Insight
April 5, 2024
Research Weekly - 1Q24 Review and Look Ahead
Bitcoin experienced a remarkable rally of 67.0% during the quarter, marking as one of its most impressive first quarters to date. This surge was primarily fueled by the overwhelming demand for the recently introduced spot bitcoin ETFs. Despite a slow start that then flipped to outflows, both the spot ETFs and IBIT in particular, have emerged as the top-performing ETF launches in history. The influx of retail and advisor interest, previously hesitant to invest in spot bitcoin through alternative channels, has been the driving force behind this surge in demand.
Most other asset classes performed well during the quarter as low unemployment, a strong economy, and inflation which, while not yet extinguished, is down well off the highs, provided a supportive backdrop for asset performance. The market has yet to get the interest rate cut that it has desired as the market has been expecting interest rate cuts from the FOMC “6 months from now” for over a year at this point. We are not convinced that given the inflation numbers the FOMC will deliver on that expectation but given the performance in risk assets the past year, that doesn’t seem to be necessary for strong performance for bitcoin, stocks, gold, and real estate.
The first quarter has historically been good for bitcoin in terms of price performance and this year that trend has continued. Ranking as bitcoin's fourth best first quarter ever and the second best since 2013, 1Q24 sets a positive tone for the year ahead. While the launch of ETFs provided a significant boost, the upcoming halving will also play a crucial role in the price cycle. Although the supply reduction from the halving is substantial (equivalent to 450 bitcoins/day or $31.5M/day at $70,000/BTC), it may not have the same impact as the surge in demand seen from the introduction of ETFs.
Bitcoin's correlations with other major asset classes, such as stocks and the US dollar index, saw an increase (absolute values) from near zero levels at the end of 2023, but decreased in comparison to gold. We believe that the shift doesn't hold much significance, however, as Bitcoin's 90-day rolling correlation has historically fluctuated between +0.3 and -0.3. The monetary and fiscal interventions in response to the Covid-19 crisis altered Bitcoin's relationship with other assets, but this change appears to have been temporary. With the era of money printing and rate hikes to combat inflation now in the past, Bitcoin's long-term correlations are showing signs of reverting to their historical averages.
Undoubtedly, the standout moment of the quarter was the approval and introduction of spot ETFs in the US. It was an event filled with unexpected twists and turns - a hack on the SEC's twitter account prematurely announcing the approval, the approval coming right on the final decision deadline, initial inflows falling short of expectations, leading to outflows, and then a remarkable turnaround resulting in the strongest inflows ever seen in ETF launches. As we wrap up the first quarter, it's clear that the ETFs, both collectively and individually, have been a resounding success.
Keeping this in mind, we wanted to share the end-of-quarter results on how the ETFs performed collectively and individually. At a glance, all ETFs experienced inflows, except for GBTC which showed only outflows, and BTCO which had redemptions on certain days, likely linked to Galaxy's selling activities. ARKB had a single outflow on 4/2 (Tuesday), marking the first true outflow among non-GBTC and BTCO ETFs.
Together, the ETF industry saw a remarkable $12.1B in net inflows during the quarter. Interestingly, while GBTC faced outflows of $14.8B, the 9 "challenger" ETFs attracted a substantial $26.9B in net inflows. GBTC maintained its position as the leader in AUM, with BlackRock's iShares fund (IBIT) following closely in second place, and Fidelity (FBTC) securing third place. Notably, crypto native companies, ARK 21Shares and Bitwise, claimed the 4th and 5th spots, showcasing impressive marketing capabilities. This success puts them ahead of well-established players like VanEck, Invesco, and Franklin Templeton.
In the aftermath of the spot ETFs launch, the resilience of BITO and other bitcoin-futures based ETFs has been a surprise. Despite BITO having a higher expense ratio (0.95%) compared to spot ETFs (except GBTC), along with roll costs and tracking error to spot, investors have only redeemed $55.2M from futures funds. The recent closure of the VanEck Bitcoin Strategy ETF (XBTF) was a casualty in the competitive ETF landscape, yet the bitcoin futures ETF category still boasts a substantial $3.1B in AUM. This highlights the value of investor recognition, being a first mover, and the potential importance of derivatives markets, especially with spot ETFs still awaiting approval for options trading.
Before the introduction of spot ETFs, Volatility Shares's 2x Bitcoin Strategy ETF (BITX) held assets under management of $222.5M. In comparison, BITO had $2.2B in AUM at that time. Over the quarter, leveraged futures funds, such as BITX and the newly launched BFTX in February, amassed over a billion dollars in funds. As the quarter ended, these leverage futures funds, with their 2x leverage, now possess more CME traded bitcoin futures than BITO. It is evident that investors are gravitating towards funds like BITX to leverage market movements, especially remarkable given the fund's 1.85% expense ratio.
It's fascinating to see how US investors found a refuge in Canadian spot ETFs, which emerged in February 2021 as a viable alternative to options like GBTC in the US. The recent quarterly data shows a $423.6M outflow from these funds and sheds light on the interest from American investors. Our speculation is that a considerable portion of these funds may have flowed back into US ETFs.
As one of the most closely monitored funds in the market, GBTC has garnered significant attention due to the outflows associated with the product. When ETF trading began, GBTC had a considerable advantage with $28.6B in AUM. It did, however, have a notable disadvantage, a 1.5% expense ratio, which was 5 times higher than that of the next highest competitor. By the end of the quarter and after processing $14.8B in redemptions, GBTC's AUM lead has significantly narrowed to $23.6B, compared to IBIT's $17.8B. We estimate that $4.8B of these redemptions were linked to resolving the Genesis bankruptcy, Gemini Earn program, and FTX bankruptcy, leaving approximately $10.1B in redemptions from other GBTC holders. The looming questions are when will these redemptions come to a halt, and what strategies should Grayscale implement to address this issue effectively?
Notably, redemptions appear to be decelerating recently with only $75M - $82M per day in redemptions the past 3 days. This is a steep drop from the March daily average of $318.1M. Despite this apparent slowdown, accurately predicting the total outflows remains a challenging task given our outside perspective, which is why we have refrained from making specific forecasts.
In many ways, Grayscale holds the key to shaping its future. While it could potentially lower its fee to compete with industry giants like BlackRock and Fidelity, such a move may not be financially optimal given the prevailing fee structures among competitors. Although some firms offer fee waivers or charge no fees at all, their normalized expense ratios remain substantially lower than GBTC's 1.5% fee. Grayscale's initiative to introduce a low-fee version of GBTC under the BTC ticker, akin to how GLD/GLDM and IAU/IAUM operate in gold ETF markets, is a step in the right direction. However, the launch of this product may face delays as it requires approval from the SEC. Perhaps this is why after initial resistance, recent comments from Grayscale's CEO suggest that it may be considering a fee reduction for GBTC.
As we reflect on the past quarter, it's evident that significant strides have been made towards resolving the challenges that arose during the 2022 crash. From the sentencing of Sam Bankman-Fried (SBF) to the commitment by Gemini to fully reimburse Earn investors, and the impending sentencing of Changpeng Zhao (CZ), the cryptocurrency landscape is experiencing a wave of closure and progress. Furthermore, companies like Genesis, Celsius, BlockFi, and FTX have shown commendable dedication to navigating through their bankruptcy processes successfully. This period marks a turning point in the industry, demonstrating resilience and commitment to overcoming obstacles.
Bitcoin made history on Tuesday, March 5th, by smashing through the $69,000 barrier and reaching a new all-time high. This remarkable achievement marks the recovery from a 846-day drawdown that began on November 10th, 2021. Following the new high, bitcoin went on to hit $73,835.57 (on Coinbase), suggesting that it isn't ready to slow down just yet. Our analysis of blockchain data from previous cycles indicates that there may be more excitement on the horizon.
This recovery comes well ahead of prior drawdown recoveries. The prior two cycle recoveries came 778 and 716 days after the trough, while this one came only 470 days after the trough. In that sense, this recovery came “ahead” of where we expect a recovery to normally land. That being said, neither of the prior recoveries had such a potent catalyst as the spot ETF in the US.
Bitcoin’s hash rate, a measure of the collective computational effort expended by miners, continued its relentless growth this quarter, up about 15%. This has been due to favorable economics for miners driven by higher prices. Transaction fees have receded from the inscription/Ordinals driven highs we saw last year.
Bitcoin's hash price, the compensation miners receive for their computational work on a per hash basis, experienced a significant surge this quarter despite the ongoing uptrend in hash rate. This can be attributed to the 67.0% increase in price during the quarter, far outpacing the 15% growth in hash rate. Transaction fee hash price, the fees miners earn from transaction fees, has reverted to more typical levels following the decline of the inscription/Ordinals trend from its peak. Nevertheless, the hash price has been maintaining a steady level around $100/PH/s.
As the world of digital assets continues to evolve, Ordinals introduced a groundbreaking experiment over a year ago that revolutionized data encoding on Bitcoin's blockchain. Initially starting with NFTs predominantly in image form, this innovative approach paved the way for the emergence of BRC-20s in spring 2022, introducing fungible assets on Bitcoin, particularly in the realm of memecoins with limited utility. Memecoins have undeniably been a prevalent trend in this cycle, and while BRC-20s initially gained significant traction, their popularity has waned a bit.
This quarter had several important regulatory updates, the biggest of which had to do with the approval of spot bitcoin ETFs in the US. The other two important updates had to do with ongoing court cases. In the case of the litigation between the SEC and Coinbase, the judge in the case denied Coinbase’s motion to dismiss most of the charges, including acting as a clearing agency, broker, and exchange, as well as the unregistered offering of securities under its staking service. In the Ripple case with the SEC, the agency is seeking $2B in fines and penalties under violations associated with primary sales of unregistered securities. Finally, a number of sponsors are hoping for approval of a spot ether ETF and have submitted applications which require a response from the SEC beginning in May.
The share prices of "crypto firms," particularly Coinbase, MicroStrategy, and Galaxy Digital, experienced a significant surge in the first quarter as the value of their assets and business operations tied to crypto prices likely saw an improvement during the period. On the other hand, the stock performance of bitcoin miners remained subdued. Our speculation is that some of this can be attributed to concerns surrounding the upcoming halving, while some may be linked to the dilutive impact of stock issuances within the industry.
One key metric we analyze is the ownership duration of bitcoin and the proportion of coins held for a year or more without being moved. This data provides valuable insights into cycle timing. When the price rises, long-term holders tend to transfer their coins, likely for selling, while during price declines, coins are held onto by long-term investors. In the last quarter, we observed a subtle decrease in the percentage of bitcoins held for over a year, signaling the beginning of long-term holders moving their coins. This trend is a positive sign for the continuance of the cycle, as the ratio has not yet experienced a significant drop, as seen in the previous three cycle peaks.
The upcoming Bitcoin halving event on April 20th marks a significant milestone as the block subsidy for miners is set to be reduced from 6.25 bitcoins to 3.125. This adjustment will cut the daily production of bitcoins in half, from 900 bitcoins to 450, translating to a decrease in daily supply from $63 million to $31.5 million at a price of $70,000 per BTC. While this reduction is more crucial for miners who heavily rely on the block subsidy for revenue, the impact on traders and investors is relatively limited. The $31.5M decrease in daily new supply represents a small portion of the global spot trading volumes, which registers in the multiple billions of dollars per day.
In terms of investor interest and price movements, the focus should be on the demand side of the equation. Recent trends such as the net inflows into the ETFs highlight the growing importance of demand dynamics in influencing bitcoin's value.
While the halving event may not serve as an immediate price catalyst, historical data suggests that it plays a vital role in shaping bitcoin's price cycles. Typically, there is a lead-up to the halving followed by substantial returns post-event. With the current positive price performance pre-halving, investors have reasons to be optimistic about the future potential of bitcoin.
The movement of funds in and out of the spot ETF complex is expected to be closely monitored in the future. One of the most frequent inquiries we receive regarding ETFs is about the investors behind these funds. From our observations, it seems that retail investors are the primary purchasers, followed by Registered Investment Advisors (RIAs), family offices, and hedge funds. While institutional investment firms are responsible for creating these ETFs, it is noteworthy that they are not typically the ones acquiring them. Currently, wirehouses may or may not provide access to these ETFs for brokerage clients. However, the potential for advisors to add them in discretionary accounts for their clients likely presents an incremental opportunity. Furthermore, incorporating allocations in model portfolios for clients could further enhance the appeal and utilization of these ETFs.
With the approval of spot bitcoin ETFs in January, there was a flurry of excitement for the potential of a spot ether ETF. Essentially all of the same bitcoin spot ETF sponsors have spot ether ETF applications in front of the SEC, including BlackRock, Fidelity, and Grayscale. Unfortunately, the probability of approval, even though there are already ETFs based on ether futures traded on the CME, is not high. With 6 weeks to go before the SEC final deadline for the application first in the queue, we have seen zero meetings between the SEC and issuers. Ahead of the launch of spot bitcoin ETFs, we saw at least 2 dozen meetings between the sponsors and the agency.
The other regulatory item we have been watching is approval or denial on allowing options on the spot ETFs. Numerous exchanges have filed 19b-4s to list and trade options on the various ETFs. If these follow the normal 240-day approval deadline of other 19b-4s, September 21st would be the final deadline for the SEC to respond, which is likely working in concert with the CFTC on the matter. We don’t think options approval will have a material impact on fund flows or AUM for the ETFs, but it might alter trading volume and potentially intraday spreads to NAV as the need for delta hedging by dealers would ramp up.
Join us on Thursday, April 11th at 10:30 AM ET as we delve into all these events and gain further insights from NYDIG's team of subject matter experts. Please join George Kirchner, Global Head of Business Development, Pete Janney, Global Head of Sales and Trading, Ben Lawsky, Global Head of Public Policy and Regulatory Affairs, and Greg Cipolaro, Global Head of Research for an informative discussion. Secure your spot by registering below.
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