Grayscale Investments, the world’s largest digital asset manager with nearly $50 billion in AUM revealed exclusively to Forbes that three of its single asset products, Grayscale Bitcoin Cash Trust (BCHG), Grayscale Ethereum Classic Trust (ETCG), and Grayscale Litecoin Trust (LTCN) have become SEC reporting companies.
With this designation, they join Grayscale’s Bitcoin (GBTC), Ethereum (ETHE), and Digital Large Cap Fund (GDLC) trusts in having to provide the Securities and Exchange Commission (SEC) with regular financial statements and disclosures, and comply with all other requirements stipulated in the Securities Exchange Act of 1934. In essence, all six offerings will now be regulated in a manner similar to publicly-traded companies on national bourses such as Nasdaq or the New York Stock Exchange.
“This is something that investors not only have expressed wanting, but something that we feel they deserve,” said Grayscale CEO Michael Sonnenshein in advance of the announcement. He also said that creating SEC reporting companies “has opened Grayscale to a wider audience of investors who are typically used to seeing that [type of reporting] when they think about making investments.”
Other benefits are more practical. For instance, under this designation the lockup period for shares (Grayscale’s private placements are only available to accredited investors) gets reduced from 12 to six months. It also helps build relationships and credibility with the SEC when the firm eventually moves to convert these trusts into exchange-traded funds (ETFs), which are widely accessible to the retail market.
That said, this news comes at an interesting time for Grayscale, where its flagship product GBTC, with over $30 billion in AUM, is facing an unexpected challenge that could have wider implications for the firm’s future operating model. Although the company operates the world’s largest bitcoin fund, has hired a new head of ETFs, and is building out the infrastructure to support a suite of ETF products, it is not among the 20+ entities that have currently filed an ETF application with the SEC. Their preference is to be a fast follower and rely on Grayscale’s large market size and reputation to maintain a dominant position.
However, this strategy is now coming under question following recent comments from SEC Chairman Gary Gensler, where he expressed a preference for a futures ETF as opposed to one based on the underlying spot market. In a speech on August 3rd he said, “I anticipate that there will be filings with regard to exchange-traded funds (ETFs) under the Investment Company Act (’40 Act). When combined with the other federal securities laws, the ’40 Act provides significant investor protections…I look forward to the staff’s review of such filings, particularly if those are limited to these CME-traded Bitcoin futures (emphasis added).” It is worth noting that as a former chairman of the CFTC, Gensler is intimately familiar with the Chicago Mercantile Exchange (CME). The SEC has not approved any Bitcoin ETFs to date.
Sonnenshein made it clear that he supports a futures ETF, but stated his belief that it would be a disservice for investors if they are not given a choice between spot and futures products. “We would like to see the SEC create a level playing field where they allow both futures based and spot based products in market at the same time so that investors can choose the best product for them…it would be short sighted or myopic of the SEC to be favoring products registering under one set of legislation over the other.”
It is also important to note that spot and futures ETFs are not perfect substitutes for each other, and futures ETFs can end up being more expensive for owners. Neena Mishra, Director of ETF Research at Zachs Investment Research noted, “The problem with futures-based products is that futures have to be rolled over. Usually the futures market is in contango, which means the futures which are expiring later are more expensive. So, the ETF sponsors would be selling cheaper products to buy more expensive products, and all of these costs would roll up to investors. There are some estimates that these could be around 10% in additional costs.”
Mishra also noted that based on her observation of past investor preferences, a spot-based bitcoin product would be more appropriate than one based on futures contracts. She likened bitcoin storage to that of gold, where billions of dollars of the asset can easily be secured. In contrast, other commodities that have larger volumes, are perishable, or expensive to store and transfer such as oil, natural gas, or agricultural products, cater better to futures ETFs. “We can compare custody of bitcoin with the custody of gold, which are similar. That is why it makes more sense for the SEC to approve a physically-backed product.
There are arguments to be had for both sides, but one concern that is less uncertain is the fact that a futures-based ETF would represent a major challenge to GBTC. The shares have been trading at a double-digit discount for much of the last few months, it is currently at -13.98%, leading to some investor unrest. Additionally, although GBTC’s lockup period is now just six months, that can seem long to investors in this highly volatile industry. ETFs have no lockup period, and some investors may be willing to accept higher costs and management fees in exchange for liquidity. Sonnenshein acknowledged that this was a concern, saying “I think that that’s certainly a possibility.”
With this broader context, the news of BCHG, ETCG, and LTCN becoming SEC reporting companies takes on added importance for Grayscale. The CME can only offer bitcoin and ether products, at least for now, so Grayscale’s other potential ETFs may not face the same type of competition being felt by GBTC and ETHE if the SEC opens the floodgates and they become ETFs in the future. Additionally, institutional interest in alternative digital assets continues to grow, often at bitcoin’s expense, as its percentage of crypto’s overall market capitalization continues to drop. It is currently near a 2021 low of 40.62%, which suggests that investors are increasingly looking beyond bitcoin for exposure and could look for other altcoin ETFs to allocate positions.
Therefore, this may not have been Grayscale’s original intention, but it could turn out to be an important hedging strategy for the company.