Insight
February 9, 2024
Now that the initial excitement has settled, we can take a closer look at the spot ETF complex, which has been making waves since its launch almost a month ago. While most of the post-launch issues have been resolved, there is one intriguing aspect that still stands out - the consistent price premium of BlackRock's iShares Bitcoin Trust (IBIT) to its net asset value (NAV).
Last week, we brought attention to the overall trend of ETF prices narrowing towards their NAV since the launch on January 11th. This week, we dive deeper into that trend, to bring this observation about IBIT’s premium to NAV. This premium has been around 20 bps (0.2%) since finding a floor about two weeks after launch.
The graph below illustrates the daily NAV dynamics. IBIT continues to trade at a premium to its NAV, consistently above any other competing spot ETF. GBTC, which appears to have the narrowest spread to NAV, traded at a discount as it has only been seeing outflows whereas the other fund has only seen inflows. Note: this is intraday data sampled at 15-minute intervals and averaged over the trailing hour. It differs from close price relative to NAV, which tends to jump around.
To fully understand the reasons behind the existence of this premium, we must delve into the inner workings of ETFs. ETFs closely follow the Net Asset Value (NAV) due to the process of arbitrage. Market makers (MM) and Authorized Participants (AP) have the ability to purchase or sell ETF shares on the secondary market and exchange them for the underlying basket of assets. The profit for MM or AP is determined by the difference between the trading value of shares and the NAV of the portfolio.
In the case of IBIT, which has only experienced net inflows, arbitrageurs would short (sell) the ETF shares that are trading at a premium to NAV and concurrently ask the ETF sponsor (via an AP) to create shares in exchange for cash as well as buy the underlying bitcoin. The ETF sponsor would instruct a bitcoin trading entity, called a Liquidity Provider (LP) or Bitcoin Trading Counterparty in regulatory filings, to purchase the corresponding bitcoins, which would be delivered to the trust's (ETF) custody account in exchange for cash which will be sent to the LP for the purchase.
The arbitrageur would receive shares from the ETF sponsor (via the AP), effectively covering their short position and liquidate their bitcoin hedge.
The reason why this premium continues to persist, despite the existence of 0.2% arbitrage profits, is likely due to factors inherent within the functioning of IBIT. Specifically, trading costs on the spot leg of the transaction likely pose a significant friction. Our hypothesis is that these trading fees incurred on the spot side, which amount to approximately 0.2% of the notional value of created shares, prevent arbitrageurs from closing the gap further with NAV.
It is our understanding that Coinbase serves as the sole Bitcoin Trading Party for IBIT, responsible for acquiring bitcoin for the fund. It is likely that Coinbase charges an agency fee for the notional amount of bitcoin it acquires. Why would BlackRock (presumably) choose to work with only one Liquidity Provider while competitors named multiple providers? It is conceivable that during their due diligence process, BlackRock was only comfortable with Coinbase as a counterparty for spot trading. Furthermore, Coinbase operates one of the major exchanges that constitutes the underlying index for IBIT’s NAV, the CME CF Benchmarks Reference Rate - NY Variant, which may grant it an advantage in replicating the underlying index.
So why do certain ETFs have exclusive Liquidity Provider relationships with Coinbase but do not consistently trade at premiums to NAV? Our guess is that these funds may have LPs not named in the registration statements filed prior to launch. Either that or they have different economic arrangements with Coinbase. Either way, if our understanding is correct, this premium could be persistent until BlackRock's arrangement with Coinbase changes or more LPs are added.
ETF data this week shows a significant net inflow in the spot ETF complex with a big day on Thursday. This comes at GBTC outflows, which now have broken $6.3B, continue to slowdown, but are still running at about $100M per day.
While we have written at length about the outflows from GBTC, two other possible “donors” to the spot ETF challengers in the US are the futures-based ETFs, primarily ProShares Bitcoin Strategy (BITO) ETF, and the Canadian spot ETF complex. We saw our first casualty of the ETF wars recently with the liquidation and closure of the VanEck Bitcoin Strategy ETF (XBTF), a futures-based ETF with only about $38M in AUM at the time of closure. But the rest of futures ETF complex has seen about $329M of cumulative daily fund flows (not including the $38M XBTF liquidation). The Canadian spot ETFs, which have been around for nearly 3 years now, could have been accessed by US-based investors absent a similar offering in the US. Since the launch of spot ETFs in the US, Canadian ETFs have seen a cumulative outflow of $298M USD, which has potentially flowed into US spot ETFs.
Not much has changed in the spot ETF leaderboard, aside from AUM balances. BlackRock and Fidelity continue to be the top challengers, each now both well above $3B in AUM.
Bitcoin roared back this week as a favorable risk asset backdrop and renewed ETF inflows powered spot through the $47K level. Bitcoin is now back to the price levels seen at the peak of the ETF hype, right at the launch. This is a strong bounce back for the asset, which fell over 20% on the wake of the launch, which was underwhelming at the onset. However, with over $2.2B of net inflows since launch, and money continuing to come into the spot ETF complex, it’s clear that this ETF trend is continuing. As mentioned, risk assets fared well this week, with the S&P 500 temporarily breaking 5K and ending the week up 1.9%. The Nasdaq Composite rose 2.8% as tech and growth stocks continue to outperform. Bonds struggled on the week, with investment grade corporate bonds down 2.1%, high yield corporate bonds down 0.2%, and long-term US Treasuries down 4.3%. Gold fell 1.0% while oil rallied 3.3%.
Bankrupt Genesis Global settles NY Attorney General's lawsuit - Reuters
Waters: Lawmakers 'Very, Very Close' on Stablecoin Deal - Politico
SEC Votes to Expand ‘Dealer’ Rule to Rope in Crypto Firms - Blockworks
MicroStrategy’s Bitcoin Bet on Verge of Accounting Windfall for Investors - Bloomberg
MicroStrategy Announces Fourth Quarter 2023 Financial Results; Now Holds 190,000 BTC - MicroStrategy
Crypto Custody Software Provider Fireblocks Eliminates Jobs - Bloomberg
B2C2 Gains Luxembourg Virtual Asset License as EU's Crypto Rules Set to Kick In - CoinDesk
Crypto Firm Bakkt Warns It Might Not Be Able to Remain in Business - CoinDesk
Feb 13 - January CPI reading
Feb 15 - End of comment period for options on bitcoin ETFs
Feb 23 - CME expiry
April 21 - Bitcoin block reward halving
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