Bitcoin (BTC) has been on an impressive price run since the announcement of the United States Securities and Exchange Commission’s approval of ProS
Bitcoin (BTC) has been on an impressive price run since the announcement of the United States Securities and Exchange Commission’s approval of ProShares’ Bitcoin futures exchange-traded fund (ETF) early in October, hitting a new all-time high of over $69,000 on Nov. 10, as per data from TradingView.
However, the financial watchdogs soured the mood by rejecting VanEck’s proposal for a spot ETF on Nov. 12, which acted as a trigger for the price of the flagship cryptocurrency to drop to a 30-day low of $55,705 on Nov. 19. The token is trading in the $56,000 range at the time of writing.
An ETF is a security class that tracks an asset or basket of assets, in this case Bitcoin, and can be traded on a stock exchange like any other stock. Proshares’ BTC ETF was the first ETF to gain approval from the SEC after over 20 applications had been made to the financial regulators in the past.
Jan van Eck, CEO of VanEck, wasn’t happy about the rejection of his company’s ETF.
We are disappointed in today’s update from the SEC declining approval of our physical bitcoin ETF. We believe that investors should be able to gain #BTC exposure through a regulated fund and that a non-futures ETF structure is the superior approach. @tyler @gaborgurbacs
— Jan van Eck (@JanvanEck3) November 12, 2021
The difference between the approved Bitcoin ETFs trading currently across various stock exchanges in the U.S. such as the Nasdaq or CBOE and VanEck’s rejected Bitcoin ETF is that VanEck’s ETF proposal was for a spot ETF, and the approved ETFs are all futures-based ETFs.
Van Eck said that a spot ETF is the better choice, tweeting, “We believe that investors should be able to gain #BTC exposure through a regulated fund and that a non-futures ETF structure is the superior approach.”
SEC Chair Gary Gensler has previously voiced his support for futures-based BTC ETFs instead of price-based. In the official decision to reject VanEck’s ETF application, the SEC said that the product failed to meet the requirement “that the rules of a national securities exchange be ‘designed to prevent fraudulent and manipulative acts and practices’ and ‘to protect investors and the public interest.’”
Futures are often a higher-risk product
However, it could be that financial regulators in the U.S., in rejecting VanEck’s spot ETF, have unleashed a risker product on the same investors it aims to protect, as it allows institutional Wall Street money to leverage Bitcoin’s price movements.
A futures contract gives the holder or buyer of the contract the obligation to purchase the underlying asset and the writer or seller of the contract the obligation to sell and deliver the asset at a specified price on a specified future date unless the holder closes their position prior to the expiration date.
Combined with options, these financial instruments are often used to hedge other positions in the investor’s portfolio or make profits from pure speculation without needing to buy the underlying asset. These markets are usually dominated by institutional investors that have deep pockets to buffer any losses in their portfolio.
Although futures could be used solely to minimize risk in an investor’s profile, where they get riskier is the use of leverage in futures markets. Leverage is the ability to use borrowed funds and/or debt as trading capital in the market to amplify returns from a position. Essentially, it is used by investors to increase their buying power multifold in the markets.
Related: Inflationary winds from around the world spell a sea change for Bitcoin
While leverage also exists in the spot markets, its impact is significantly smaller. However, with futures contracts, the leverage could be up to 95%, which entails that an investor can easily purchase an options contract with 5% of the required capital and borrow the rest. This means any small fluctuations in the price of the underlying asset will have a large impact on the contract, leading to a margin call for investors due to forced liquidations of futures contracts.
A margin call is a scenario wherein the value of the investor’s margins has fallen below the exchange or broker’s required amount. This calls for investors to deposit an amount known as maintenance margin to the account to replenish back to the minimum allowed value. This could also lead to investors having to sell other assets in their portfolios to make up for this amount.
It is important to note that these risks inherent for futures contracts have nothing to do with the nature of the underlying products, but from the methodology by which futures contracts are traded across financial markets. Du Jun, co-founder of cryptocurrency exchange Huobi Global, spoke to Cointelegraph about the SEC’s decision:
“Given the current situation, futures ETFs may be the best choice accepted by the SEC. It’s true that futures ETFs are often complex with a higher risk profile, but the futures ETFs have some…
cointelegraph.com