Bitcoin ETF 101
In November 2024 alone, spot Bitcoin ETF daily inflows surpassed $1 billion on three occasions.
Approved by the Securities and Exchange Commission (SEC) in January 2024, Bitcoin spot ETFs have provided a regulated avenue for investors to gain exposure to the price of Bitcoin (BTC).
As part of our "Prosper 101" series, we explore what ETFs and Bitcoin spot ETFs are.
What are Exchange-Traded Funds (ETFs)?
Exchange-traded funds (ETFs) are tradable funds that track the performance of an underlying asset or index. Usually, although not always, this is a basket of assets that are organized around a strategy or theme.
For example, the Vanguard Health Care ETF (VHT), aims to track the performance of an index that measures the financial return of stocks within the health care sector; the SPDR S&P 500 ETF Trust (SPY), is designed to track the S&P 500 index by holding a portfolio comprising of all 500 companies on the index.
ETFs can provide exposure to the value of the underlying asset, or assets, without investors needing to invest in those assets directly. Using the VHT example above, investors can benefit from the price movements of more than 400 stocks, including Eli Lilly & Co. (LLY) and Johnson & Johnson (JNJ), without needing to research those specific companies and invest in those specific assets.
How Do ETFs Work?
ETFs, similar to individual stocks, are traded on exchanges such as the New York Stock Exchange, Nasdaq, and Shanghai Stock Exchange. The price of an ETF changes throughout the day during trading hours, providing constant liquidity. ETFs actively track the prices of their underlying assets by buying and selling these components whenever their prices begin to diverge.
The structure of ETFs is appealing for retail investors looking to diversify their portfolios, as they can acquire a variety of stocks, bonds, or other investments through a single transaction.
What Are Bitcoin Spot ETFs?
Spot Bitcoin ETFs are financial instruments that track the price of Bitcoin. As is the case with standard ETFs, the actual cryptocurrency is held in reserve, with each share of the ETF backed by real Bitcoin.
This is what makes it a "spot" ETF—the price of the asset is tracked in real-time, with the real price of Bitcoin being mirrored by the exchange-traded fund. This removes the need for investors to buy the cryptocurrency itself, but still allows them to benefit from positive price movements.
Benefits of Bitcoin ETFs
Investing in Bitcoin, or cryptocurrencies in general, requires some technical knowledge. For example, Bitcoin investors will need to know how cryptocurrency wallets work and how to purchase Bitcoin on a centralized or decentralized exchange. On the other hand, there's very little technical knowledge required when it comes to Bitcoin ETFs, making them more accessible to new investors.
Bitcoin ETFs also provide a secure, regulated option for institutional investors, allowing them to easily incorporate this unique asset into their investment strategies. This enables institutions to increase their portfolio's diversification while also providing significant liquidity to the cryptocurrency market.
Spot Bitcoin ETFs will likely help to increase the mainstream adoption of Bitcoin and other cryptocurrencies, which will benefit the asset class in the long-run.
Investing in Bitcoin ETFs vs Investing in Bitcoin
Overall, Bitcoin ETFs can provide investors with a more accessible, regulated means of tracking the price of the world's most valuable cryptocurrency, although this may come at the cost of decentralization and asset ownership.
Fundamentally, Bitcoin ETFs could be a better investment option for those that are simply looking for financial returns, whilst actually owning Bitcoin may be a better choice for those that believe in Bitcoin's long-term prospects as a decentralized digital asset.
