being submitted to and reviewed by financial regulators around the world. This trend demonstrates that the crypto asset markets are moving more and more out of an environment associated with fraud, insecurity, and little to no oversight towards mature, regulated and safe markets. There is an increasing amount of applications for financial products that de-risk the market, such as ETPs, as well as increasing exchanges between market players and regulators. While the same level of maturity that is seen in traditional financial markets has yet to characterise the crypto space, crypto assets are moving closer to being viewed as a safe investment opportunity.

What is an ETP?

Exchange-Traded Products (ETPs) are a broad range of securities-based products that are priced according to underlying assets. They can be traded on a national securities exchange provided that they meet the regulatory frameworks of the exchange jurisdiction in which it trades. One type of ETP, an Exchanged-Traded Fund (ETF) is similar to a stock and is traded like one. ETFs are typically attached to a commodity, an index, or a bond, and investors can buy shares of that commodity, index or bond. The possibility of cryptocurrency ETFs recently became a hot topic in the finance and crypto spheres as last week the Securities and Exchange Commission (SEC) of the United States was expected to give a ruling that could set precedential legislation to list the first ever cryptocurrency ETF on a regulated exchange.

The VanEck SolidX Bitcoin Trust Proposal

Crypto enthusiasts and stakeholders were let down when the SEC postponed the release of a final decision. While some believe an unfavourable ruling on the VanEck SolidX Bitcoin Trust proposal is inevitable, others see the postponement as a silver lining, indicating that the SEC is taking their time because this proposal for a bitcoin ETF might have greater potential to be approved than any other. Earlier this year, the Winklevoss brothers, founders of crypto exchange ‘Gemini Exchange’, unsuccessfully submitted two proposals for the first bitcoin ETF, which were denied due to significant investor protection issues.

The VanEck SolidX Bitcoin Trust proposal does not stand alone, as nine other applications still remain pending at the SEC. A core difference in the proposal submitted by partners VanEck Associates Corp., SolidXPartners Inc. and CBOE Global Markets Inc., separates it from the rest. It proposes ETFs to be based on actual bitcoins, which would be used to insure investors against thefts, hacks or losses. The distinction is important, as the bitcoin ETFs proposed by ProShares, GraniteShares and Direxion, proposed to base their bitcoin funds on futures, which have a tendency to be unstable.

An approved bitcoin Exchange-Traded Fund would be the first of its kind.

Another important distinction of the former proposal is a statute regulating the minimum notional amount that can be invested in bitcoin ETFs. With minimum investments starting at $200,000, the clause ensures that only accredited investors could trade the crypto ETFs, specifically targeting institutional investors. Since ~90% of the crypto market is comprised of retail investors, the proposal was tailored to institutions, helping to bridge the gap between the crypto and traditional finance markets. Nevertheless, concerns related to manipulation and liquidity remain. Gabor Gurbacs, the Director of Digital Asset Strategy at VanEck, promises the proposal addresses customer protection and compliance, price and validation, and liquidity.

The SEC’s delay comes amidst heavy volatility in the crypto markets. This week, all but two tokens in the top 100 (based on market capitalisation) were down between 10–25% of their previous value. Even Bitcoin fell drastically, dropping below $6,000, coming within 2% of its all-time low for 2018. Total market capitalisation was below $200 billion, the lowest all year compared to highs of over $300 billion. Cryptoholders speculate that the week’s bearish trends correlate directly to the SEC’s silence on the VanEck SolidX Bitcoin Trust proposal. While it is difficult to confirm nor deny such a correlation, it is probable that the SEC is hesitant to make quick decisions because this proposal might represent a landmark case. In what may be the most robust bitcoin ETF application yet, the SEC is taking their time to investigate the proposal thoroughly.

The SEC delayed a ruling on the VanEck SolidX Bitcoin Trust proposal to September 30, 2018.

According to a conversation with a former SEC employee in-the-know, four current employees of the SEC have reason to believe that a bitcoin ETF will be approved. The process is slow-moving because the SEC is proceeding with caution, reluctant to approve a potential landmark case with zero resistance. They want the market to know they are scrutinizing every aspect of the proposal, especially investor protection and transparency. As digital assets, or cryptocurrency assets, remain novel to the public, the approval of the first bitcoin ETF will likely set the stage for the regulated trade of cryptocurrencies in traditional finance markets.

What happens if the bitcoin ETF is approved?

If a bitcoin ETF is to be approved and listed on a regulated exchange, it will be a financial instrument traded like a stock. Typically, a custodian manages ETFs in a custodial reserve system, and is responsible for managing a reserve of funds. Institutional investors can buy shares of the fund through their brokerage accounts, however they do not actually own the assets. Therefore, in a bitcoin ETF, institutional investors can buy shares of and trade bitcoin without holding any bitcoin.

Another important aspect to consider is that the market entry of an ETF tends to impact the value of the underlying asset. To use an analogy, when the gold ETF initially became available in 2003, for the first time it did not have to be held and could be traded more widely and with greater ease. Since the gold ETF increased access to the trade of gold and therefore brought a greater supply and demand to the market, the price of gold increased as well. Should a bitcoin ETF be approved, market players have reason to believe the price of bitcoin will increase, explaining why so many are eager for such a game change in the crypto sphere.

Once the gold ETF was introduced in March of 2003, the price of gold increased sharply.

It is widely believed that a final decision on the VanEck SolidX Bitcoin Trust proposal is unlikely before the end of 2018. As usual, crypto enthusiasts and stakeholders are left on their toes, not only to ride market oscillation, but also the ups and downs of market regulation. While the potential for unfavourable rulings may cloud the future in the short-term, that traction in the legal space is finally picking up indicates a future for crypto in the long-term. That the SEC is so carefully inspecting applications to list bitcoin ETFs on a regulated exchange signals that official market adoption might not be so far away. In July, the second application from the Winklevoss brothers for a bitcoin ETF was rejected due to disagreement with a claim that cryptocurrencies are, “uniquely resistant to manipulation.” Since, more recent applications have used the feedback and amended their proposals. As negative outcomes pave the way for more innovative solutions, positive outcomes pave the way for growth in the unrivaled industry of distributed ledger technologies. It is only a matter of time before the first bitcoin ETF is approved and the floodgates to cryptocurrency regulation are opened.

In September 2018, Blockstate will launch the CTF15, an investment product tracking the top 15 crypto assets weighted by market capitalisation. The CTF15 will provide balanced and diversified exposure to top performing cryptocurrencies. It is compliant with major EU regulations and will be available to both retail and institutional investors.

For more information on the CTF15, reach out to us at ctf15@blockstate.com.