Bitcoin ETF’s Success May Come at Fundholders’ Expense

Since its launch on Tuesday, the ProShares Bitcoin Strategy ETF has amassed $1.2 billion in investor wealth, the fastest billion-dollar fundraising on record.

But that success is almost certain to come at the expense of fundholders, analysts say, because the gains make the ProShares ETF a great target for traders who want to take advantage of the futures-based ETF’s ‘Achilles’ heel: giving them a closer look. Term futures and often “roll” them into the next month instead of taking cash at expiration.

The ProShares ETF, which buys bitcoin futures contracts rather than the cryptocurrency itself, now controls more than a fifth of the outstanding bitcoin futures contracts expiring this month and nearly a third of next month. Analysts said the scale of those holdings would put pressure on the returns of futures-based ETFs that have been launched and slow the pace of further launches.

“For us, this creates more trading opportunities,” said James Koutoulas, chief executive officer of Typhon Capital Management, a roughly $200 million hedge fund that trades futures, including bitcoin.

ProShares says its fund offers investors an opportunity to gain exposure to bitcoin. To maintain that exposure, the ProShares ETF takes investors’ cash from purchases and uses some of it to buy bitcoin futures, primarily the nearest month futures contract, as it is typically closest to the cryptocurrency’s spot price. provides relationship.

Then it gets complicated. When the contract expires, the fund must roll over its existing contracts to the next month. Other investors know this, so they buy the next month’s futures first—an act that pushes up the price and gives traders a profit by selling in the demand created when the fund rolls in. The higher the price the fund pays, the more it comes out of the pockets of the investors.

“It could cost you a lot of money to get your bitcoin futures rolling,” said Francisco Blanche, an analyst at Bank of America. “There is an element of traders taking advantage of this, and an investor potentially losing out.”

Another wrinkle: Position limits imposed by CME Group Inc. have already prompted ProShares to invest in next month, analysts said—a decision that should ease the stress of rolling this month’s contracts into the next one. But this widens the gap between the funds. Performance and bitcoin. Those limits double over the next month, potentially mitigating that issue somewhat.

“This is an emerging market. We expect the market to continue to grow on both sides of the business and become more and more efficient,” said Michael Sapir, chief executive of ProShares.

In its prospectus, the fund highlights the lack of liquidity in the bitcoin futures market, saying that large positions increase the risk of liquidity, can make positions more difficult to sell and affect the price of bitcoin futures. . Doing so “may increase the damage caused,” the prospectus added.

The price of the ProShares ETF fell 1.2% between its first trading day of market opening at 9:30 a.m. Tuesday, and 4 p.m. Friday. Bitcoin is down 2.4% in the same period.

Asset managers and futures traders say the prospect of other ETFs buying similar contracts further exacerbates the problem. Analysts said Friday’s launch of the Valkyrie Bitcoin Strategy ETF will eventually drive up roll costs and affect the performance of both funds.

Invesco Ltd., one of the largest ETF issuers in the country, has already said that it is stepping back from following ProShares with its own bitcoin futures ETF. The firm did not elaborate on the decision, but people familiar with the matter said that capacity issues in the bitcoin futures market were a factor.

Charlie Morris, founder and chief investment officer of Bytetree Asset Management, said that over the past year, the annual roll yield on bitcoin futures—reflecting the difference between the front-month futures and the price of bitcoin—has averaged 8.4%.

This means that an investor in a futures ETF would net $91.60 annually before fees for every $100 in profit made by bitcoin. The gap widens with volatility, which has recently picked up after large price gains in bitcoin. He added that the annual roll yield was up 17% on Thursday, meaning investors in the futures-based fund would see a net profit of $83 for every $100 in bitcoin gains.

It is not unprecedented. One popular ETF known as the United States Oil Fund, better known as the USO, has grown so much that it often controls a significant portion of the most active oil-futures contracts. Although that market is much deeper and more liquid than the futures market for bitcoin, oil traders before the USO regularly flock to buy the following month’s futures, a practice known as front-running That had the effect of increasing the cost paid by the fund. for its futures and penal returns for the fund’s investors.

This is not the only issue. Over the past 10 years, the USO has lost about 80% of its value, while crude oil prices have risen and fallen sharply, but have essentially ended up where they started.

Unlike the USO, funds run by ProShares and Valkyrie are both actively managed, giving fund managers more latitude and potentially limiting the impact of front-running trades. “Our aim is to minimize any potential for friction in completing the roll,” said ProShares Mr Sapir.

Nevertheless, both ETFs publish their daily holdings like the USO and most other ETFs, allowing traders a clear view of how they are positioned.

“It’s like poker. You lose an edge when the whole market knows your position,” said Mr. Koutoulas of Typhon Capital Management.

This story has been published without modification to the text from a wire agency feed