What Does The Future Hold For GBTC?

Among the limited number of bitcoin-related investments available to investors, the Grayscale Bitcoin Trust (GBTC) is the most well-known. It was the first publicly traded investment vehicle in public markets and has the biggest number of assets under management.

In the last year, however, GBTC’s popularity has waned. Its shares, which traded at significant premiums to its net asset value, are trading at a discount. The SEC has denied its application to convert itself into an ETF. What is the role of GBTC in a maturing crypto ecosystem?

About GBTC

GBTC was launched as a private trust in 2013 and had $3 million in assets. In 2015, it took advantage of a regulatory loophole that allows investors to sell their holdings after a specified lockup period to list in OTC markets. In 2015, that lockup period was twelve months. As of this writing, the minimum holding period is six months.

According to Dave Nadig, Financial Futurist at VettaFi, GBTC exists in a “weird gray area” of trading markets because it is not a fund but behaves like one. GBTC was allowed to list by the SEC with many restrictions. For example, investors in the trust cannot redeem their shares for physical (or digital) bitcoin. The only way out for them is to sell their shares in secondary markets. Ordinarily, such restrictions can turn off investors and make an investment vehicle illiquid.

But the Grayscale Bitcoin Trust has grown in strength over the years. In June 2015, about a month after it was first listed in OTC markets as Bitcoin Investment Trust, GBTC had $35.6 million worth of assets under management (AUM) and it was struggling to attract investors: its 1.4 million shares were marked down by almost 28% from their debut price to $30.12.

Over the years, Bitcoin’s growing popularity as an asset class has benefitted GBTC because it was the only publicly traded investment vehicle for a long time. In the run up in bitcoin’s price last year, the trust’s AUM figure swelled to more than $27 billion and its share price peaked at $53.42 in November. Some analysts even suggested that Bitcoin’s price was dependent on GBTC.

The seismic premiums and discounts in GBTC’s prices mask a volatile price eddy that mirror those of its underlying asset, Bitcoin. But no one, not even Grayscale CEO Michael Sonnenshein, is able to satisfactorily explain the wild swings in its share price.

In a standard ETF, supply and demand are matched and ensure that its share price does not deviate significantly from its NAV. Given Bitcoin’s quicksilver price changes, Grayscale has not been able to accurately anticipate demand. The result is a wide disparity between its share price and NAV. [The greater fool theory has been used to explain its price action and markets in the past because institutional investors can access GBTC shares at a discounted price in private placements and profit from higher prices in public markets].

But explanations are unnecessary when there are profits to be made. Bitcoin’s price volatility helped GBTC successfully market itself to investors willing to stomach crypto risk. In turn, it has paved the way for other, similar funds in the market. Grayscale, GBTC’s parent, has listed 17 funds that track various tokens on its website. The list includes well-known names like Ethereum but the vast majority – such as Basic Attention Tokens (BAT) and Horizen – are mostly unknown to the investing public.

Apart from generating profits, these trusts also serve another important function within the crypto ecosystem. They provide a market and liquidity for crypto tokens that, otherwise, would have problems attracting capital from investors.   

GBTC has been a valuable partner to lending firms and acted as an institutional buyer for tokens deposited with them. The premium in its share price enabled it to make high interest rate payments to these firms. BlockFi, a lending firm that was once valued at $5 billion in private markets, was a market maker for GBTC. Celsius, which filed for bankruptcy recently, also had significant exposure to GBTC.

In January 2021, Three Arrows Capital, the now-defunct hedge fund whose risky plays into various corners of the crypto ecosystem have crashed markets, disclosed a massive position, worth almost $1.24 billion in GBTC. GBTC’s authorized participant Genesis Global Trading, which is the only party allowed to create new shares of GBTC, recently filed a claim of $1.2 billion against the hedge fund. According to reports, it made a $2.36 billion to 3AC collateralized with GBTC shares.   

What is GBTC’s Future?

On an annual basis, GBTC has produced negative returns for investors. But short-term investments in the trust have yielded handsome profits for investors. For example, during the crypto bull run in 2017, GBTC shares traded at a premium of more than 100% to its NAV.

A consequent slump in the cryptocurrency’s price this year has meant that the market for traders willing to purchase GBTC shares has dried up and they have been trading at a discount to bitcoin price since January 2021. The number of regulated avenues for investors to gain exposure to bitcoin has also multiplied since last year. The new vehicles are more cost efficient for investors because they have cheaper fees.

What’s more, GBTC Investors cannot sell their shares at a loss or redeem them due to restrictions. For all practical purposes, then, GBTC has become a black hole. Investor dissatisfaction with GBTC is reflected in their positions: a majority have either sold out or decreased their holdings in the fund.

An ETF conversion might be a route out of the current slump in GBTC’s prices. But the SEC is again playing spoilsport and has blocked the move. While Grayscale has filed a case against the agency, the chances that it will be resolved quickly are dim. Besides, the company’s prospectus states that it may dissolve the trust, if it is asked to register as an investment company by the agency. [Most ETF providers are registered as investment companies and subject to strict disclosures].

What are investors in GBTC shares to do then?

Nadig likens investment in GBTC shares to buying a “weird lottery ticket.” “You can buy a whole lot of it and hope to get out [sometime in the future],” he says. As in the case of lottery tickets, investors can only hope and pray that the discount in GBTC shares turns into a future premium when bitcoin price skyrockets. The possibility of GBTC’s price mimicking that of bitcoin is not guaranteed, however. It has traded at a discount since January 2021. In the interim, bitcoin price set two records.  

GBTC could become a zombie investment vehicle with assets that are locked into its structure. Many private equity funds turned into zombies after the financial crisis of 2008 with unproductive assets in their portfolio. The price of such funds was marked down or written away completely. That GBTC could suffer a similar fate with an asset class, whose popularity is on an upswing, however, is unlikely.    

Another option for investors is to find willing counter parties to sell their shares. “There might be interested buyers [like Grayscale] who might take it from you at a less awful discount than the one in markets today,” says Nadig.

Until that happens, Grayscale continues to rake in a healthy 2% management fee for its bitcoin stash. According to Bitcoin Treasuries, GBTC holds 654,885 or about 3.12% of the total expected supply of Bitcoin on its books. Based on the cryptocurrency’s current price, that amounts to roughly $15.3 billion in AUM.

The fund charges 2% as fees. This fee is paid out from its bitcoin holdings, meaning the amount of bitcoin available in the fund’s coffers should decrease if it does not make any purchases. At its current AUM, the fund pockets a cool $30.6 million each year for its services. As Nadig has pointed out in a post, there is no closing date for the fund. That means it could continue paying itself till it runs out of bitcoin if there is a prolonged discount in its share price.

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