Downside of investing in the new spot Bitcoin ETFs

ON JAN 11, 2024, the US Securities and Exchange Commission (SEC) approved the listing of 11 spot Bitcoin exchange traded funds (ETFs) from issuers such as BlackRock and ARK 21Shares. The SEC cautioned that the approval did not imply endorsement of Bitcoin.

Comparison of spot Bitcoin ETFs

Grayscale Bitcoin Trust has (GBTC) the largest assets under management (AUM) among the 11 ETFs. Created in 2013, it has a longer history. It was officially converted from a trust structure to an ETF following the SEC’s approval.

Prior to the ETF status, its AUM was at US$26 billion, accounting for more than 3 per cent of Bitcoin supply as at Dec 29, 2023. Despite its size, liquidity and longer track record, GBTC has the highest expense ratio of 1.5 per cent among spot Bitcoin ETFs.

Other notable spot Bitcoin ETFs with considerably high AUM and volume include the iShares Bitcoin Trust and Fidelity Wise Origin Bitcoin Fund.

In terms of fees, many are pushing for fee waivers in hopes of capturing a larger pool of investors. Excluding the respective fee waivers, Franklin Bitcoin ETF has the lowest expense ratio of 0.19 per cent.

Meanwhile, the Hashdex Bitcoin Futures ETF has obtained SEC approval for a change in its investment strategy, transitioning from futures to spot Bitcoin. However, as at Jan 11, the issuer has confirmed that the ETF does not currently possess any Bitcoin and changes to both the ETF’s name and holdings will be implemented at a later date.

Bitcoin lacks fundamentals

The major risk regarding spot Bitcoin ETFs and other cryptocurrency-related products is that they lack fundamental and intrinsic value. The true value of an asset is typically derived from the value of its future cash flow discounted to the present day, or its book value. But unlike companies, cryptocurrencies such as Bitcoin do not have cash flows. By investing in a spot Bitcoin ETF, you are essentially investing in an asset with no intrinsic value.

Moreover, there is no reliable method to assign a proxy value to cryptocurrencies, as they cannot be linked to any tangible asset, unlike commodities. This limitation arises from their lack of real-world utility, as they cannot serve as inputs for commercial products.

Cryptocurrencies also lack a proven long-term relationship with economic fundamentals, unlike equities, fixed income, commodities, and traditional currencies. Establishing a dependable relationship, especially for speculative and volatile cryptocurrencies like Bitcoin, proves challenging.

In summary, the lack of fundamentals makes it difficult to determine the intrinsic value of cryptocurrencies, resulting in their prices being driven by sentiment. This makes them highly speculative and risky.

Highly volatile, low scalability

A frequently advocated use for cryptocurrencies such as Bitcoin is their potential role in money transfers or as a currency. However, two key factors make Bitcoin unsuitable for such purposes.

Firstly, Bitcoin’s volatility makes it impractical as a medium for everyday transactions. The instability could result in significant fluctuations in the prices of daily goods. Central banks frequently aim for price stability, a criterion that Bitcoin, functioning as a currency, does not fulfill.

Secondly, the computing power needed to process a transaction with Bitcoin is high. Hence, Bitcoin can only process up to seven transactions globally per second and requires about 10 minutes for a transaction to be processed. In contrast, a Visa payment is processed within seconds and can handle up to 24,000 transactions per second. Hence, due to scalability issues, Bitcoin’s transaction rate falls short of what is required for it to function as a global currency.

Hotbed for fraudsters, money launderers and thieves

The cryptocurrency space has been plagued by scandals such as the downfalls of the Terra/Luna algorithmic stablecoin, Three Arrows Capital and FTX.

In addition to these prominent events, the cryptocurrency space continues to attract money launderers and thieves. Criminals exploit the anonymity offered by cryptocurrencies to conceal their activities and channel illicit funds into various sectors, including the economy and banks. On another note, the substantial number of coins necessary for a viable spot Bitcoin ETF makes them attractive targets for these criminals.

Stolen Bitcoins, unlike funds in a bank, can be quickly transferred anonymously and are impossible to recover. If this happens to a spot Bitcoin ETF, it could significantly erode investor confidence and jeopardise the fund’s stability.

Without greater transparency and a well-defined regulatory framework, it introduces significant uncertainty regarding how risks such as fraud, manipulation, and asset loss will be addressed. The possibility of stringent regulations could limit access to cryptocurrency markets, which could reduce the overall market activity and affect the performance of Bitcoin.

For example, strict bans on Bitcoin are implemented in countries such as China and Bangladesh. Moreover, in Singapore, the Monetary Authority of Singapore has shown a negative stance towards the new ETFs, citing that they are unsuitable for retail investors.

Stay away from new spot Bitcoin ETFs

Investing in cryptocurrency is akin to embracing the Greater Fool Theory. Followers of this theory ignore fundamentals and knowingly invest in assets with inflated values, counting on the belief that there will be subsequent individuals willing to take over these overvalued assets. However, the joy of the game fades when you find yourself among the last participants left, signifying substantial risk for minimal rewards.

In a nutshell, we do not recommend investing in the new spot Bitcoin ETFs or any other cryptocurrency-related products. As Bitcoin remains a highly volatile asset with no fundamentals, we view it as worthless in the long term.

The writer is a research analyst with the research and portfolio management team of FSMOne.com, Singapore subsidiary of iFAST Corporation