Since 2017, investors have been anxiously awaiting a Bitcoin ETF approval, as the existence of such a fund has been a major symbol of mass adoption and acceptance from the realm of traditional finance.
On February 18, the Toronto Stock Exchange officially announced the launch of the Purpose Bitcoin ETF and the fund quickly raised more than $ 333 million in market capitalization in just two days.
Now that the long-awaited Bitcoin ETF is here, investors are curious about how it will compete with the Grayscale Investments GBTC fund. On February 17, Ark Investment Management founder and CEO Cathie Wood said the likelihood of U.S. regulators increasing a stock market traded by Bitcoin would increase.
Although exchange-traded funds (ETFs) and exchange-traded notes (ETNs) sound fairly similar, there are fundamental differences in trading, risks, and taxes.
What is an exchange traded fund?
An ETF is a type of security that contains underlying investments, such as commodities, stocks or bonds. It often looks like a mutual fund, as it is pooled and managed by its issuer.
ETFs have become a $ 7.7 trillion industry and have grown by 65% in just the last two years.
The most recognizable example is the SPY, a fund that follows the S&P 500 index, which is currently managed by State Street. Invesco’s QQQ is another EFT that follows US tech companies with large capitalization.
More exotic structures are available, such as ProShares UltraShort Bloomberg Crude Oil ($ SCO). Using derivative products, this fund aims to provide twice the daily short leverage on oil prices.
What is an exchange traded note?
Exchange Traded Notes (ETNs) are similar to an ETF in that trading takes place with traditional brokers. The difference, however, is that ETN is a debt instrument issued by a financial institution. Even if the fund has a redemption program, the credit risk rests entirely on its issuer.
After Lehman Brothers exploded in 2008, for example, ETN investors took more than a decade to recoup the investment.
On the other hand, buying an ETF gives a direct ownership of its contents, which creates different tax events when futures contracts are held and positions are utilized. Meanwhile, ETNs are taxed only on sales.
GBTC does not offer conversion or redemption
Grayscale’s Bitcoin Trust Fund (GBTC) is the absolute leader in the cryptocurrency market, with $ 35 billion in assets under management.
Investment trusts are structured as companies – at least in regulatory form – and are ‘closed-end funds’. The number of available shares is therefore limited and the demand and supply for it largely determines their price.
Investment trust funds are regulated by the US Currency Office (OCC), so outside the authority of the Securities and Exchange Commission (SEC).
GBTC shares cannot be easily created, nor is there an active redemption program in place. It tends to generate significant price differences with the net asset value, which is the underlying BTC fraction.
An ETF, on the other hand, allows the market maker to create and redeem shares at will. Therefore, a premium or discount is usually unlikely if there is enough liquidity.
An ETF instrument is much more acceptable to mutual fund managers and pension funds because it carries far less risk than a close trust like GBTC. Retail investors may not have been aware of the possibility of GBTC trading below the net asset value. The recent event could therefore push investors further to shift their position to the Canadian ETF.
To sum up, an ETF product carries a significantly lower risk due to greater transparency and the ability to redeem shares in the case of shares trading at a discount.
Nevertheless, the impressive GBTC market capitalization makes it clear that institutional investors are already on board.
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