Bitcoin ETF explained: 9 questions and answers about the critical crypto catalyst

  • The ups and downs in the prospects of a Bitcoin ETF have rocked cryptocurrencies. 
  • So far, requests have been rejected, but a lot of progress has been made.
  • Here is everything you need to know about the topic.

Many factors are moving the price of Bitcoin and other cryptocurrencies such as Ethereum and Ripple. Real-world usage, regulation, hacks, scaling, transaction times, transaction costs, and you name it. However, one specific question has come to dominate the scene: will a Bitcoin ETF be approved?

1) What is an ETF?

An exchange-traded fund (ETF) is an investment fund that specializes in a specific market, usually an index on a stock exchange. It allows investors to gain straightforward exposure to a specific index directly without buying the underlying assets. An S&P 500 ETF rises and falls with the S&P 500 index without having to buy all 500 stocks in the correct proportions. A Crypto ETF would also allow smooth exposure to an index of specific cryptocurrencies without having to deal with the hassle of buying the exact amounts of Bitcoin, Ethereum, Ripple, etc. in the correct numbers.

2) Why do crypto-traders care?

An ETF would make investing in cryptocurrencies far easier to institutional and retail investors alike. It would save the trouble of setting up a wallet, learning the topic, choosing an exchange, etc. It would be as easy as buying an S&P 500 or a Dow Jones ETF. Also, if the Securities and Exchange Commission (SEC) approves such an investment fund, it would also serve as a seal of approval for cryptocurrencies, first and foremost for Bitcoin. 

3) What has happened so far with Bitcoin ETF's?

In short, all requests were rejected. The first ETF proposal dates back to 2013 and was denied in March 2017. It came from the Winklevoss brothers, more known for their early encounters with Facebook's Mark Zuckerberg. A second rejection of the Winklevoss brothers' request came in July 2018. Other applications have also been denied for various reasons.

4) What is the state of Bitcoin ETF requests now?

There are around a dozen Bitcoin ETF requests and one more generic Crypto ETF request. Two stand out.

The first is from VanEck, a $38 billion investment management firm and SolidX, a provider of blockchain software. The ETF aims to be a physically-backed fund, holding Bitcoins at the back-end. They will have a minimum investment of $200K, setting a high threshold to limit investment to institutions. The response to the request is due in August.

Update: The decision about the VanEck proposal was postponed until September 30th. The news triggered a massive sell-off of Bitcoin and other cryptocurrencies, demonstrating how important ETF's are to the price of digital coins.

The second significant filing comes from Direxion. The SEC recently pushed back the approval date to September 21st, saying it needed more time to examine the request before approving or disapproving it. September 21st is the date eyed by many Bitcoin traders.

5) What will it take to accept an ETF? 

There are five key aspects when examining such a request:

  1. Manipulation: The SEC is empowered to guarantee the integrity of the market and prevent price manipulation, insider trading, etc. The mainstream view of cryptocurrencies is that it is prone to manipulation. Worse off, the FBI is currently looking into such Bitcoin manipulation. A resolution of this concern will make everything much more accessible.
  2. Valuation: The blockchain technology has decentralization as a critical element. This can be a disadvantage when trying to pin down the exact prices. Different exchanges show different prices. This fragmentation is a hurdle.
  3. Pricing: An ETF can deviate from the underlying asset, but not too much as it promises to track the markets. With fragmentation, arbitrage can become significant. A solution needs to be found.
  4. Storage: As mentioned earlier, storing Bitcoin is not as easy as securities and the authorities are worried that custody solutions are not up to speed and to scale with higher demand for the ETF's.
  5. Easy withdrawal: Investors need to have the ability to withdraw or redeem their assets on a daily basis. Higher liquidity facilitates smooth deposits and withdrawals. Is there enough liquidity? The SEC is examining. 

6) Given all these issues, is there progress towards a solution?

Yes. Coinbase, one of the most significant cryptocurrency exchanges, has announced tools for institutional investors that can be seen as substantial progress. Coinbase Prime is a move in the liquidity space, and Coinbase Custody is a leap forward in the storage space. Other firms are also working on making Bitcoin investment more streamlined.

Moreover, and contrary to the notion that the SEC is all out against cryptos, there is a growing openness towards approving an ETF. Heston Peirce, one of the four SEC commissioners, said that "there is no reason" why they would not allow the product to be approved. She dissented from a recent rejection and said the regulatory body has "no jurisdiction" to assess the underlying assets. Peirce's stance is that the SEC should not dive into the Bitcoin market but only on the market where the ETF would trade.

7) What will happen to prices if an ETF is approved?

Opening the doors to mainstream investment would allow billions of dollars to pour into cryptocurrencies and prices would rise. There is a historical example with Gold. The precious metal more than quintupled in its price in the aftermath of the first ETF approval back in March 2003, although there were several other factors for the rally.

8) What will happen to prices if no ETF is approved anytime soon?

There are currently around a dozen Bitcoin ETF's under consideration by the SEC. If all of them are rejected, Bitcoin could slide as markets are already pricing some probability of a positive outcome. 

9) So, will an ETF be approved? And when?

That is the one million dollar question. The general notion in the crypto-sphere is that the underlying markets are maturing, institutional solutions are in the works, and that the SEC is warming up toward the blockchain technology. The recent Winklevoss rejection is seen as a loss in a battle, but not a loss in the war.

If the optimists are correct, there is another open question: when? As with any market, timing is everything. While September 21st is the most anticipated date, delays are frequent, and a rejection of that Direxion request is far from being the end of the road. The quest for the Bitcoin ETF holy grail will likely continue until we see white smoke from the SEC offices.

More: Bitcoin top price prediction: 5 reasons why BTC is crushing the Altcoin competition

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