Hot demand for Bitcoin ETF as 'Wild West' hits Wall St hits

Wall Street opened its doors to the crypto industry this week as the first U.S. Bitcoin exchange-traded fund attracted more than $1 billion in investor money, driving the price of the largest digital currencies to new highs.

Similar vehicles are already trading elsewhere, but the launch of a crypto ETF on the world's largest stock market marks a significant milestone for crypto advocates after eight years of lobbying regulators.

For the first time, mainstream investors can now hold a US-listed Bitcoin-linked security in their portfolios alongside traditional financial assets such as stocks and bonds.

"This is the fastest ETF to reach $1 billion in assets... From an asset growth and trading volume perspective, this is unprecedented and a sign of pent-up demand," said Todd Rosenbluth, head of ETF and mutual fund research at CFRA.

The well-received debut of the Bitcoin ETF shows how traditional financial firms are fighting for a piece of the digital asset industry. It also underscores the recognition by many financial watchdogs that the sector has become too big and growing too fast to shake off.

Retail investors accounted for only about 12-15 percent of the ProShares ETF's net purchases over the first two trading days, indicating significant interest among institutions, according to JPMorgan. Another similar vehicle, sponsored by Valkyrie Funds, was launched on Friday, three days after the ProShares product. Analysts expect it to be replicated many times over.

Other announcements this week, including a blockbuster funding round from crypto exchange FTX backed by a number of blue-chip investors, have added to the hype surrounding digital assets.

Those signs of increasing interest, as well as a surge in professional traders using crypto as a basis for sophisticated market bets, helped push Bitcoin price above $66,000 for the first time on Wednesday before retreating to around $61,000 by Friday. Shares of Coinbase, the largest listed exchange, rose more than 10 percent in the days leading up to the launch.

But many analysts say the launch of the ProShares ETF is just the start of a much longer battle to convince the Securities and Exchange Commission that a product that offers a direct link to largely unregulated crypto markets should be traded on Wall Street exchanges.

For the SEC, the deciding factor in approving the ProShares ETF was that the vehicle holds futures contracts traded on the Chicago Mercantile Exchange, a fully regulated trading venue, and not directly through digital coins. Cryptocurrencies are typically bought and sold across a variety of trading venues in a market that Commission Chairman Gary Gensler has described as the “Wild West.”

"What you have here is a product that has been approved for four years by [the Commodity Futures Trading Commission] and that is wrapped up in something within our jurisdiction. . . We have the ability to integrate it into investor protection," Gensler said in an interview with CNBC.

Interactive Brokers, the retail brokerage, unveiled crypto trading for financial advisors on Monday, but Thomas Peterffy, its chairman, was more cautious about the value of holding the ProShares fund or similar funds for investors.

Peterffy, who helped bring computers to Wall Street in the 1970s when he used machines to calculate the value of securities and options, said the only use for crypto is as a fallback when the monetary or banking system has problems.

"I think if problems like this arise, these ETFs will have an incredible discount on the value of the coins. So I think there's no use. As long as people don't think about it, the price will move with the price of Bitcoin."

Others pointed out that a futures-based ETF can become detached from the asset it is intended to track. USO, the $2.9 billion oil ETF, has often moved significantly away from the price of U.S. crude over the past decade.

One factor is “roll costs” – when the fund manager periodically switches to a new futures contract when the previous one expires. This could become more expensive if the market expects the Bitcoin price to rise in the future. A situation where the futures price is higher than the spot price could mean the ETF underperforms the returns that would be earned from owning Bitcoin by around 7 percent per year, said Andy Kapyrin, co-chief investment officer at RegentAtlantic, a $5bn registered investment advisory group.

This makes the product more expensive for investors who want to hold a position for the long term, Kapyrin added. “This relegates it to shorter-term trading portfolios rather than long-term holders,” he said. It is “a no-go for advisors” that recommends holding long-term positions, but admits that it is “a good product for trading.”

For this reason, several asset managers are already pushing for the SEC to give the green light to setting up funds that are directly linked to crypto prices. Some ETF sponsors have also withdrawn from their own futures-based products.

Invesco said it would focus on gaining approval for an ETF that holds digital tokens. Shortly before Wall Street opened for trading on Tuesday, digital asset manager Grayscale Investments announced plans to raise its $40 billion.

“There is a bit of euphoria in the industry that we now have an ETF, but it is the first step,” said Dave LaValle, global head of ETFs at Grayscale. “Ultimately, the goal is that investors should have a choice between ETFs based on futures and physical Bitcoin.”

It can be a dream in many years. Brett Harrison, president of the U.S. arm of crypto derivatives exchange FTX, said the SEC's decision this week not to stand in the way of the ProShares fund was unlikely to be the first in a series of regulatory dominoes to fall.

“I think the SEC wants the spot crypto exchanges to fall under some regulatory framework before agreeing to that,” he said.

SEC Chairman Gensler has called on US lawmakers to grant powers to oversee crypto trading platforms and he wants the companies to register with the agency.

The SEC is also in the middle of a heated legal debate about whether digital coins should even be registered as securities. Many leading crypto players question this view.

“It is very unlikely that a direct Bitcoin or other type of crypto asset fund will be approved in the near future,” said Amy Lynch, founder and president of Frontline Compliance, a regulatory consultancy. “Right now the question is exactly what type of format of these assets will be considered a security.”