Analysis

Will We See a Bitcoin ETF While Jay Clayton is in Office?

What are the implications of the SEC's Bitwise rejection? What should Bitwise and other ETF-hopeful firms do next?

When Bitwise originally applied to launch a Bitcoin ETF earlier this year, it used a unique and rather unorthodox strategy: rather than denying that BTC markets were susceptible to market manipulation, Bitwise alleged that the vast majority of BTC volume was artificial, and demonstrated that it had the tools to identify and report this.

However, according to the SEC’s rejection of Bitwise’s Bitcoin ETF application late last week, this strategy seems to have failed: ‘the Sponsor has asserted that 95% of the bitcoin spot market consists of fake and non-economic activity, but has not established that it has, in fact, identified the ‘real’ bitcoin market, or that the ‘real’ bitcoin market is isolated from the fraudulent and manipulative activity,” the SEC’s rejection of the application reads.

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The rejection also disagrees with Bitwise’ assertion that Bitcoin’s “fungibility, transportability, and ‘exchange-tradeability’” make it resistant to market manipulation: “the manipulation of asset prices can occur through trading activity that creates a false impression of supply or demand,” says the document.

Ultimately, the SEC said that Bitwise’s attempt to use its identification of market manipulation as evidence that a Bitcoin ETF would be resistant to market manipulation would not work had essentially backfired.

“The Commission concludes that the Sponsor’s concessions that 95% of the reported trading in bitcoin is ‘fake’ or non-economic (including wash trading or trading that is simply fabricated)—and that the early bitcoin market may have been subject to market manipulation–effectively concede that the properties of bitcoin do not make it inherently resistant to manipulation.”

What should Bitwise and other ETF-hopeful firms do next? What are the implications of this rejection? And does a Bitcoin ETF stand a chance of approval while Jay Clayton is the chairman of the SEC?

A “damning indictment of bitcoin’s market structure,” or 112 pages of regulatory clarity?

The rhetoric in the document does not seem to be very favorable towards BTC. In a tweet, Jake Chervinsky said that the SEC’s response was “beyond the call of duty,” and described the document as “an excruciatingly detailed 112-page order that reads like a damning indictment of bitcoin’s market structure.”

However, while some have argued that the SEC’s rejection may make it seem as though we are just as far as we ever were from a Bitcoin ETF, others have said that the 112-page document explaining the reasons behind the rejection could bring regulatory clarity to the cryptocurrency industry in the United States.

Indeed, this seems to be the view that Bitwise itself has taken. In a series of tweets on the rejection, the firm wrote that “the order adds detail & clarity to the issues that need to be overcome,” adding that “this is what progress looks like.”

“Historically, the journey to approval for first-of-a-kind ETPs —bonds, gold, non-transparent, leverage— has taken multiple yrs,” Bitwise wrote. “What’s important is that the SEC continues to invest time, firms like Bitwise continue to provide analysis, & the industry continues to mature.”

What kind of precedent does this rejection establish?

In a separate tweet, Frank Chapparo, Director of News at The Block, noted that although, according to Chervinsky, the language in the rejection was “damning,” it is “amazing that they are giving the [crypto] space this level of brain space.”

However, one has to ask–exactly how “amazing” is this “brain space” if the result is this kind of “damning indictment”? After all, it could be argued that this rejection–and the associated rhetoric–could be viewed as yet another opportunity for the SEC to get all of its anti-crypto ducks in a row.

If we take the worst-case-scenario point of view, the language used in this rejection could potentially become the SEC’s final word on Bitcoin ETF applications until further notice: the language in the Bitwise rejection could essentially be cut-and-pasted the next time an ETF application comes up for a final decision, and the next time, and the next.

On the other hand, however, the language in the rejection does provide a bit more specificity on exactly what needs to be addressed before a Bitcoin ETF could stand a better chance of approval.

In the relatively recent past, SEC Chairman Jay Clayton’s public comments about whether or not a Bitcoin ETF is possible and what needs to happen before an approval is realistic have been rather vague: in September, he told CNBC that “we have to get to a place, in my view — just speaking for myself — we have to get to a place that we can be confident that trading is better regulated.”

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Earlier in the same month, Clayton commented that there is “work left to be done” before a Bitcoin ETF approval was imminent, although “progress is being made.”

And indeed, Clayton’s comments–along with the SEC’s long delays on these decisions, as frustrating as they may be–seem to suggest that the SEC is willing to work toward the eventual approval of a Bitcoin ETF.

Strategizing: time for a re-file?

However, Jake Chervinsky, general counsel lawyer at Compound Finance, said on Twitter that it’s unlikely that the industry can expect to see a Bitcoin ETF while Clayton is in office: “at this point, it’s reasonable to assume that Jay Clayton’s SEC will never approve a bitcoin ETF,” he wrote on October 10th. “His term ends on June 5, 2021, but could go another 18 months longer.”

Therefore, “it might be time to take a year off” from attempting to re-file applications. Chervinsky pointed out that Bitwise, along with some other applicants, may have already taken the hint: “usually we’d see new ETF proposals filed immediately after rejection.”

Indeed, Bitwise said in its series of tweets on the rejection that it would refile “when the time was right.” (In other words, “don’t call us, we’ll call you.”)

And exactly when will the time be right? Perhaps after Clayton’s term, but only if the SEC’s next chairman has a different view on the Exchange Act, according to Chervinsky: “to get ETF approval any time soon, the SEC would have to change its view on how sponsors can satisfy the Exchange Act. Chairman Clayton supports the current view, that bitcoin is susceptible to manipulation & surveillance-sharing agreements with regulated markets are required,” he wrote on Twitter.

Van Eck and SolidX, on the other hand, have not wasted a moment: sensing that a disapproval was imminent, the firms pulled and re-filed their application before the SEC had a chance to deny it, to begin with–a strategy that may pay off in the long term, but may only mean a longer and relatively unfruitful waiting period in the short-term.

By the time a Bitcoin ETF is approved, the industry may have already moved on

While the road to a Bitcoin ETF seems to be growing longer, there are some voices in the industry that have said that a Bitcoin ETF isn’t really something that cryptocurrency ecosystem needs at this moment in time.

Indeed, founder and CEO of crypto investment firm BKCM Brian Kelly pointed out on CNBC that institutional investors have a larger amount of options than ever before when it comes to buying into cryptocurrency markets: “you have companies like Fidelity and TD Ameritrade starting to push into this space,” he said.

“So, ultimately, you’re going to be able to buy Bitcoin in a regular brokerage account, or it’s going to look like a regular brokerage account. So I’m less concerned that you need a bitcoin ETF at this point in time.”

Additionally, the more-regulated crypto investment products that are currently available on the market have not necessarily lived up to expectations when it comes to institutional capital.

Take, for example, the Van Eck Bitcoin trust: weeks before the SEC was set to make the final decision on the ETF application that it had delayed for months, Van Eck created a sort of ‘pseudo-ETF’ using SEC exemption 144A. However, just a few days after its launch Alex Krüger, a well-known economist and trader within the cryptocurrency space, pointed out that the Bitcoin trust had only $41,000 in assets under management.

In other words, the wave of institutional capital that has been rumoured to be just around the corner for crypto markets didn’t seem to be there. Krüger tweeted that “this trust is just a bad launch of a product for which there’s not much demand.”

Despite a recent surge in trading volume, the inflow of capital onto Intercontinental Exchange (ICE)-created crypto futures trading platform Bakkt has also been generally underwhelming: its first-day volume was just 72 BTC, and tepid trading volumes over the following weeks were even blamed for declines in the price of Bitcoin.

ICE’s founder and CEO, Jeff Sprecher, also told Fortune at the time of the launch that he wouldn’t go so far as to say that institutional investors were ready to buy Bitcoin futures en masse: “it’s not demand yet, it’s intense curiosity,” he explained.

However, if that “intense curiosity” manages to find an outlet before a Bitcoin ETF is approved, perhaps there won’t be a real reason to pursue its approval anymore.

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