The excitement over the approval of an exchange-traded spot bitcoin fund has returned. BlackRock’s entry into the race for a bitcoin ETF has rekindled hope that the Securities and Exchange Commission (SEC) will approve the product long-awaited, a decade since the crypto industry sought to launch an ETF.

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Spot ETFs

The Narrative

Cameron and Tyler Winklevoss submitted a filing in July 2013 to launch the bitcoin exchange-traded funds (ETFs). The industry has waited 11 years for a bitcoin spot product.

Why it matters

If approved, a bitcoin ETF will allow retail investors to gain exposure to bitcoin without the hassle of setting up a Wallet or dealing with finicky crypto-exchanges. A bitcoin ETF would also allow sophisticated investors, such as multimillion-dollar families offices, to invest in a regulated and therefore “safe” bitcoin product. These are just a few of the reasons why advocates want an ETF approved by the Securities and Exchange Commission.

Breaking it Down

The Ontario Securities Commission approved the first North American bitcoin ETF over two years ago. This gave rise to the hope that an American product would be approved soon. In 2021, U.S. Securities and Exchange Commission will approve the first bitcoin ETF. This could lead to the approval of several similar products.

BlackRock’s filing from a few months ago gave the industry a hint that this may soon change. In the last few weeks we have seen half a dozen applications for a U.S. spot bitcoin ETF.

We’re now seeing that applicants spend more time discussing their surveillance-sharing agreement, with prompting by the SEC. Coinbase is the market place for all the major ETF issuers who have not yet identified a partner. This includes Nasdaq, Cboe BZX and BlackRock.

In the past, the SEC has discussed surveillance-sharing agreements. In 2019, the regulator published a 112-page order explaining its rejection of a bitcoin ETF application from Bitwise, saying the bitcoin market had too much potential for manipulation and there needed to be a “surveillance-sharing agreement with a regulated market of significant size relating to the underlying assets” to deter any potential manipulation.

James Seyffart is an analyst at Bloomberg Intelligence, who has been following bitcoin ETF applications since years.

They usually delay the process and then deny it. Seyffart stated that they often make comments during the process. Some of this will be done behind closed doors.

Coinbase is the largest crypto exchange in the United States. CoinGecko states that it has twice as much trading volume in a 24-hour period (normalized) than its nearest competitor, Kraken. The majority of this seems to come from the bitcoin market.

In its suit against the exchange, the SEC acknowledged Coinbase’s role in the U.S. by saying that it was “one of the largest trading platforms for crypto assets in the world” and “the largest in the United States”.

The SEC’s suit against Coinbase is not related to its bitcoin market. I would guess that this is one of the main reasons why these companies want to partner with the exchange for their surveillance-sharing agreements.

The SEC must decide if Coinbase is a significant bitcoin market that is regulated.

regulators did not seem to believe there was a regulated bitcoin market last year. In April 2022, when the SEC approved Teucrium’s bitcoin futures exchange-traded fund, it wrote in a footnote that “spot Bitcoin markets are not currently “regulated.” This was to explain why surveillance-sharing arrangements for bitcoin futures markets wouldn’t be applicable for spot ETFs.

The BlackRock/Nasdaq submission, on the other hand, argues that a significant and regulated market is not necessary, citing past ETF rejections.

The filing stated that “the regulated market test of significant size does not require the spot bitcoin markets to be regulated for the Commission’s approval. And precedent shows that a regulated spot currency or commodity market being an underlying market would be an exception from the norm.” The filing stated that “these largely unregulated commodity and currency markets do not offer the same protections to consumers as markets under the Commission’s supervision, but the Commission consistently looks at surveillance sharing agreements with underlying futures markets to determine if such products are in compliance with the Act.”

According to the filing, the bitcoin futures market should meet the SEC’s “significant-size” test.

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