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Market Bytes:
Bitcoin Futures ETFs –
A Step In The Right Direction

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By David Grider, Head of Research & Matt Maximo, Research Analyst, Grayscale Investments

 

Mainstream investor adoption of crypto took several giant steps forward over the last week. Crypto investors received not only one, but two US Bitcoin Futures ETFs, the first from Proshares last Tuesday and second from Valkyrie last Friday.

 

We anticipate seeing more crypto futures products in the market. The Valkyrie leveraged futures ETF filing today offers one example of the cohort of products seeking to capitalize on this trend.

 

Last week also marked an important step towards a US Bitcoin Spot ETF. Last Tuesday, we announced that NYSE Arca has filed Form 19b-4 with the Securities and Exchange Commission (SEC) to convert our flagship product, Grayscale® Bitcoin Trust (OTCQX: GBTC), into a Bitcoin Spot ETF.

 

On the back of these developments, the crypto economy is stronger than ever, as the largest digital asset, Bitcoin, climbed to a new all time high of ~$67,000 before giving back some of those gains.

 

FIGURE 1: BITCOIN PRICE YEAR TO DATE

Source: Bloomberg (10/26/2021)

 

We believe that the SEC’s decision to permit a futures-based ETF takes the market a step closer to a Bitcoin Spot ETF. We believe this continued institutionalization and increased market access to crypto will further increase investor excitement and portfolio adoption.

 

The performance of Gold after the first US ETF launched, symbol: GLD, in November of 2004 offers insight into the potential impact that these new vehicles could potentially have on the price of Bitcoin and crypto. The price of gold rose ~4x from ~$500 to ~$2,000 during the ~6.5 years following the launch of the SPDR Gold Trust (GLD) ETF. If Bitcoin can even modestly follow gold’s trajectory, it implies there may still be ample opportunity for long-term investors from here.

FIGURE 2: GOLD PRICE BEFORE & AFTER FIRST GLD ETF LAUNCH

Source: Bloomberg (Date: 1990 to 2011)

 

Although the first US Bitcoin ETF was not physically backed like the first US Gold ETF, the product has seen strong inflows since launch, demonstrating investor appetite for accessing the crypto markets. The BITO ETF has already recorded $1.216 billion of inflows, ranking it number three against the commodity ETFs below in terms of first year inflows, in just four days.

 

FIGURE 3: COMMODITY ETF YEAR-1 FUND FLOWS

Source: Bloomberg (Date: 10/22/2021)

 

Since BITO utilizes CME Bitcoin Futures contracts to simulate Bitcoin exposure, this pent-up investor demand for crypto likely contributed to the sharp rise we’ve seen in CME Bitcoin Futures open interest. As a result, the CME’s share of global crypto open interest has increased from 11% to 23% since the end of Q2 2021, with ~$1.9 billion or ~5% of this increase coming over the last week since the US Bitcoin Futures ETF launched.

 

FIGURE 4: CME BITCOIN FUTURES OPEN INTEREST & MARKET SHARE

Source: Skew (Date: 10/25/2021)

 

One positive implication of the US Bitcoin Futures ETF is that this increased futures demand has sprung the CME ahead of other exchanges to become the world’s second largest Bitcoin futures trading venue, behind Binance, in terms of open interest.

 

While the trading of the first US Bitcoin Futures ETFs is indicative of regulators’ level of comfort with the underlying Bitcoin market, we believe that this increased share of market activity on the US regulated CME exchange offers yet another step in the right direction toward getting regulators even more comfortable with Bitcoin market liquidity and pricing transparency.

 

FIGURE 5: BITCOIN FUTURES OPEN INTEREST BY TRADING VENUE

Source: Skew (Date: 10/25/2021)

 

We believe this is a step forward, but there is still room to progress towards offering investors a product tracking Bitcoin without the trade-offs imposed by a futures-based ETF structure.

 

Investors anticipating a futures-based US Bitcoin ETF had been buying CME Bitcoin Futures contracts ahead of the product’s trading. This demand pushed the CME Bitcoin Futures price higher against the Bitcoin spot price (basis) over the past several months as investors were pricing the likelihood that a futures-based ETF would cause the premium to rise further on the increased demand.

 

This differential in the price of CME Bitcoin Futures contracts above the spot price means that futures-based ETF investors may be gaining exposure by buying high and selling low, which could be a high cost implicitly built into the product, depending on futures market conditions. Following the US Bitcoin Futures ETF launch last week, capital flows into BITO helped push the CME Bitcoin Futures rolling annualized 1-month basis to 24%, before returning to 14% today.

 

As a result, institutions have been arbitraging this price differential by shorting the CME Bitcoin Futures and buying the Bitcoin spot to collect a near risk free spread when the prices converge at contract settlement (the “cash and carry trade”). This dynamic, which keeps markets efficient, has also been driving spot prices higher, but it may also come at the expense of US Bitcoin Futures ETF investors in certain cases.

 

FIGURE 6: BITCOIN PRICE & CME BITCOIN FUTURES 1-MONTH ANNUALIZED BASIS

Source: Skew (Date: 10/26/2021)

 

Institutions that provide liquidity to the recent influx of futures-based ETF investors must either hold short CME Bitcoin Futures outright or hedge this risk exposure. Those that choose to hedge, can either purchase BTC spot or another instrument designed to track its underlying movement.

 

Among these alternatives, some hedgers may view the spread opportunity GBTC offers against Bitcoin futures pricing as attractive vs. buying spot BTC. These market dynamics may be contributing to (i) the outperformance of BTC over BITO and (ii) outperformance of GBTC vs. both BTC and BITO since the Bitcoin Futures ETF launch, which could continue if the market increases expectations of a Bitcoin Spot ETF approval.

 

FIGURE 11: BITO, BTC, & GBTC PRICE CHANGE SINCE BITCOIN FUTURES ETF LAUNCH

Source: Tradingview (Date: 10/26/2021)

 

Last week’s US Bitcoin Futures ETF approval was a step forward for mainstream investors and the crypto industry overall, but there is still work to be done towards giving the public a direct spot ETF alternative. In our view, it’s not a question of if but when a Bitcoin Spot ETF will gain approval from the SEC.

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