Best Cryptocurrency Etfs: Diversified Crypto Investment Options

Cryptocurrency ETFs (exchange-traded funds) are a type of investment fund that tracks the spot market price or futures contract price of one or more cryptocurrencies. They stand out as they are traded on traditional stock exchanges, allowing investors to gain exposure to cryptocurrencies without directly owning any digital assets. Crypto ETFs can be an attractive investment vehicle as they provide accessibility, liquidity, professional management, investor protections, and portfolio diversification. However, it is important to carefully consider the risks, such as price volatility, limited fund histories, potential for tracking errors, high expense ratios, and regulatory uncertainty, before investing in cryptocurrency ETFs.

Crypto ETFs vs ETNs

Crypto ETFs and ETNs are both exchange-traded products that offer investors exposure to cryptocurrencies. However, there are some key differences between the two.

Crypto ETFs

Crypto Exchange-Traded Funds (ETFs) are funds that buy and hold shares of the assets in the benchmark they track. For example, an S&P 500 Index ETF will invest its clients' money in all 500 stocks in the index, in the same proportion that they are represented. Crypto ETFs are available in the USA, with several Bitcoin spot ETFs from various providers now on the market, such as the iShares Bitcoin Trust ETF (IBIT) from BlackRock and the Fidelity Advantage Bitcoin ETF (FBTC).

Crypto ETFs are considered to have tracking risk, meaning there is a possibility that the ETF's returns will differ from its underlying index. They are also subject to tracking errors, which are minor differences in results. ETFs are taxed like stocks, meaning a long-term holder would be subject to capital gains tax each year.

Crypto ETNs

Exchange-Traded Notes (ETNs) are unsecured debt notes issued by an institution, similar to a bond. They track an underlying index of securities, and the returns they pay out are based on the performance of that index. Crypto ETNs are available in Europe, where they are often backed by physical cryptocurrencies.

ETNs bring credit risk—if the underwriter (usually a bank) goes bankrupt, the investor could lose their entire investment. ETNs do not pay dividends or interest on the earnings of the underlying index to their investors, as they do not own the underlying assets. Instead, investors in ETNs get their profits when they sell the ETN or when it matures, and they owe taxes on the long-term gains they receive.

ETNs are taxed differently from ETFs. There are no tracking errors with ETNs, and they do not pay taxable dividends and interest. This means that, unlike with ETFs, a long-term ETN holder would not be subject to capital gains tax each year. However, the owner of an ETN will owe income taxes on interest or coupon payments made by the ETN.

Bitcoin ETFs

History

The first Bitcoin ETFs were approved by the Securities and Exchange Commission (SEC) in January 2024, marking a significant shift in the regulatory landscape for cryptocurrencies. Prior to this, investors could only gain exposure to Bitcoin through futures contracts, equities of companies involved in blockchain and crypto-related businesses, or by purchasing the asset directly.

Benefits

There are several benefits to investing in a Bitcoin ETF over purchasing Bitcoin directly:

• Simplicity: ETFs can be purchased through traditional brokerage accounts, eliminating the need to set up a separate crypto exchange account.
• Security: Investors may feel more secure investing through a regulated brokerage firm as opposed to a crypto exchange, which may be vulnerable to hacking or fraud.
• Liquidity: Bitcoin ETFs have high trading volumes, making it easy for investors to buy or sell their shares.
• Diversification: ETFs can provide exposure to a basket of cryptocurrencies, reducing the risk associated with investing in a single asset.
• Tax advantages: In some cases, investors can hold Bitcoin ETFs in tax-advantaged accounts, such as a Roth IRA, allowing for tax-free withdrawals in retirement.

Risks

However, it is important to note that investing in Bitcoin ETFs carries its own set of risks:

• Volatility: The crypto market is known for its high volatility, and Bitcoin ETFs are subject to the same rapid price fluctuations as the underlying asset.
• Custodianship risk: Most Bitcoin ETFs rely on third-party custodians, such as Coinbase, to store the Bitcoin they hold. This introduces an additional layer of risk, as the financial stability and security of these custodians can impact the safety of the ETFs' holdings.
• Tracking error: While Bitcoin ETFs aim to track the price of Bitcoin, there is no guarantee that they will deliver the exact same returns as directly holding the cryptocurrency.
• Fees: Bitcoin ETFs charge expense ratios, which can range from 0.12% to 1.5%, impacting overall investment returns.

Examples of Bitcoin ETFs

• Grayscale Bitcoin Trust (GBTC)
• IShares Bitcoin Trust (IBIT)
• Invesco Galaxy Bitcoin ETF (BTCO)
• Bitwise Bitcoin ETF (BITB)
• ProShares Bitcoin Strategy ETF (BITO)
• Fidelity Wise Origin Bitcoin Fund (FBTC)

Ethereum ETFs

The Securities and Exchange Commission (SEC) approved the trading of spot Ethereum ETFs in July 2024. These are exchange-traded funds that invest directly in Ethereum, the world's second-largest cryptocurrency by market capitalization after Bitcoin.

Ethereum has several features that distinguish it from Bitcoin. Its blockchain not only hosts Ether coins but is also home to decentralised apps and non-fungible tokens that run on the Ethereum protocol. Another key difference is that Ethereum now uses a proof-of-stake system to create new coins, which is more energy-efficient than the proof-of-work process behind Bitcoin mining.

Prior to the approval of spot Ethereum ETFs, there were already Ethereum strategy ETFs on the market, which indirectly track the price of Ether using futures contracts. However, these may not track the cryptocurrency's price as accurately as a spot Ethereum ETF, and they may charge higher fees.

• Grayscale Ethereum Mini Trust (ETH)
• Franklin Ethereum Trust (EZET)
• VanEck Ethereum Trust (ETHV)
• Bitwise Ethereum ETF (ETHW)
• 21Shares Core Ethereum ETF (CETH)
• Fidelity Ethereum Fund (FETH)
• IShares Ethereum Trust (ETHA)
• Invesco Galaxy Ethereum ETF (QETH)

The Grayscale Ethereum Trust (ETHE) is also worth noting. It is an exchange-traded product (ETP) whose market price may diverge from its net asset value, giving investors a premium or discount on its Ether holdings. It is the largest spot Ethereum fund in the world, accounting for over 2% of the total market capitalization of Ether.

In the lead-up to the approval of Ethereum ETFs, a price war emerged as issuers raced to undercut their competitors by lowering fees and announcing promotional fee waivers. For example:

• Grayscale Ethereum Mini Trust: Fee waived for the first six months of trading or the first $2 billion in fund assets, whichever comes first.
• Franklin Ethereum Trust: Fee waived until January 31, 2025, or the first $10 billion in fund assets, whichever comes first.
• VanEck Ethereum Trust: Fee waived for the first 12 months of trading or the first $1.5 billion in fund assets, whichever comes first.
• Bitwise Ethereum ETF: Fee waived for the first six months of trading or the first $500 million in fund assets, whichever comes first.
• 21Shares Core Ethereum ETF: Fee waived until January 23, 2025, or the first $500 million in fund assets, whichever comes first.
• Fidelity Ethereum Fund: Fee waived until December 31, 2024.
• IShares Ethereum Trust: Fee reduced to 0.12% until July 23, 2025, or the first $2.5 billion in fund assets, whichever comes first.

Crypto futures ETFs

A bitcoin futures exchange-traded fund (ETF) is a regulated financial product that allows investors to gain exposure to bitcoin prices without directly buying the cryptocurrency. ETFs are investment funds that hold assets and issue securities as shares of the fund, which trade on an exchange.

A bitcoin futures ETF does not hold bitcoins but instead enables investors to speculate on bitcoin's future price moves. These ETFs use futures contracts, which are standardised agreements to buy or sell an asset at a specific future date and price. The fund managers purchase these contracts and bundle them into a fund.

The first bitcoin futures ETF to gain regulatory approval was the ProShares Bitcoin Strategy ETF (BITO) in October 2021. Other examples include the VanEck Bitcoin Strategy ETF (XBTF) and the Simplify Bitcoin Strategy PLUS Income ETF (MAXI).

Bitcoin futures ETFs have several advantages, including regulatory compliance, diversification, accessibility, lower operational risks, and institutional adoption. However, they also have disadvantages, such as price volatility, the use of complex futures contracts, and potential tracking errors.

Overall, bitcoin futures ETFs provide investors with an alternative method to profit from bitcoin's price movements without directly purchasing the cryptocurrency.

Spot crypto ETFs

The first spot crypto ETFs were launched in January 2024, when the SEC approved spot Bitcoin ETFs from providers including Fidelity, BlackRock, and Invesco. Since then, the SEC has also approved spot Ethereum ETFs.

However, it is important to note that spot crypto ETFs do not offer the same level of control as holding the underlying cryptocurrency directly. Additionally, they may be subject to custodianship risk if the third-party custodian holding the crypto assets encounters financial difficulties.

Frequently asked questions