Crypto ETFs: From a no-go to a maybe

In 2023, following the downfall of the crypto exchange FTX, the Securities and Exchange Commission (SEC) of the United States has exhibited substantial involvement within the cryptocurrency market. To set the scene, the SEC's stance on the crypto market has not been positive this year. On the contrary, it has fueled scrutiny and excess uncertainty in perhaps the single most crucial market for crypto assets, namely the US.

To name a few examples, at the beginning of this year, Kraken, a prominent cryptocurrency exchange, consented to a $30 million settlement with the SEC after the agency claimed that Kraken's staking service was organized in a manner resembling securities. As part of the settlement, Kraken also agreed to discontinue its staking service for clients in the United States. Later, the SEC took legal action against two other major players in the exchange landscape: Coinbase, the largest crypto exchange in the US, and Binance, the world's largest exchange, including its US subsidiary named Binance US.

The allegations centered around the accusation that these exchanges are operating as unregistered securities exchanges. While the range of allegations against Binance are far more extensive, the overarching question of whether a significant portion of cryptocurrencies and their associated products should be classified as securities carries immense significance for the entire market. This determination could potentially have far-reaching consequences, including the possibility that many cryptocurrencies might no longer be eligible for trading within the US. Such an outcome would profoundly impact the respective ecosystems of these cryptocurrencies.

In this context, the sole cryptocurrency that might definitively be excluded from being classified as a security, as indicated by the SEC, is Bitcoin. The Chairman of the SEC, Gary Gensler, explicitly contended last year that Bitcoin should be considered a commodity rather than a security, although he has stated that he believes that most cryptocurrencies are securities: “The law is clear. I believe based on the facts and circumstances most of these tokens are securities”. On the other hand, Coinbase has argued that they do not deal with securities, battling the SEC on its stance, which caused the latter to sue Coinbase in June.

So, it has been a tough year as to regulation in the US, to say the least. Now, however, it appears the SEC might have some positive impact on the crypto market, as the agency could change its stance on a crucial matter, namely crypto exchange-traded funds (ETFs).

A Bitcoin futures ETF and that’s all

Crypto ETFs have been the holy grail for the community ever since Cameron and Tyler Winklevoss (yes, the twins portrayed in The Social Network) filed for the first spot Bitcoin ETF in 2013. It is assumed that an ETF is to bring considerable assets under management, as it allows non-crypto native retail and institutional investors to effortlessly get exposure to Bitcoin within a thoroughly regulated framework. Still, the SEC rejected the ETF proposal by the Winklevoss twins, highlighting that the crypto market is prone to manipulation and lacks investor protection. Another shot was given by the twins, but the SEC once again turned down the proposed Bitcoin ETF in 2018.

Since that, countless firms have tried to sweet talk the SEC into approving spot Bitcoin ETFs but without any luck. Despite these rejections, the SEC gave the market a little taste of crypto ETFs in 2021, as the agency approved a Bitcoin ETF based on regulated futures. The latter was highly anticipated since the market counted on it to attract outside capital more easily and viewed it as a stepping stone for a spot ETF to follow. The futures Bitcoin ETF has attracted a reasonable amount of capital, as the largest ETF titled ProShares Bitcoin Strategy ETF has about $1.1bn in assets under management.

When that has been said, as these are based on Bitcoin futures, they carry additional expenses from rolling futures contracts every month, for instance, leading the ProShares Bitcoin Strategy ETF to underperform Bitcoin this year. As these ETFs have exposure to Bitcoin futures rather than exposure to spot Bitcoin, they have archived significantly less inflow than a spot ETF would have realized, altogether meaning that Bitcoin has seen limited gain from these ETFs.