When the United States Securities and Exchange Commission (SEC) approved the spot Ether (ETH) exchange-traded funds (ETFs) on May 23, 2024, the news washed through the financial world. The decision, following the SEC’s approval of spot Bitcoin (BTC) ETFs in January 2024, is a landmark step for the cryptocurrency asset class in becoming part of the mainstream financial system.
The SEC’s approval of Ether ETFs opens the floodgates for the potential investment of billions of dollars by institutional investors, triggering a positive impact on Ethereum and the broader crypto ecosystem. It could usher in a colossal change in market dynamics and an inclusive regulatory approach toward crypto.
This article explains what a spot Ether ETF is, how it works, the difference between exchange-traded products (ETPs) and ETFs, how spot Ether ETFs differ from Ether futures ETFs, the difference between direct investment in ETH vs. spot Ether ETFs vs. Ether futures ETFs, how to invest in spot Ether ETFs in the U.S., the benefits and risks of spot Ether ETFs, and the future of spot Ether ETFs.
What is a spot Ether ETF?
Conventionally, ETFs are funds that typically track a specific index and are traded on exchanges. Investing in an ETF provides investors with a basket of assets that they can buy and sell during market hours. This approach diversifies their portfolio while lowering their risk.
A spot Ether ETF is an investment fund that tracks the value of Ether. These ETFs are traded on traditional stock exchanges, such as the New York Stock Exchange (NYSE), enabling investors to buy and sell shares as they would with any other stock. This makes the investment process more straightforward and accessible for those unfamiliar with managing digital assets.
Who are spot Ether ETF providers?
In a May 23 filing, the SEC gave the green light to the 19b-4 filings from BlackRock, VanEck, Fidelity, Franklin Templeton, Grayscale, ARK 21Shares, Bitwise and Invesco Galaxy, allowing these spot Ether ETFs to be listed and traded on the Nasdaq, Chicago Board Options Exchange (CBOE) and NYSE.
How do spot Ether ETFs work?
Investors can trade shares of spot Ether ETFs on stock exchanges throughout the trading day, similar to how they trade any other ETF or stock. This feature enables investors who have stayed away from trading in ETH because of technical complexity and regulatory issues to trade in ETFs, providing abundant liquidity to the Ethereum ecosystem.
Investors can enter or exit positions at any time during the trading day without needing to interact directly with cryptocurrency exchanges, making it a convenient option for traditional market participants seeking exposure to Ether.
Here’s how spot Ether ETFs work, broken down into concise steps:
- Physical backing of Ether: The ETF issuer buys physical Ether tokens, which they hold as the underlying asset to back the ETF shares.
- Listing on exchanges: The ETF is listed on stock exchanges, allowing investors to buy and sell shares just like stocks.
- Trading: Investors purchase shares in the ETF. Their investment mirrors the performance of Ether’s market price, minus any fees or expenses.
- Market price alignment: The ETF provider uses mechanisms like the creation and redemption of shares by large institutional investors (authorized participants) to ensure the ETF’s market price stays aligned with its net asset value based on the underlying Ether holdings.
- Liquidity and access: This provides investors with liquidity and easier access to Ether investments without dealing with cryptocurrency exchanges or wallets.
- Divestment: Investors can sell their ETF shares on the exchange, with the ETF’s performance reflecting the current market price of Ether.
What are ETPs, and how do they differ from ETFs?
ETFs are a subset of exchange-traded products (ETPs). ETPs are flexible, open-ended investments traded like shares on an exchange, aiming to replicate market performance by tracking a benchmark index and trading close to net asset value (NAV).
ETFs track indexes, commodities or baskets of assets, offering mutual fund diversification and stock trading benefits, typically with lower risk due to diversification and asset backing.
Spot Ether ETFs vs. Ether futures ETFs
Unlike spot cryptocurrency ETFs, which have underlying ETH assets at current prices, Ether futures ETFs hold futures contracts linked to the cryptocurrency’s value at a future date. Futures contracts are agreements to buy or sell Ether at a predetermined price in the future, allowing the ETF to indirectly track Ether’s price. The first nine Ether futures ETFs were approved in October 2023, including VanEck Ethereum Strategy ETF (EFUT), Bitwise Bitcoin and Ether Equal Weight Strategy ETF (BTOP) and ProShares Ether Strategy ETF (EETH).
Ether futures ETFs offer a way for investors looking for speculative trading on Ether’s price movements but wary of unregulated crypto exchanges. On the other hand, they invest in crypto ETFs because they provide a simpler way to invest in digital assets while maintaining traditional financial markets’ security, transparency and liquidity.
Ether futures ETFs allow investors to gain exposure to Ethereum without directly holding the cryptocurrency. These ETFs invest in Ether futures contracts, which obligate investors to buy or sell a certain amount of Ether at a specified price in the future
Direct investment in ETH vs. spot Ether ETFs vs. Ether futures ETFs
Direct investment in Ether involves buying and holding the actual cryptocurrency, offering full exposure to its market volatility. Spot Ether ETFs track Ether’s current price via direct holdings, mirroring its market movements, whereas Ether futures ETFs invest in Ether futures contracts, offering indirect exposure with potentially different risk and volatility profiles from Ether’s spot market
How to invest in spot Ether ETFs in the U.S.
Ether ETFs should be available to investors by the latter part of 2024. While the SEC has approved 19b-4 forms submitted by ETF issuers, the regulator must still sign off on their respective S-1 registration statements for the spot Ether ETFs before they can start trading. The process is cumbersome, with documents running into hundreds of pages and it could take months before ETFs are out.
Once Ether ETFs are available, they should be available through most online brokers that offer traditional securities like stocks and bonds. Brokers who already offer Ether future ETFs and spot Bitcoin ETFs may also enable one to invest in spot Ether ETFs.
Benefits of spot Ether ETFs
A spot Ether ETF will bring in a string of advantages for investors:
Diversification
Through the use of spot Ether ETFs, investors can set aside a portion of their portfolio for Ether, obtaining indirect exposure to cryptocurrencies and capitalizing on their growth.
Liquidity
Spot Ether ETFs are a very liquid instrument. Spot Ether ETF holders can trade the products on stock markets all day long. Depending on their investment techniques and the state of the market, they can enter and exit positions quickly.
Accessibility
Spot Ether ETFs provide investors with no exposure to crypto with an easier way to ride the crypto market while avoiding technical complexities. It removes the need to interact with exchanges, create digital wallets, and oversee the security of one’s ETH holdings.
Regulation
ETFs are recognized investment vehicles that financial regulators regularly monitor. Investing in cryptocurrencies directly does not offer investors the same level of security and transparency as this regulatory structure does.
Risks of spot Ether ETFs
Investors need to be aware of the potential risks associated with these investments:
Volatility
Like other cryptocurrencies, Ether’s price fluctuates a lot. The value of spot Ether ETFs is directly impacted by the sudden and sharp moves in the price of ETH. As a result, investors looking to invest in these ETFs should be ready for potentially significant price swings.
Tracking error
Spot Ether ETFs attempt to replicate the price of Ether; nevertheless, because of market movements, operating expenses and other considerations, there may be small variations or tracking errors.
Increased centralization
Spot Ether ETFs may result in a concentration of ETH ownership. The risk of centralization increases as large purchases are made by institutional investors, which might jeopardize the Ethereum network’s decentralized structure.
More stringent regulatory scrutiny
Thanks to the SEC’s approval of spot Ether ETFs, regulators now have more clarity, but the greater participation of large institutions may paradoxically result in more stringent regulation. As a result, merchants may face more stringent Know Your Customer (KYC) and Anti-Money Laundering (AML) regulations.
Regulatory uncertainty
The laws governing cryptocurrency and associated assets are continuously changing. The way the SEC classifies ETH might significantly impact the market. Even though SEC-regulated ETFs provide some security, investors nevertheless face some risk because of the ambiguous regulatory position on the underlying cryptocurrencies.
Counterparty risk
Investors in spot Ether ETFs are exposed to risks associated with the entities managing the ETF. These businesses’ operational issues, financial failures or security lapses could have a detrimental effect on the value and dependability of the ETF.
The future of spot Ether ETFs
The approval of spot Ether ETFs is anticipated to greatly affect the U.S. economy. It is likely to stimulate innovation and growth in the Ethereum ecosystem since more capital can be used to support fresh projects, improve current protocols, and attract more developers. As a result of this cycle of innovation and investment, Ethereum may grow more quickly, establishing it as the leading platform for smart contracts.
Furthermore, Ether’s growing institutional acceptability and credibility will benefit the larger cryptocurrency market. As portfolios widen to incorporate other significant cryptocurrencies, investor interest in altcoins may be stimulated. This diversification may help create a more developed, stable market with lower volatility and better liquidity.
Written by Dilip Kumar Patairya