Introduction
Since its advent in 2008, Bitcoin ($BTC) has made waves in the world of finance. Its decentralized nature attracted several actors. The deflationary design of $BTC made everyone realize the fragility of fiat currency and how weak its grounds are. The attitude of denial kept many big investors at bay for many years. But it was not long before institutional money started flowing into Bitcoin after SEC duly approved ETFs of many companies. This was a landmark in the evolution of decentralized finance. At the moment, VettaFi database for ETFs lists about 43 exchange traded funds being offered in spot as well as futures.
What is an ETF?
An exchange traded fund (ETF) is an investment product that many fund managers like Blackrock, Grayscale, and Fidelity offer. Imagine that you want to buy a share of Tesla, but your investment is very small. Yet you can avail yourself of the opportunity by trading a share listed on any stock exchange. At the time of writing, one share of Tesla has a value of $420. It means that you can be a share holder in Tesla if you have only $420. But what if you don’t even have that much money, or you feel that owning only 1 share does not benefit you in the long run?
ETF is a step ahead in facilitating you. A Tesla ETF will have a far lower price than a normal share. An ETF will be launched by a company that may include the share of Tesla. By buying the ETF, you can enjoy or be affected by the price action of Tesla’s shares but to a lesser extent when compared to actually owning the share itself.
An ETF vs a Mutual Fund
However, ETFs must not be confused with mutual funds. Mutual funds get their net asset value (NAV) updated only once a day. On the other hand, ETFs are traded at the market price. Moreover, tax efficiency, trading fees and minimum investment threshold are some of the other differences.
BTC ETF
When we talked about unaffordability of owning a share of Tesla, it becomes all the more pertinent to state that it is almost impossible to own one $BTC for a common man now-a-days as it costs approximately $115,000. January 2024 marked a revolutionary development in the history of Bitcoin when SEC approved many Spot ETFs. Just as Tesla ETF was explained in the previous paragraph, you can get the exposure of $BTC ETF without actually owning the Bitcoin. There are two main types of Bitcoin exchange traded funds.
1. Bitcoin Spot ETF
When we mentioned that SEC approved ETFs of many companies in January 2024, these were spot ETFs. In a spot ETF, the fund manager actually owns Bitcoins. But the tradable ticker they offer generally has a fraction of value of one $BTC. For example, a company has bought 1000 $BTC for its ETFs. Now it offers 1 million shares under its own ticker $BRTC. You can own 1 $BRTC share only by paying $115. In other words, by spending only a 1000th, or 0.1% of actual $BTC value, you can trade $BTC ETF. If the same company offers 10 million $BRTC share, the ETF share value will be just $11.5.
Why Invest in $BTC ETF?
Among many advantages offered by ETFs, the most important one is that you can get benefits from the price action of Bitcoin without having to worry about storing the assets in wallets. The problem of storage is a serious concern of investors. Custodial wallets are always at risk as the custodian (the exchanges) can be hacked or they can declare bankruptcy, and you may lose your assets in thin air. Cold wallets are very expensive. You can consider buying the offline wallets only when you have a lot of money to invest in cryptocurrencies.
Ease of trading and trust are two more factors that make spot ETFs for Bitcoin attractive. Since these funds are legally approved, they carry regularity nod from the authorities. Their being available on stock exchanges means access to everyone in the trading arena.
Drawbacks of Spot $BTC ETF
There are two serious drawbacks of trading $BTC ETFs. Firstly, not matter how small your investment is, the fluctuations in $BTC price may dent you badly. After all, Bitcoin is a cryptocurrency and it tends to grab liquidity from the downside, projecting menacing red candles on the charts. Nevertheless, this disadvantage can be offset by remaining calm in such situations. If you do not sell in panic, you may end up in profit. The price history of Bitcoin shows that it benefits long holders.
The second concern in $BTC spot trading is that it incurs a lot of fees and charges that can reduce your profits significantly. These fees can go as high as 2.5%. When compared to spot trading on crypto exchanges, these are higher than you may like.
2. Bitcoin Futures ETF
The company that offers Bitcoin futures trading does not have any $BTC in reserve. Instead, the company invests in futures contracts. These contracts, called futures, allow the fund to agree on buying or selling Bitcoin at a set price on a set future date. Now, in order to carry out its speculation, the company collects funds by offering ETF shares. For example, the company ABC speculates to buy or sell1000 Bitcoins’ futures contract after three months at $120,000. To raise funds for the contract, the company offers 1 million shares. People will readily purchase if they believe that Bitcoin will have a value higher than $120k. If the market sentiment is pessimistic, the shares will have less value.
Pros and Cons
Benefits and drawbacks are the same as discussed in the spot ETFs. There is only one addition that since you are purchasing a part of the contract instead of a part of the cryptocurrency, the price action has got more potential to bring you losses.
Conclusion
ETF approval for Bitcoin was a noteworthy landmark in the history of the cryptocurrency. Spot $BTC ETF offered by a company has actual Bitcoin to back the fund. For Futures $BTC ETFs, the company has futures contracts that will be fulfilled in loss or profit in the future. Trading $BTC in ETFs is beneficial as it frees you from the risks of being hacked or liquidated. However, hefty fees of the companies can deprive you of the real profits you deserve.
Frequently Asked Questions
What is the difference between a Spot Bitcoin ETF and a Futures Bitcoin ETF?
A Spot Bitcoin ETF directly holds Bitcoin, giving investors exposure to the actual asset. A Futures Bitcoin ETF, on the other hand, tracks contracts that speculate on Bitcoin’s future price, not the asset itself.
Which is better to invest in, Spot or Futures Bitcoin ETFs?
Spot Bitcoin ETFs are generally better for long-term investors seeking direct exposure to Bitcoin’s price. Futures Bitcoin ETFs are more suitable for short-term traders looking to speculate on price movements but come with higher risks.
Are Bitcoin ETFs safer than buying Bitcoin directly?
Yes, Bitcoin ETFs remove the need for personal custody and reduce risks of hacks or lost wallets. However, they involve management fees and may not deliver the same profit potential as holding Bitcoin directly.
