Is Wall Street Giving Up on Bitcoin ETFs?

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2017 brought a new chapter to the cryptocurrency craze, and despite substantial volatility, bitcoin has thus far held onto its hard-won five-figure price. Rival offerings have also sought to challenge bitcoin (BTC-USD), but the first mover still has a place in the heart of those who follow the space, and Wall Street has sought ways to profit from the strong demand for cryptocurrencies like bitcoin.

Bitcoin ETFs have been a dream of many investment professionals on Wall Street. After long delays, the beginning of trading of bitcoin futures in late 2017 opened the door to efforts from would-be bitcoin ETF providers to come out with potential products linked to the cryptocurrency. Despite the risks involved with such investment vehicles, those seeking to offer bitcoin ETFs hoped that they'd be able to satisfy regulators that the funds could be safe and secure for investors. Those efforts do not appear to be going well, and the latest reports suggest that, at the very least, it could be a long time before bitcoin ETFs become reality.

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The SEC weighs in

The U.S. Securities and Exchange Commission has oversight over the filings that bitcoin ETF providers have made regarding their funds. According to recent reports, the regulatory agency has had concerns about some of the bitcoin ETF offerings that it has reviewed thus far.

That nervousness from regulators has prompted major ETF providers to withdraw applications for approval. On Jan. 9, ProShares requested that the SEC withdraw filings for four bitcoin ETFs, including a long futures and a short futures fund. The letter from ProShares said that "this request for withdrawal is being made in response to a request from the staff" of the SEC. A similar letter from Direxion Shares said that "the Staff expressed concerns regarding the liquidity and valuation of the underlying instruments in which the Fund intends to primarily invest and requested that the Trust withdraw the Amendment until such time as these concerns are resolved."

What's the problem?

Although the SEC hasn't come out and specifically stated its concerns publicly, the comments that fund providers have made about liquidity are consistent with similar issues concerning other types of securities in the past. Bitcoin itself doesn't trade the way that many commodities and securities trade, and disruptions with the fragmented structure of exchanges that allow users to buy and sell bitcoin likely left regulators uncomfortable with having funds invest directly in the cryptocurrency.

Many hoped that bitcoin futures' availability would appease any SEC concerns about liquidity. Yet the bitcoin futures themselves haven't been as liquid as market participants had initially believed. The front-month CME bitcoin futures contract has had daily volume of roughly 1,000 contracts, representing 5,000 bitcoin, or about $70 million at current prices. Given expected demand for a bitcoin ETF, the futures market hasn't demonstrated ample enough liquidity to support risk-management needs for a host of new funds on the market.

What's next for bitcoin ETFs?

The withdrawing fund families that had proposed bitcoin ETFs didn't give many clues as to what the future would bring. The withdrawals seem aimed, rather, at putting the approval process on hold until such time as the SEC has new guidance to offer the financial industry about an acceptable protocol to follow to bring these funds to market.

For now, it seems that reluctance among regulators will indefinitely delay the availability of bitcoin ETFs, at least within the U.S. market. Unless cryptocurrency exchanges start to exhibit signs of becoming more secure, and bitcoin futures markets evolve to provide greater liquidity and capacity for traders to engage in meaningful hedging transactions, the SEC seems uninterested in letting Wall Street rush to the marketplace with funds tied to the cryptocurrency craze.

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