Bitcoin Spot ETF Vs. Bitcoin Futures ETF: What's the Difference?

Introduction

The growing acceptance of Bitcoin has prompted traditional financial institutions to explore its integration into established stock exchanges through the introduction of Bitcoin Exchange-Traded Funds (ETFs).

Bitcoin Spot ETFs and Bitcoin Futures ETFs both aim to provide a regulated and accessible avenue for a new wave of investors, particularly those not inclined or tech-savvy enough to navigate cryptocurrency wallet setups. Although they’re investing in Bitcoin as an Underlying asset via stock exchanges, their concepts and mechanisms differ significantly.

This article takes a closer look at the difference between Bitcoin spot and futures ETFs and highlights their respective pros and cons.

What are ETFs?

Source: Kenyan Wallstreet

Exchange-traded funds (ETFs) are financial products that provide a convenient way for investors to gain exposure to a basket of assets such as stocks, bonds, or commodities, without directly owning them.

They create a cost-effective way to invest in various markets. These funds can be traded throughout the day on stock exchanges at market prices, allowing investors to buy or sell them at any time during trading hours.

The goal of ETFs is to replicate the performance of a specific index or asset class, providing investors with a simple and efficient way to maximize gains from a particular market or sector. ETFs are sold as shares on the stock exchange so can be bought and sold via a broker.

Here are common ETFs in the financial markets:

1. SPDR S&P 500 ETF (SPY): Tracks the performance of the 500 largest publicly traded companies in the United States.

2. SPDR Gold Shares (GLD): Represents fractional, undivided beneficial ownership interests in the SPDR Gold Trust, providing exposure to the price of gold.

3. iShares U.S. Real Estate ETF (IYR): Tracks the performance of the Dow Jones U.S. Real Estate Index, offering exposure to the real estate sector in the U.S.

In Cryptocurrency, ETFs are used to track the performance of specific digital currencies or a basket of cryptocurrencies.

Here are popular ETFs in the crypto market:

1. Valkyrie Bitcoin Miners ETF (WGMI): An actively managed crypto ETF investing in companies generating at least 50% of their revenue from Bitcoin mining operations or related services.

2. Hashdex Bitcoin Futures ETF (DEFI): Tracks an index reflecting the average closing settlement prices for front-month bitcoin futures contracts listed on the Chicago Mercantile Exchange.

3. ProShares Ether Strategy ETF (EETH): Tracks the performance of Ether by investing in Ether futures.

What are Bitcoin ETFs?

Bitcoin ETFs are investment funds that track the price of Bitcoin. They operate similarly to other ETFs but are specifically designed to mirror the performance of Bitcoin. The shares of a Bitcoin ETF are traded on traditional stock exchanges, providing easy access for traditional investors to participate in the cryptocurrency market.

Currently, the two types of Bitcoin ETFs trading on stock exchanges are Bitcoin Spot (real-time) and Bitcoin Futures (predetermined future dates) ETFs.

Why Bitcoin ETFs?

Source: U.Today

Bitcoin ETFs provide a pathway for investors to invest in Bitcoin without the need to possess the actual cryptocurrency. This allows individuals to capitalize on Bitcoin’s potential for profit without navigating the complexities of acquiring and managing the digital asset, including the steps involved in registration on crypto exchanges and Know Your Customer (KYC) processes.

These ETFs operate within the regulatory guidelines of their respective markets, presenting a more appealing option for institutional investors seeking to participate in traditional markets while gaining exposure to Bitcoin.

By offering this increased accessibility, Bitcoin ETFs play a crucial role in encouraging a wider audience to enter the cryptocurrency market, this broader participation can potentially contribute to the mainstream acceptance of digital currencies.

Bitcoin Spot ETF vs Bitcoin Futures ETF

Bitcoin Spot ETF

Source: CoinGape

Bitcoin Spot ETFs are financial instruments that mirror the market value of Bitcoin, offering investors direct exposure to the cryptocurrency. When you invest in a Bitcoin spot ETF, your ownership stake corresponds to the actual Bitcoin held by the fund. The fund manager purchases Bitcoin equivalent to your investment, and when you exit your position, they sell an amount equivalent to your initial investment. For example, A Bitcoin spot exchange-traded fund contains 1,000 Bitcoin coins. If the Bitcoin spot ETF issues 1,000 shares, each share is equal to 1 BTC. A shareholder will find that the value of their share remains equal to the market price.

This highly regulated instrument has been under scrutiny from regulators due to concerns about market manipulation and the direct ownership of Bitcoin. Notably, Spot bitcoin ETFs are currently available in a few countries, including Canada, Germany, Brazil, Australia, Jersey, Liechtenstein, Guernsey, and the Cayman Islands.

Prominent investment firms like BlackRock and Grayscale have advocated for spot ETFs in the United States, but the regulatory agency SEC has consistently rejected their proposals, there’s hope of an acceptance in 2024.

Popular Bitcoin Spot ETFs

• Purpose Bitcoin ETF (BTCC): One of the first Bitcoin ETFs to be launched in North America, primarily available in Canada.
• Jacobi FT Wilshire Bitcoin ETF (BCOIN): Listed on the Euronext Amsterdam Stock Exchange and regulated by the Guernsey Financial Services Commission (GFSC).
• Global X 21Shares Bitcoin ETF (EBTC): Provides investors with a return that (before fees and expenses) tracks the price of Bitcoin in Australian dollars.

Advantages of Bitcoin Spot ETFs

• Transparency: Bitcoin Spot ETFs offer transparency as they directly track the current market price of Bitcoin. Investors can easily assess the fund’s value in real-time.
• Market Exposure: Investors gain direct exposure to the underlying asset, Bitcoin, allowing them to profit from price fluctuations.
• Reliability and Increased Adoption of Bitcoin: Experts believe Bitcoin spot ETFs will open the traditional financial markets to Bitcoin providing access to more funds for investment.

Disadvantages of Bitcoin Spot ETF

• Volatility Impact: Bitcoin Spot ETFs are susceptible to the volatility of the cryptocurrency market. Sudden price fluctuations in Bitcoin can impact the value of the ETF, potentially leading to increased risk for investors.
• Limited Hedging Opportunities: Spot ETFs may lack advanced hedging mechanisms compared to futures-based alternatives. This limitation could affect the fund’s ability to mitigate risks effectively, especially during turbulent market conditions.
• Market Manipulation Risks: The decentralized and relatively young nature of the cryptocurrency market may expose Bitcoin Spot ETFs to potential market manipulation. This is among the reasons why the SEC is yet to approve Bitcoin spot ETFs in the United States as of the time of writing, December 2023.
• Lack of Diversification: Spot ETFs are directly tied to the performance of Bitcoin. The lack of diversification might be a disadvantage for investors looking for broader exposure to various cryptocurrencies.
• Increased Transaction Cost: Investing in Bitcoin spot ETFs can be more expensive when compared to buying Bitcoin via exchanges, especially for investors with small capital.

Bitcoin Futures ETF

Source: CoinDesk

Bitcoin Futures ETF is a type of Exchange-Traded Fund that derives value from futures contracts linked to Bitcoin’s price. Unlike the spot ETF that directly holds Bitcoin, a futures ETF involves contracts obligating the buyer to purchase or the seller to sell Bitcoin at a predetermined future date and price.

Managed by an authorized financial institution on behalf of investors, these funds hold futures contracts that speculate on the future price movements of Bitcoin. These contracts allow investors to make predictions on Bitcoin’s future price without owning the cryptocurrency. It’s a financial tool that grants investors the ability to leverage both upward and downward price movements, offering flexibility not found in spot ETFs.

For example, an imaginary Bitcoin futures ETF has a contract to buy 1 BTC at a predetermined price of $50,000 in three months. If after three months, the market price of Bitcoin is higher than the predetermined price of $50,000, the futures contract is considered profitable. However, if the market price in three months is lower than the contract price of $50,000, the futures contract incurs a loss.

Note: The profitability or loss of the futures contracts is realized when the contract is closed or settled.

The first Bitcoin Futures ETF to gain regulatory approval from the U.S. Securities and Exchange Commission (SEC) was the ProShares Bitcoin Strategy ETF (BITO) on Oct. 15, 2021, and traded on the Chicago Mercantile Exchange (CME).

Popular Bitcoin Futures ETFs

• VanEck Bitcoin Strategy ETF (XBTF): Provides indirect exposure to bitcoin by investing in cash-settled bitcoin futures contracts traded in the CME; available in the United States.
• CSOP Bitcoin Futures ETF (3066): Managed by CSOP Asset Management to achieve long-term capital growth by primarily investing in CME Bitcoin Futures, adopting an active investment strategy; available in Hong Kong.
• Valkyrie Bitcoin Strategy ETF (BTF): Invests in exchange-traded futures contracts on Bitcoin and Collateral Investments; available in the United States.

Advantages of Bitcoin Futures ETFs

• Speculative Opportunities: Futures ETFs allow investors to speculate on the future price movements of bitcoin creating a potential for significant returns, especially during volatile market conditions.
• Risk Management: Futures contracts enable risk management strategies like hedging, providing a way for investors to protect their portfolios from volatile price movements.
• Accessibility: Bitcoin Futures ETFs are tradable on stock exchanges and are well regulated, with multiple options to choose from.

Disadvantages of Bitcoin Futures ETF

• Complexity: Futures trading involves a level of complexity that may be challenging for inexperienced investors to understand, potentially leading to uninformed decisions.
• Rolling Contracts: Futures contracts have expiration dates, requiring investors to roll over or close positions before expiry, which can incur additional costs.
• Counterparty Risk: Futures contracts are agreements between two parties. If the counterparty defaults, it can result in financial losses.

Key Differences and Considerations for Investors

Source: Blockchain Council

The key differences between Bitcoin Spot ETFs and Bitcoin Futures ETFs are highlighted in the table below:

Recent Developments

Anticipation Builds as U.S. Bitcoin Spot ETF Decision Nears

The prospect of Bitcoin spot exchange-traded funds (ETFs) gaining approval in the United States has stirred considerable excitement in the crypto community. Historically, the U.S. SEC has rejected numerous proposals from different investment companies seeking approval for Bitcoin spot ETFs.

However, the tide began to turn when investment giant BlackRock submitted its spot ETF proposal in June 2023, prompting a flurry of submissions from other companies to the SEC.

By August 2023, crypto investment firm Grayscale took legal action against the SEC, contesting the SEC’s claim that its proposal lacked adequate safeguards against fraudulent and manipulative practices, with the court ruling in favor of Grayscale stating that regulator’s decision was “arbitrary and capricious.”

This legal victory has further boosted optimism regarding the potential approval of multiple Bitcoin spot ETFs, and with a dozen Bitcoin spot ETF applications under consideration, the pending decision holds significant implications for Bitcoin and the cryptocurrency market. If approved, Bitcoin stands to carve out a portion of the $50 trillion U.S. wealth management industry.

As the SEC’s approval window in early January 2024 approaches, the crypto community is hopeful that the new year may usher in a historic moment with the approval of Bitcoin spot ETFs.

Among the notable ETF applicants awaiting the SEC’s approval are industry operators like Hashdex, 21 Shares (Ark), Bitwise, VanEck, Wisdomtree, Invesco (Galaxy), Fidelity, Valkyrie, Global X, and Franklin Templeton. The crypto industry awaits the SEC’s final move, hoping for a positive outcome.

Conclusion

Bitcoin Spot ETFs, although still not widely accepted, offer investors price exposure to bitcoin, as their investments are directly committed to the purchase of bitcoin, without personally holding it in their wallets. For Bitcoin Futures ETFs, instead of holding the physical asset, these ETFs derive their value from the anticipated future price movements of Bitcoin, offering hedging opportunities as investors can take short positions on the future price of Bitcoin.

Both types of ETFs contribute to the diversification of investment options in the crypto space and can indirectly increase the adoption of Bitcoin while still creating a safe space for investors from traditional financial institutions. However, Investors must carefully weigh the advantages and risks associated with each type to make informed decisions based on their financial objectives. Finally, the choice between a Bitcoin Spot ETF and a Bitcoin Futures ETF boils down to investor preferences, risk tolerance, and investment goals.