Going for Digital Gold: Will Crypto ETFs Ever Make it to the Podium?

Cryptocurrency ETFs have been getting the Heisman from regulators. Should investors start looking for other options?

It’s safe to say that the Winklevoss Twins are currently America’s most famous pair of identical siblings (sorry Mary-Kate and Ashley).

The Harvard grads turned VCs first gained notoriety from their 2004 suit against Mark Zuckerberg over claims the Facebook founder stole their social network idea. They didn’t let the suit distract them from athletic endeavors, and in 2008 both represented the United States as rowers in the Beijing Olympics.

But while their athletic achievements are impressive, and the Zuckerberg settlement nothing to sneeze at, probably their biggest win to date was turning their energies to Bitcoin in 2013.

Crypto Twinning

The twins were some of the first large investors in the cryptocurrency space, particularly focusing on the development of products for investors. Their early entry into crypto led to significant wealth accumulation, but in March of last year, the duo received some bad news. Their four-year quest to launch a bitcoin-focused ETF was rejected by the SEC.

In its response, the SEC found that the Winklevoss ETF–proposed to be listed on the Bats BZX Exchange–would not comply with current market structure laws aimed at protecting investors and preventing “fraudulent and manipulative acts.” In other words, the SEC believed there was just too much uncertainty and risk surrounding bitcoin to allow investors access to the registered funds it oversees.

The SEC followed up in January of this year with a letter that both reiterated these concerns and also raised a number of questions around liquidity, custody and valuation issues unique to cryptocurrency vehicles. Because of these outstanding questions, the regulatory agency asked that applications for crypto ETFs be withdrawn.

Actions like this have led to rising concerns in the crypto community over whether this emerging asset class would ever be taken seriously, and the SEC’s rejection left many of us wondering about the future of crypto assets. Would regulatory fear and uncertainty make it increasingly difficult to attract investment in this space? More specifically, are cryptocurrency ETFs DOA?

Well, not really.

The regulatory foot-dragging and hyper-scrutiny is not surprising in such a new form of investment, especially one that has evolved as fast as crypto. Rightly so, the regulators are asking a lot of questions.

While no one knows for sure what will happen with crypto ETFs, a little history can help us understand why there is investor demand for the type of pooled investing that ETFs can offer.

ETFs, Then and Now

The first ETFs were launched in the US in the early 1990s, at a time when sophisticated institutional investors were in search of ways to use diversified pools of assets to help implement increasingly complex trading strategies.

In the early 2000s, new ETF products were popping up left and right, covering a variety of asset classes, geographical regions, and management styles. Today, the ETF market has grown to well over $3 trillion in assets.

There are a number of factors that have made ETFs popular over the years–ready liquidity, accessibility, and favorable fee structures to name a few. At the core, however, ETFs are really about diversification.

With roughly 1,500 crypto coins and tokens now in circulation, it makes sense that investors would want to find ways to diversify their crypto holdings in a manner similar to ETFs. And many investors were excited over the prospect of being able to have a liquid, publicly- traded fund of crypto investments.

Double Time Product Development

But a lot has changed since that first Winklevoss ETF filing in 2013. While it may have been assumed five years ago that ETFs were the best way to diversify crypto holdings, there are now more and more emerging options.

For instance, there is an increasing amount of data available to investors, as trading volumes rise, currencies build track records (BTC reaches its 10-year mark in 2019!) and systems are built to monitor, analyze, and disseminate information to the public.

Beyond the data availability, there have also been significant product developments in the crypto markets. In the public realm investors can buy shares of the Bitcoin Investment Trust (GBTC), a fund traded over-the-counter that seeks to track the performance of bitcoin, and more similar offerings are being considered.

There are also several types of private funds, hedge funds and even fund-of-funds as well. Many of these vehicles require participants to be accredited investors or are targeted to institutional investors. With the recent decision by CME Group and CBOE to offer bitcoin futures, more products are being created to meet the needs of investors looking to hedge risks in the space.

Some investors are also taking an indirect “bank shot” approach, by investing in the public companies that are actively exploring blockchain technologies and digital assets (e.g., Overstock, IBM, Nasdaq). There are proposals for active ETFs that would invest in these types of companies and others benefiting from blockchain and crypto technologies (not to be confused with the proposed ETFs that invest directly in crypto assets).

So Now What?

While the crypto ETF may be in a semi-zombie state for now, there no doubt have been significant developments for investors in search of vehicles to provide investment diversification. Even the Winklevoss brothers have continued to aggressively innovate in this space, and recently received approval for a patent that would allow exchange-traded products to be settled with digital currencies.

For now, there’s no need to hang your hat on the future prospects of an ETF offering. Many new investors are starting with modest crypto investments and then giving consideration to increasing holdings as risks become clearer and the industry more developed.

At Flipside, we help our clients diversify and better understand the risks associated with crypto investing. While we’re short on famous Olympian twins, we have an abundance of data and tools aimed at helping investors make informed decisions.