In today’s newsletter, Sarah Cummings of Morgan Stanley Investment Management provides insights and considerations when evaluating crypto exchange-traded funds.
Next, in “Ask an Expert,” Ryan Tannahill of iA Private Wealth USA answers questions about borrowing against Bitcoin assets.
Valuing Crypto ETPs in a Changing Market
When evaluating exchange-traded funds (ETFs), investors typically focus on factors such as fees, liquidity, and monitoring. Bitcoin spot exchange-traded products (ETPs) introduce additional dimensions of due diligence that investors may be less accustomed to evaluating. First launched in January 2024, these vehicles – structured as grantor trusts under the 1933 Act – seek to track bitcoin. performance using a designated pricing benchmark. Understanding how their structure, storage methods and benchmarks work is essential to evaluating these products.
Fundamental ETF Considerations
As with any ETF, overall costs and trading features are important.
Fees and Waivers. Although some fee compression has occurred since the first spot Bitcoin ETPs entered the market, expense ratios still vary widely across products. Investors may wish to distinguish between gross and net expense ratios, particularly where fee waivers are in place. These waivers may be subject to asset thresholds or expiration dates that could affect costs over time.
Liquidity and execution. Trading volume, bid/ask spreads and overall fund liquidity remain important considerations when assessing total cost of ownership. However, because bitcoin itself is a highly liquid underlying asset, the fund’s on-screen liquidity may not fully reflect the quality of execution. In practice, execution at a similar price may be achievable for all products despite differences in visible trading activity. Engaging with a trusted sponsor or liquidity provider before a trade can help manage execution costs.
Fund monitoring and design. Given their passive, single-asset structure, spot Bitcoin ETPs tend to have limited sources of tracking error. Expense ratios are usually the biggest factor, with lower fee products generally expected to follow more closely over time. In-kind creation and repurchase mechanisms can also enable stricter monitoring by reducing friction costs.
Considerations specific to crypto ETPs
Beyond traditional ETF metrics, several factors are more specific to crypto products.
Preservation of digital assets. Holding bitcoin requires specialized custody arrangements, a relatively new function within asset management. While early infrastructure was largely developed by native crypto companies, traditional custodians have increasingly entered this space. Custody practices, regulatory status, and bankruptcy protections may differ among providers, making it prudent to understand how and where digital assets are held.
Sponsor profile. The issuer’s track record may also warrant consideration. Crypto-native sponsors and traditional financial institutions may operate under different regulatory frameworks and governance standards, which may influence risk management, operations and investor protection.
Reference methodology. The growth of digital asset products has led to the emergence of new go-to providers. Evaluating the construction of a benchmark, such as exchange inclusion criteria, pricing methodologies and review processes, can be important. A poorly designed benchmark may deviate from broader Bitcoin pricing, which could affect tracking results.
Bring it together
In a developing asset class, the structure and design of an ETP can be as important as the exposure it seeks to provide. Beyond overall fees, evaluating custody frameworks, sponsor profiles, benchmark methodologies and execution characteristics can help investors better understand potential costs and risks. As the crypto ETP market continues to evolve, a disciplined and holistic due diligence process remains essential.
– Sarah Cummings, Executive Director, ETF Strategist, Morgan Stanley Investment Management
Important Risks and Disclosures.
Ask an expert
Q: Do I need to move my Bitcoin to get a loan?
In many cases, yes: centralized lenders generally require custody of your bitcoin for the entire term of the loan. However, structures vary between platforms, so it’s helpful to understand who owns your assets and how they are protected before committing.
Q: What are the main risks that advisors should report?
Margin calls. If bitcoin falls sharply, customers may be forced to post additional collateral or face liquidation – often at the worst possible time. This forced sale may also trigger a taxable event, compounding the loss.
Q: Should I do this instead of selling part of my position?
It depends on the belief. If you believe Bitcoin is appreciating, borrowing preserves this advantage while meeting liquidity needs. But if you’re unsure of the position, adding leverage isn’t the answer: sometimes a clean sale is the simplest solution.
– Ryan Tannahill, Investment Advisor Representative, iA Privabecoming
Continue reading
- The US Senate Banking Committee introduced its crypto market structure bill, the Clarity Act, to the Senate on Thursday, bringing it closer to passage.
- Japan’s Financial Services Agency recognizes foreign-issued stablecoins as electronic payment methods under domestic law, effective June 1.
- Bank of England deputy governor Sarah Breeden said the BoE would publish draft rules on stablecoins next month and finalize them by the end of the year.
