World’s Largest Crypto Fund Is Engulfed by the FTX Crisis

The world’s biggest cryptocurrency fund has become embroiled in the turmoil engulfing the struggling sector, in yet another sign of fading enthusiasm for digital assets.

The share price of the $10.5 billion Grayscale Bitcoin Trust (GBTC), which owns 3.5% of the world’s bitcoin, has plummeted to a 39% discount to the value of its underlying assets, as investors embarked on an increasingly desperate race to get out.

The explosion means that fund investors have taken an 83% loss since bitcoin’s peak in November 2021, surpassing the 74% drop in the value of bitcoin itself.

Confidence in digital assets has been undermined by the FTX implosion, the fallout of which is ripping through the nearly $1 trillion industry due to the complex and often opaque linkages between major players.

Fears came closer to Grayscale on Wednesday (16), when crypto exchange Genesis Trading, which originated more than $50 billion in loans last year, suspended redemptions and loan originations in its credit arm after suffering contagion. financial crisis with the bankruptcy of Three Arrows Capital, the Singapore-based crypto hedge fund that filed for bankruptcy in July.

Grayscale and Genesis are subsidiaries of the Digital Currency Group, a venture capital firm based in Stamford, Connecticut (USA).

Genesis served as an authorized GBTC participant, responsible for issuing new shares, until last month when Grayscale launched an in-house brokerage, Grayscale Securities.

Digital Currency Group is also GBTC’s largest shareholder, with a 4.1% stake, or 28.2 million shares, according to Refinitiv data.

The central problem with GBTC is that it has been superseded by the advent of better vehicles for holding bitcoins.

When it launched as a private placement offering in 2013, it was one of the few of its kind, and as the cryptocurrency industry expanded, it quickly increased its stock numbers to soak up the incoming tide of cash.

Net assets reached $39.8 billion in October 2021, according to Morningstar data, and GBTC has consistently traded at a premium to net asset value.

However, it was undermined by the emergence of the first bitcoin exchange-traded funds in Canada that year. Fees for these vehicles were generally less than half the 2% per annum charged by GBTC. They also offered greater liquidity and new investors did not have to pay a premium.

As flows moved away from the GBTC, demand and supply for its shares became out of balance, sending the share price into a sharp discount to the NAV.

The underlying problem is that –unlike ETFs– there is no arbitrage mechanism to balance supply and demand.

GBTC shares cannot be redeemed for bitcoin or cash and can only be sold to another buyer via the over-the-counter market. Grayscale would need regulatory approval to institute a share buyback program.

Instead, Grayscale hopes to convert GBTC into a bitcoin “spot” ETF, keeping the “physical” currency. So far, those plans have been blocked by the U.S. Securities and Exchange Commission (SEC), which has refused to follow the example of regulators in Canada and elsewhere by approving spot bitcoin ETFs, citing concerns about possible fraud. and manipulations on the unregulated exchanges where trading takes place.

Grayscale, which declined to comment for this story, is suing the SEC over the right to convert GBTC. However, the ever-increasing discount suggests few market participants believe it is likely to succeed.

“If they were able to win the lawsuit, all investors would be compensated. The discount would decrease dramatically because the creation and redemption process [de ações] can occur freely,” said Todd Rosenbluth, head of research at VettaFi.

Nate Geraci, President of The ETF Store, said: “The GBTC structure is clearly sub-optimal as the shares cannot be redeemed.

“It is very disappointing that the SEC continues to allow any retail investor access to this fund, yet they do not approve a spot bitcoin ETF that would solve the discount problem. This is yet another example of the absurd regulatory dysfunction surrounding the entire ecosystem. crypto at the moment,” added Geraci.

Some investors kept their faith. Ark Investment Management, already GBTC’s third-largest shareholder with a stake of nearly 1%, this week bought an additional $2.8 million worth of shares.

In October, Ark chief executive Cathie Wood said GBTC was trading at a “liquidation” price, given the possibility of being converted into an ETF at some point. Ark, which is also seeking permission to launch a spot ETF, said it does not comment on daily trading activity.

The second-largest shareholder at 2.9% is BlockFi, the crypto trading and lending platform that has halted customer deposit withdrawals due to its “significant exposure” to FTX.

Peter Tchir, head of macrostrategy at Academy Securities, raised the possibility that Grayscale would seek permission to buy back a large amount of shares and then liquidate the fund, potentially making more than enough profit to offset the loss of fee income and make outside investors bounce back in the process.

However, Geraci believes there is every chance that the discount will increase further, “especially if there is more FTX contagion, which weighs on the crypto space as a whole.”

However, he suggested that GBTC “is clearly a better option than holding bitcoin on an exchange like FTX, as investors can operate with confidence that the underlying bitcoin is actually there.”

Additionally, Geraci believes the FTX debacle bolstered the case for regulatory oversight of cryptocurrency exchanges, “theoretically accelerating the timeline for spot bitcoin ETF approval.”

However, Rosenbluth thought the SEC would see the fiasco as vindication of its position.

“The SEC saw spot bitcoin as risky and is concerned about fraud and manipulation,” he said. “I’m not sure they will be surprised by these facts.”