Grayscale BTC Trust trades at a record 36.7% discount, but is it justified?

U.S. investors have been waiting for a Bitcoin exchange-traded fund (ETF) approval since May 2014 when the Winklevoss Bitcoin Trust filed an amendment request at the Securities and Exchange (SEC).

Over the years, the SEC has rejected every applicant and the latest denial was issued to WisdomTree’s application for a spot Bitcoin ETF on Oct. 11. The SEC concluded that the offer did not have the ability “to obtain information necessary to detect, investigate, and deter fraud and market manipulation, as well as violations of exchange rules and applicable federal securities laws and rules.”

Bitcoin investment trust vehicles have existed since 2013, but they have been restricted to accredited investors. Launching a spot-based BTC ETF would open the market to retail investors and a broader array of mutual funds in the industry.

At the moment, U.S. regulators are reluctant to release what many believe would be a more fair and transparent product for Bitcoin. A conflicting reality is, while BTC spot ETFs continue to be rejected, the exact same product has long been available for bonds, global currencies, gold, Chinese equities, real estate, oil and silver.

The Grayscale Bitcoin Trust Fund (GBTC), a U$ 12.3 billion investment fund, is currently trading at a record-high 36.7% discount versus its Bitcoin holdings, but this might not be a buy the dip-type of discount. The gap started after the Toronto Stock Exchange launched the Purpose Bitcoin ETF in February 2021, which is a spot investment product.

What is an exchange-traded fund?

An ETF is a security type that holds diversified underlying investments, including commodities, stocks or bonds. The ETF might resemble a mutual fund because it is pooled and managed by its issuer.

SPY, the ETF that tracks the S&P 500 index, is the most recognizable example of the instrument. The mutual fund is currently managed by State Street and carries $328 billion in assets under management.

More exotic structures are also available, like the ProShares UltraShort Bloomberg Crude Oil (SCO). This fund uses derivatives and aims to offer two times the daily short leverage on oil prices, meaning investors are effectively betting on a downturn in oil prices.

Buying an ETF gives the investor direct ownership of its contents, creating different taxation events versus holding futures contracts and leveraged positions.

Trust funds, like GBTC do not offer redemption or conversion rights

Investment trust funds sit outside the SEC’s authority and are actually regulated by the U.S. Office of the Comptroller of the Currency.

Grayscale’s GBTC is the absolute leader in the cryptocurrency market, even though it has been structured as a company — at least in regulatory form. The investment trust is considered a closed-end fund, meaning the number of available shares are limited.

Consequently, GBTC shares are not freely created, nor do they offer a redemption program. This inefficiency creates significant price discrepancies versus the fund’s underlying Bitcoin holdings. In contrast, an ETF allows the market maker to create and redeem shares, ensuring the premium or discount is at most times minimal.

For instance, Purpose Bitcoin ETF (BTCC.U) held a $3.59 net asset value per share on Oct. 13, and the shares closed at $3.60 on Toronto exchange. Similarly, U.S. derivatives ProShares Bitcoin Strategy ETF (BITO) underlying price was $11.94 on Oct. 13, while its shares traded at $11.95.

Grayscale is fighting the SEC, but results could take years

In June 2022, the asset manager Grayscale initiated a lawsuit with the SEC regarding converting the GBTC into a spot-based Bitcoin ETF. The firm has been waiting for a final decision from the regulator since filing its application in October 2021.

Grayscale’s senior legal strategist stated that the SEC rejection was “arbitrary” by “failing to apply consistent treatment to similar investment vehicles.” As a result, the asset manager pursued a legal challenge based on the SEC’s alleged violation of the Administrative Procedure Act and Securities Exchange Act.

It must be noted that eight and a half years have passed since the first request for a Bitcoin spot ETF registry was submitted. At the moment, GBTC charges a fixed 2% yearly administration fee, so the 36.7% discount might be justified given that the SEC continues to reject appeals and requests from every fund manager.

In essence, the investment trust product is far less optimal than an ETF, and so far, Grayscale has done little to minimize the impact on GBTC holders.