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Today's Bullets:
Spot vs Future
RIAs, Institutions and Bitcoin
Sidelined Demand
Friction and Multiplier Effect
Inspirational Tweet:
If you're in the investment world or are an investor, an inspiring investor, or have watched a recent sporting event with commercials, you've likely heard something about a Spot Bitcoin ETF lately.
Chances are, you've been bombarded with snippets and Tweets and media segments to no end.
I know I have.
Much of this has been around not just the likelihood of the SEC approving Spot Bitcoin ETFs, but also the effect of such approval on the price of the underlying asset of these ETFs.
Bitcoin.
Exactly what kind of immediate reaction markets will have is hard to say, but one thing is for certain: there is a ton of capital on the sideline waiting for Spot Bitcoin ETFs.
And we are going to get into just how much and why here today. But don't worry, we will do it nice and easy, as always.
So, grab your favorite cup of coffee and settle in for a simple Sunday read with The Informationist.
🧐 Spot vs Future
First things first. Let's clear up some obvious confusion.
Some of you may be asking, we already have Bitcoin ETFs, don't we? Specifically, ones like the ProShares Bitcoin Strategy ETF (BITO) which was launched in October, 2021.
While this is true, BITO (the largest of these Bitcoin ETFs) is a much different ETF than what we are talking about here today.
See, the recent buzz has been all about spot-based ETFs, and BITO (and all the others) is a futures-based ETF.
What's the difference?
Well, a futures-based ETF doesn't actually own any of the underlying asset, in this case, Bitcoin.
BITO is priced based on the futures contracts for Bitcoin, rather than the spot price of Bitcoin itself. This is done by BITO investing in Bitcoin futures contracts traded on the Chicago Mercantile Exchange (CME). These futures contracts are agreements to buy or sell Bitcoin at a predetermined price at a specified time in the future.
Bitcoin that BITO never actually owns.
Instead, BITO maintains a rolling position in the contracts, by selling contracts when they near expiration and buying longer-dated contracts, which can obviously lead to differences in performance vs. actual Bitcoin.
As you can see, the cost of buying and selling futures has produced a noticeable lag in the performance of BITO (blue line) vs. actual Bitcoin (orange line), since its inception.
And even this past year, with Bitcoin rising higher by 153.7%, BITO lagged nearly 20% for the same period.
Spot-based Bitcoin ETFs are seen as a way to solve this discrepancy.
Put simply, a spot ETF (when properly structured, managed and audited) actually owns the underlying asset of the ETF, in this case, Bitcoin.
We won't get into the specifics here or deep mechanics, but the current structures and proposals of the dozen or so applications for spot Bitcoin ETFs all require an amount of Bitcoin to be held by the ETF that matches the underlying NAV of the ETF.
If someone buys a share of the ETF, then the ETF manager (Blackrock, Fidelity, etc.) must buy an equal dollar amount of Bitcoin and hold it (with an institutional custodian).
Some of you may now be saying, yes yes, they supposedly did that with gold ETFs too, but look how badly those have been manipulated of the years.
True. But gold is almost impossible to track and audit with stashes of vaults and deliveries and actual underlying gold bars and coins to match the ETF NAVs.
Bitcoin, once again, trumps all with its trustless, easily verifiable nature. The transactions should all be easily auditable and traceable.
Let's put it this way, there's no chance of a Bitcoin address actually holding gold plated nickel "by accident".
I'm looking at you Jamie Dimon and JP Morgan.
OK, so now we know the difference between the current futures-based ETFs and the coming spot-based ones, is there really pent-up demand for the, er...real-ish thing?
🤓 RIAs, Institutions and Bitcoin
While some Registered Investment Advisors (RIAs) and family offices have settled for the option of BITO as a proxy for owning actual Bitcoin, the truth is that the vast majority of institutional capital has steered clear of them.
As of today, there is just a few billion dollars total invested across the eleven futures ETFs.
They know it is not an ideal form of owning Bitcoin. In fact, as we explored above, it isn't owing Bitcoin at all. It's more like owning a bet on the direction of Bitcoin.
Nothing more and nothing less.
So, why don't they just buy Bitcoin itself then?
Good question, and some of you may have heard me talk about this before. I've gone into great detail as to the challenges for institutions in buying and holding Bitcoin and the myriad reasons they simply cannot do it.
For an overview, I wrote a simple post about this issue a couple of years ago. You can find that here:
The main issue, though, is that even for the investors who understand Bitcoin (vs Etherium and other cryptocurrencies), Bitcoin presents a number of structural challenges that are are extremely cumbersome to overcome.
First, the CIO approval hurdle.
Most portfolio managers at institutions like endowments (think: University of Texas) and pension funds (think: Teacher Retirement System of Texas, aka Texas Teachers) have a hierarchy of management.
In other words, they answer to a Chief Investment Officer that oversees their system's investments.
So, even if a PM fully understands the case for including Bitcoin in a portfolio, they still need buy-in or sign-off from the CIO.
Good luck with that.
This process can take numerous weeks or months, depending on the internal dynamics and politics between the PM and CIO, as well as individual portfolio and overall system investment mandates.
Once this achievement has been unlocked, onto the Investment Committee.
See, many hierarchies also require sign-off from a committee for a new type of investment, as it likely creates a need for additional risk management measures and procedures.
Once this level is 'unlocked', then onto the risk and compliance committee(s).
This is where they will need to determine who is appropriate to buy and sell this new asset for the institution (i.e., Fidelity Digital or the firm's internal traders on Coinbase), and which exchange meets the regulatory guidelines for the institution.
And once bought, where (i.e., when) do they mark the daily price? Midnight daily? But reports won't allow for that. Coinbase closing time? Doesn't really match any other asset. How about NYSE closing time?
Hmmmm.
Then: who will custody the new asset? It is much like gold, but without an ETF, the institution must either take delivery or find a trusted qualified custodian to take delivery for them.
And hold it for them.
Safely.
This is where the General Counsel jumps in and analyzes the liability for the institution in either holding their own keys or trusting a custodian with the keys or maybe a multi-signature solution, requiring both.
This is kind of the Big Boss of the Bitcoin Institutional Buyer game, and often where it all falls through.
Too much liability. Could be seen as a breach of fiduciary duty. It is a nascent asset with a short and volatile history and many stories of hacking, illegal use, trickery, and outright fraud associated with it.
The PM's great idea is DOA.
Enter the Spot Bitcoin ETF.
Regulated by SEC and stock exchanges (NYSE, Nasdaq, and Chicago Board of Options). Bought and sold just like any other stock in a portfolio. Settled on industry-standard DTC with the exchange. Custodied by the institution's current custodian, no need to sign agreements with new unknown custodians. And marked daily at the close on the exchanges.
Nothing different than just buying a new stock.
Easy peasy.
Then you have RIAs, or Registered Investment Advisors.
These are professional investment advisors who have a book of clients for whom they manage investments.
While RIAs do not have the same structural oversight and issues that the institutions above have, they do share the Big Boss problem of custody.
And without extensive and cumbersome liability waivers, etc., this simply cannot be overcome.
Quite honestly, even if their clients are asking for exposure to Bitcoin, the personal and professional liability is just too great for an RIA to buy it for them.
If something happened to the custodian they entrusted with the Bitcoin, or if they lost the keys themselves in self-custody, it could be professionally catastrophic.
Not worth the risk, they just keep buying the Magnificent Seven instead.
But once the Spot Bitcoin ETF is available?
Game on.
So, how much demand are we talking about here? How much money is on the sidelines that could possibly want a share of Bitcoin through these spot ETFs?
🤩 Sidelined Demand
Back to our Inspirational Tweet today.
Tim Copeland (Editor-In-Chief of @TheBlock) hosted a Twitter/X-Spaces, where VanEck's Matthew Sigel said,"a well placed source that BlackRock has $2 billion of capital lined up from existing bitcoin holders that want to rotate into spot bitcoin ETFs in week one."
If true, this would basically be the entire current market value of all eleven futures-based Bitcoin ETFs today.
And that's just for Blackrock, internally.
Remember, these are going to be publicly listed, publicly traded ETFs, where anyone and their mother and brother and aunt and uncle and niece and grandmother buying for a grandson can trade.
And Blackrock has over $9T in assets under management (AUM).
$2B is a mere .02% of these assets.
That's right, just 2 one-hundredths of one percent.
A rounding error of a rounding error of Blackrock's total AUM.
And then you have Vanguard, Fidelity, PIMCO, Invesco, and so on...
We're talking about tens of trillions of dollars that have been unable to access Bitcoin before now. Sitting on the sidelines.
Waiting for a vehicle that enables them to buy some Bitcoin.
Waiting for the spot-based Bitcoin ETF.
And then there's the RIA community, who could be even more instrumental in the quick adoption of Bitcoin and driving the price higher, especially in the short-term.
Caitlin Cook (@DeadCaitBounce), having dug into some data from ThinkAdvisor agrees:
According to Thinkadvisor: The Registered Investment Advisory industry grew by 2.1% in 2022, with 15,114 fiduciary investment advisors managing $114.1 trillion in assets for 61.9 million clients.
Whoa.
So, that brings us to, what, $140 - $150T on the sidelines?
You don't have to be a math genius to see the opportunity here.
A measly one-half of one percent of that is $725B.
That's virtually the entire market cap of Bitcoin today.
1% of the RIA and institutional assets adds up to 2X today's market cap of Bitcoin.
Just 1%. 🤯
😲 Friction and Multiplier Effect
Lastly, and very importantly, the next question is: if all this capital begins to flow into Bitcoin, what does that actually do to the price?
If another $700B of capital inflows will that just double the price?
To put it short and bluntly, no.
The problem is, with every single publicly traded security or asset, there is something called trading friction. And trading friction is simply the cost of actually entering and exiting the market on top of the actual quoted price in the market.
Say for instance that you wanted to buy $1 million of Apple Stock. You would enter the market and there would likely be enough liquidity to buy that stock pretty close to the current quoted market price.
Why?
Because there are over 15 billion shares of AAPL outstanding and they trade quite readily with an average daily volume of oner 50 million shares.
With a price of $181, that's about $9B of daily market trading activity.
To buy or sell $1 million is nothing in AAPL, you could possibly do it without affecting the price at all.
The multiplier would just be 1X.
On the other hand, if you wanted to buy $1 million of a company called Delta Apparel (DLA), a $7 stock with just 7 million shares and that trades 25 thousand shares per day, that $1 million would represent over 5 full days of trading volume.
This multiplier could be 2X or more, depending on the patience and trading acuity of the buyer.
Meaning, for every $1 someone wanted to buy of DLA, it may move the market cap of that stock by as much as $2 or more.
And then there's Bitcoin.
Bitcoin has a current market value of approximately $865B.
There is a circulating supply of 19.59M BTC coins, however millions of these are likely lost forever, never to trade again, and a great percentage of them are held in cold storage.
Bitcoiners place them in wallets and do not touch them for years.
Some won't touch them forever.
And that means there are only a few million actually on exchanges at any one time, available to trade.
Because of this, even with a $45K+ price, only approximately $20 to $30B of Bitcoin currently trades daily.
And you can see how volatile the price of BTC is when those blue lines of volume spike.
It's extremely difficult to calculate exactly what the multiplier effect of Bitcoin is, but I have seen estimates of anywhere from 2 to 5 to 20X, and higher.
One thing is clear, it is not 1X.
My personal estimate is that it is somewhere between 2X and 5X.
And so if we have $700B that wants to enter the market and buy spot Bitcoin ETFs, this could move the price higher by 2X or more.
This demand could drive the price from $45K to $90K up to over $200K, in my humble little trading opinion.
Trading friction and the multiplier effect.
And so, to bring it all together.
Is there demand, pent up, that is waiting on the sidelines?
Clearly, yes.
Is it significant demand in relation to the current market capitalization of Bitcoin?
Signs point to a strong yes.
And if this demand sets to enter the market soon, will it push the price higher?
Absolutely.
So, is the approval of a spot Bitcoin ETF already priced into the price of Bitcoin?
Absolutely not.
One caveat.
All this attention and hype and confusion will likely make Bitcoin extremely volatile in the days immediately after any approvals and when the ETFs begin to trade. Whether that is next week or April.
So, I personally see any major weakness in Bitcoin's price as a short-term inefficiency gap that is an opportunity to buy, which is exactly what I would do.
And in the unlikely event that the Bitcoin ETF is not approved this next week?
Well then I will be adding all the way down to whatever price it reaches on an event-driven capitulation.
Because I truly believe these spot ETFs will be approved this year. And any delay between now and then is simply an opportunity.
That’s it. I hope you feel a little bit smarter knowing about Bitcoin ETFs and are ready with your own investing plan.
If you enjoyed this newsletter and found it helpful, please share it with someone who you think will love it, too!
Talk soon,
James✌️