The U.S. Securities and Exchange Commission ("SEC") recently approved the first exchange-traded fund (“ETF”) for Bitcoin which was very well received by the market. However, a look under the hood of the ETF, which is based on Bitcoin futures contracts as opposed to actual Bitcoin, reveals that this news is less exciting than some may think.
Some commentators were thrilled about the move, arguing that the approval meant that the “regulatory environment … appears to be shifting in favor of cryptocurrency” and that it constituted a “breakthrough moment in crypto history.” Markets also responded positively as the debut of the new Proshares ETF was the second largest ETF debut ever and the price of Bitcoin surged seemingly in response.
While the approval of the Bitcoin futures ETF is no doubt a positive development, it is not a dramatic paradigm shift in the attitude of U.S. regulators toward crypto.
THE UNIQUE REGULATORY STATUS OF FUTURES-BASED ETFS
An ETF is a unique type of investment vehicle that tracks the performance of an asset or a group of assets, and is traded on a securities exchange like a stock. For example, in a hypothetical Bitcoin ETF, the ETF provider would purchase and hold Bitcoin equivalent to the amount of funds invested in the ETF by the public. In this way, investors can gain exposure to an asset without actually owning the underlying asset. Futures-based ETFs create an additional layer of separation from the underlying asset because the ETF issuer does not purchase and hold the asset; instead, the ETF holds futures contracts related to the underlying asset.
Since 2013, numerous companies and entrepreneurs have tried to secure approval for Bitcoin ETFs with the first being the Winklevoss Twins, the founders of the prominent crypto exchange Gemini. However, despite clear market enthusiasm, for many years, the SEC rejected all Bitcoin ETF applications because of concerns over price manipulation, and the lack of surveillance-sharing agreements.
After years of denials, in April, SEC Chairman Gary Gensler hinted that he would be open to ETFs that tracked futures contracts for Bitcoin rather than the cryptocurrency itself, leading to a surge in new filings for these funds. These ETFs invest in futures contracts for Bitcoin, which are agreements to buy or sell Bitcoin for an agreed-upon price, rather than buying or selling Bitcoin directly. Months later, Gensler clarified his stance arguing that “[w]hen combined with the other federal securities laws, the [Investment Company Act of 1940] provides significant investor protections for mutual funds and ETFs.” In this way, Gensler indicated to the marketplace that futures ETFs for Bitcoin were uniquely positioned to provide the investor protections that he has long demanded of the crypto industry.
In contrast to other investment vehicles, a futures ETF provides unique regulatory certainty because investors do not need to hold Bitcoin themselves and the ETF provider does not have to custody crypto, eliminating many potential sources of danger for investors. Additionally, the Bitcoin futures market is regulated and overseen by the Commodity Futures Trading Commission (“CFTC”), which alleviates some of Gensler’s concerns of fraud and manipulation.
THE PATH FORWARD FOR THE U.S. CRYPTO INDUSTRY AFTER THE ETF APPROVAL
Even though the SEC has approved the Proshares ETF as well as the Valkyrie Bitcoin Strategy ETF, Gensler is not backing down from his stance that cryptocurrency markets are a “Wild West” that are “rife with fraud, scams and abuse.”
The crypto industry is right to celebrate this historic moment, but it is important to temper that excitement because a few things remain clear: The SEC will continue to crack down on many U.S.-based crypto projects that the agency believes are unregistered securities, and Gensler will continue to argue that the SEC needs greater congressional authorization to regulate the crypto industry and the agency should be the main regulator of digital asset spot markets.
In the face of these trends, the crypto industry needs to employ a proactive approach that incorporates isolated news stories such as the ETF announcement into a larger, integrated whole. Without this proactive, “Legal First” approach, you’ll be unable to see the forest for the trees and be lost wandering while the clear, sweeping changes in the U.S. regulatory landscape quickly pass you by.
For future updates on Bitcoin ETFs and other quickly-arising developments shaping the new Crypto Frontier, be sure follow the Tacen Regulatory Corner.
 See Winklevoss Order, 83 FR at 37580.See also id.at 37592 n.202 and accompanying text (discussing previous Commission approvals of commodity-trust ETPs); GraniteShares Order, 83 FR at 43925–27 nn.35–39 and accompanying text (discussing previous Commission approvals of commodity-futures ETPs). The Commission has stated that it considers two markets that are members of the Intermarket Surveillance Group to have a comprehensive surveillance-sharing agreement with one another, even if they do not have a separate bilateral surveillance-sharing agreement. See Winklevoss Order, 83 FR at 37580 n.19.