What Is Bitcoin ETF And How Does It Work?

Published on: 22.11.2022
What Is Bitcoin ETF And How Does It Work?

Bitcoin ETFs, exchange-traded funds, are portfolios of bitcoin-related assets listed on standard stock exchanges for trading. The idea behind ETFs is to provide those unfamiliar with cryptocurrency investment with a way to get exposure to the market without buying any coins or tokens themselves.

What Is a Bitcoin ETF?

Bitcoin ETFs are exchange-traded funds that invest in Bitcoin or other assets whose value is correlated with Bitcoin’s. They are not traded on a digital currency exchange but rather on a more conventional stock market. In theory, businesses may buy bitcoin, securitize it, and then sell or trade it on an exchange.

Unfortunately, despite repeated submissions, the SEC has been unreceptive. Hence no cryptocurrency ETF exists that tracks a specific coin.

As traders and investors began to take note of the rising value and increasing popularity of bitcoin, the idea of a Bitcoin exchange-traded fund (ETF) was born. Importantly, purchasing and trading bitcoin may result in financial gains.

Retail and ordinary investors lost access to Bitcoin when its price climbed over several thousand dollars. To meet investor interest in Bitcoin, brokers have developed Bitcoin ETFs. The Winklevoss brothers initiated permission requests with the SEC in 2013.

How Does Bitcoin ETF Work?

When investing in a stock-tracking exchange-traded fund, the fund buys stock shares. Fund assets are held by a corporation that sells fractional shares on exchanges where trading occurs around the clock, every day of the week.

According to this design, a Bitcoin ETF must buy and hold Bitcoin. The portfolio would then be made available on an exchange in the form of fractional shares. That could be traded in the same way as a conventional exchange-traded fund.

Standardized agreements between two parties to trade a certain amount of assets on a predetermined date at a predetermined price constitute a futures contract. One contract unit is equal to five Bitcoins (BTC). Hence in this example, a Bitcoin contract is a legal agreement to trade that amount of Bitcoin in the future.

The fund issues shares on the exchange at prices determined by the market value of one contract unit. The Proshare BTC Strategy ETF was the first SEC-approved Bitcoin-linked exchange-traded fund (ETF). And it began trading on the New York Stock Exchange in October 2021.

Bitcoin ETF Pros

✅It’s simple to purchase: Those who can use a retail broker will likely have accessibility to Bitcoin ETFs. On the other hand, investing in Bitcoin necessitates creating a trading account with a cryptocurrency brokerage and researching wallets for storage.

✅Simpler taxation systems: You must pay taxes on any profits from the sale of cryptocurrency. But don’t assume your cryptocurrency exchange will be compatible with your tax preparation software. If you trade ETFs via your regular brokerage, the transactions will be recorded with your yearly trading activity balance.

✅The trust factor: Blockchain technology has existed for nearly a decade, but the cryptocurrency market is only getting started. Security breaches, incompetent leadership, or immoral actions have all made headlines. However, these extreme examples are not representative of the average, and similar problems might also arise in more conventional commercial settings. Valega claims that using a reputable exchange is the final seal of approval for confident investors.

Bitcoin ETF Cons

⛔️There is no one-to-one correspondence between Bitcoin: The idea is to make the price of a currency similar to Bitcoin’s. However, this is only sometimes possible. The range of variation is very context-dependent, changing with each ETF and its underlying investments.

⛔️Regular payments: You will not have to pay any transaction fees if you hold Bitcoin outright. Unlike ETFs that follow stock indexes, Bitcoin ETFs often have higher ongoing fees, averaging about 1% yearly. These charges, also known as cost ratios, are not levied on those who hold Bitcoin altogether. However, they may be required to pay a transaction fee if they purchase or sell Bitcoin.

⛔️Control instability: Many digital currencies are built on decentralized ownership. Whereby individuals may acquire and use the currency independently of any governing body. Bitcoin ETF investors have no say over the underlying assets.

How to Invest in Bitcoin ETFs?

Exchange-traded funds (ETFs) that invest in bitcoin can be bought through your broker or advisor if they offer this service. In addition, several exchange-traded funds (ETFs) based on Bitcoin are now listed on major markets, including the NYSE ARCA and the Nasdaq (NASDAQ):

🔸Proshares BTC Strategy ETF

🔸Global X Blockchain and BTC Strategy ETF

🔸Valkyrie BTC Strategy ETF

🔸VanEck BTC Strategy ETF

It is worth noting that these ETFs invest in more than just Bitcoin futures. To a lesser extent, they may invest in Bitcoin futures contracts if doing so is consistent with the fund’s overall investment strategy.

For instance, the Proshare Bitcoin Strategy Fund will only invest in Bitcoin futures contracts if doing so would provide a profit. But it may also store money market instruments and securities of Bitcoin-related enterprises. The company may also use reverse repurchase agreements to borrow money.

Future of Bitcoin ETFs

A Bitcoin exchange-traded fund (ETF) was initially proposed in 2013. After a thorough investigation, the SEC expressed worry that establishing a Bitcoin ETF might lead to market manipulation and fraudulent activity. Well over a dozen Bitcoin ETFs that include futures contracts have since been authorized by regulators in America.

Several commodities that hold cryptocurrency directly have been allowed in Europe and Canada. It’s suggesting that foreign exchanges don’t share the SEC’s concerns about Bitcoin ETFs. Nevertheless, Valega has expressed optimism that American investors would be able to purchase such items in the future: “I believe some type of spot ETF will come about, which will be a lot simpler way to incorporate [crypto] to your account,” she said.

As a result, she is “a supporter in the long run” regarding Bitcoin. Still, she also thinks most individual investors are not required to “jump into it”. And isn’t too worried about the current unavailability of such a product.

Bottom Line

A Bitcoin ETF is a kind of exchange-traded fund that attempts to replicate the performance of Bitcoin by tracking its price in some way. Whether via derivatives, the spot market, or direct ownership of Bitcoins. Of course, it’s a high-risk purchase, so it’s wise to get expert advice before taking the plunge.

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