A cryptocurrency Exchange Traded Fund (ETF) is composed of several other cryptocurrencies. ETF provides an advantage to the traders that are not confident about owning the crypto assets. They can have the access to the crypto assets without any dire need to own it in reality. ETFs are also used to track the price of one or more digital currencies.
This guide article will help the readers to understand the importance and usage of ETFs in the crypto market and the pros and cons associated with dealing in ETFs.
What is a Cryptocurrency ETF?
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In the mid-1990s, the exchange traded funds (ETFs) gained popularity among the retailors as the way of trading and investing in crypto assets. The retailors started using them abundantly because of its lesser transaction fee and the intraday liquidity. The traders find the ETFs feasible as their trade is based on exchanges and can be tracked easily by using a specific index.
In the mutual fund market, the traders are only allowed to retrieve or buy the share when on the trading day, the market closing time arrives. However, while dealing with the ETFs, the retailors are allowed to exchange and trade their shares whenever they find it suitable throughout the trading day.
The ETFs are actually the extension of the blockchain technology to provide ease to the retailors who do not want to own crypto assets personally. The first ever cryptocurrency ETF that was used was the Bitcoin ETF that was used to trace the price of bitcoins in the market that is the most demanded cryptocurrency among the traders.
Though the ETFs provide an indirect exposure to the bitcoins in the market, the retailors whose funds are holding considerably larger number of futures in the market could be kept at risk by the bitcoin ETFs. Therefore, it is mandatory to be careful about trading and dealing with the cryptocurrencies due to their high volatilities.
Criterion for a Fund to be Treated as ETF
For a fund to be considered as the exchange treated fund, it has to fulfil two requirements mentioned below.
- The use and deployment of the blockchain technology by the enterprises to transform the business applications by using the cryptocurrency ETFs.
- The investment in the crypto assets that are offered by the asset managers such as options and futures or Grayscale or Bitwise. The prices of these managers are integrated with the performance of major cryptocurrencies in the market such as Bitcoin (BTC), Ethereum (ETH) or others.
Working of Cryptocurrency ETFs
The traditionally used ETFs own their underlying assets directly whereas the cryptocurrency ETFs own either the crypto based securities, options or the futures. The main reason behind is so that it can match with the fluctuating prices of the normally used cryptocurrency to maintain a balance.
But the retailors may face a situation while dealing with the ETFs where the ETF prices do not go along with the traditional currency as it is not owned by them personally.
Either the synthetic variants such as derivatives or the actual crypto assets back up the cryptocurrency ETFs. Using the synthetic variants, the ETF does not copy the price of the real cryptocurrencies rather they reflect upon the fluctuation in the cost of the derivative.
On the other hand, if the retailors do not own the crypto assets directly rather have an indirect possession, then they are not made to bear the expenditure of possessing them.
The cryptocurrency ETFs are considered as important as they have a diverse profile. They can help investors of the ether or bitcoin ETF to get a broader exposure in the securities market, sometimes more than one crypto assets.
Are Crypto ETFs Regulated?
Every participant who is involved in trading EFT is subjected to verification and regulation. The higher authorities are set as watchdogs over them that watch and monitor the activities of all participants. This is done so to avoid any unfair and illicit activity to maintain a healthier environment of the market.
One should safely invest in the ETFs and confidently trade in them as the higher regulatory authorities issue them. Moreover, they are also exchanges in a verified and regulated manner to ensure safety.
It is important to mention that a number of requests have been generated to the US Securities and Exchange Commission so that they could work over the mechanism of creating a validation spot for ETFs. However, no bitcoin ETF trading spot has been discovered till now.
Are Crypto ETFs Safe to Trade?
Though the Cryptocurrency ETFs are regulated, still there are a number of risks integrated with using the ETFs. All the investors whether beginners or experts should know that to begin to explore the cryptocurrency there is a limit set to choose the funds. Therefore, there is a risk of scam and cybercrime attached with dealing with these funds as the present funds could track only a number of currencies available.
Moreover, everyone is aware of the volatility of the crypto market. Therefore, the traders should be all time ready to deal with the fluctuating prices of the crypto assets and here in particular the ETFs. While dealing with the physical backed funds, this fluctuation and volatility could be observed more commonly.
Therefore, it depends on the traders and the consumers that how they deal with it keeping themselves at the safer side. For that purpose, it is better to carry out a detailed research about the benefits and risks involved in trading with ETFs before investing any amount, to avoid any kind of potential loss in the future.
Do Bitcoin ETFs Exist?
As the cryptocurrency market is gaining momentum, the Bitcoin ETFs are also becoming popular among the retailors and traders. ProShare Bitcoin Strategy is one of the most common bitcoin ETFs known. As the bitcoin is traditionally unregulated, the US Securities and Exchange Commission has stopped the trade of multiple other bitcoin ETFs.
However, the Bitcoin ETFs take the help of the futures to imitate the performance of cryptocurrency. One can also invest in the blockchain companies to get leverage opportunities in the bitcoin market.
Is a Bitcoin ETF Better Option Than Bitcoin?
There are multiple answers to this question depending on the trading environment and the budget of the investor. As the bitcoin ETF provides the needed exposure to the traders without them owning the real bitcoins. Therefore, it could be helpful for those who want passive exposure in the market. But in case if one wants to actively participate in trading, then owning the traditional bitcoin is a better option.
How Could the Bitcoin ETFs be Accessed?
The Bitcoin ETFs could be accessed almost everywhere in the world due to their increased popularity. Except the United States, almost all countries allow the bitcoin ETF trade. Countries like Canada, Europe, Brazil, Jersey and many others provide the opportunity to the traders to deal with ETFs feasibly.
There are firms that deal with the ETF investment and adjacent companies. The ETF may own a number of companies such as Tesla or it may support many mining companies that are operating worldwide.
Advantages of Cryptocurrency ETFs
Though dealing with the ETFs may involve the regulatory risks, still the investors who own ETFs are getting benefited in multiple ways. Some of the benefits of ETFs are mentioned below.
The most important attribute of an ETF that makes it popular among the traders is that it can hold multiple currencies. For example, if someone owns a bitcoin ETF, it can contain bitcoins, Facebook stocks, apple stocks and many others. This helps the traders in enlarging their trading portfolio and dealing in multiple assets while decreasing the risk factor.
Similarly, in a regulated market, using the bitcoin ETFs could help the investors to produce diversification in their trading profiles by dealing with multiple assets at the same time.
Using a Bitcoin ETF provides a great convenience to the retailors by providing them the leverage over the cost of the traditional bitcoins. The traders can easily sign up for exchanging the cryptocurrency without learning about the working of the bitcoins. Moreover, they do not require to own the bitcoin directly to trade with it. In this way the retailors are not bound to pay any extra charges or any transaction fee.
In case any owner of the wallet loses the password of his wallet the bitcoins kept in it can be lost permanently. However, using the bitcoin ETFs make this easier for the consumers.
- Tax Efficient
The traditional bitcoin is not regulated by anyone and operates in a decentralized manner. Due to this reason, purchasing bitcoin is not allowed by majority of tax fund dealers and pension funds.
However, if the bitcoin ETFs are used for trading, the SEC regulates its exchanges and marks their eligibility of being tax efficient.
Disadvantages of Cryptocurrency ETFs
Providing a number of facilities and offers to the customers there are also some negative aspects that could be experienced while dealing with the cryptocurrency ETFs. Some of the disadvantages of using crypto ETFs are mentioned below.
- Management Fee
The retailors have to pay the fee for owning the crypto ETFs charged for the management services provided to them. Therefore, if owns a considerably large number of ETFs, he may have to pay high management fee as a result of that.
- Inaccurate ETFs
As mentioned before, ETFs can hold multiple assets in order to diversify the profile of the traders, they can also track the price of the asset. It is normally said that as there are multiple assets underlying while using an ETF, it may be possible that 50% rise in the price of bitcoin may not be predicted accurately.
Moreover, as ETFs provide high leverage opportunities to the traders while dealing with bitcoins, it may not accurately predict the price of the bitcoin in the market that may result in loss later.
- Limitations Imposed on Crypto Trade
As the crypto ETF is not a currency itself, rather just an investment fund that is used to hold multiple other currencies, it cannot be traded with the other cryptocurrencies. However, the traditional bitcoin could be traded with other currencies in the market such as Litecoin, Ethereum etc.
- Lack of Bitcoin Ownership
Many central banks, equities and fiat currencies consider bitcoin as a boundary. Due to decentralization and being not dependent on the central bank, the bitcoins help in the alleviation of the risks that are integrated with bitcoin trading. It also keeps its users and traders safe by keeping the privacy through the bitcoin blockchain intact.
However, the government regulates the bitcoin ETFs that eliminates the possibility of enjoying all these benefits for the users.
Investing in Cryptocurrency ETF
In case a trader has some kind of doubts regarding the cryptocurrency and the uncertainty related to it, crypto ETF is considered as a safer option then. It becomes difficult for the traders to manage the crypto assets sometimes but still they want to enhance and diversify their trading profile. ETFs provide the best service in such scenario.
Following steps should be followed in order to invest in any kind of blockchain based ETFs.
- One has to open an account after the completion of the onboarding process with the brokers like Robinhood, Fidelity Investment etc.
- Then in order to invest in the ETFs, decide the percentage of your budget that you have to invest initially.
- Look for the considerable ETFs after paying the charges to the broker. For example, one need to type BITO in the search bar to look for the required ETF that is ProShare Bitcoin Strategy ETF.
- After choosing the ETF that suits you the most, place an order in the market to buy it. after selecting the Buy option, according to your present budget select the number of shares that you have to buy.
- Execute an automatic plan with the broker you chose in case you want to continue buying the shares in the future to increase the diversification of your trading profile.
Though the above-mentioned procedure is simple and straightforward, one should keep himself aware about the fluctuating expenditure percentage or the management fee that is associated with investment in ETFs. If an investor owns the mutual funds and the ETFs, he has to pay the charges for it annually. It is called as Expense Ratio.
Expense ratio and the transaction fee that they charge on carrying out each transaction is the means of earning for the ETF market. This is how the ETF provides make their profit out of the trade. Moreover, the exit plan should also be kept in mind. In case, the long-term investors plan to sell some of their possessions at any time, they are made to pay a fee for the selling their assets known as trading cost.
Difference Between Cryptocurrency and Mutual Funds
One could actively or passively manage the mutual funds that are provided by the brokers, or the asset management companies. In case of active management, in order to increase the returns, the experts and professionals actively participate in the trade. However, in the passive management, in order to match the performance, any previous index or benchmark set is repeated again by the fund manager.
The specialty of the cryptocurrency mutual fund is that it offers investment in more than one digital assets at a time. As ETFs could be used to track the price of any crypto asset, it is similar to the investment in mutual funds. Both the ETFs and the mutual funds could be bought by using the investment accounts that are operational. It is only the expense ratio that has to be incurred by the investors.
However, some of the differences between the ETFs and mutual funds are mentioned below.
- Investment Cap
There is no minimum investment required in trading with the ETFs. However, in the mutual funds investment, the policy of minimum investment cap is applicable.
- Trading Timeline
The crypto ETFs could be traded at any time on a trading day according to the feasibility. On the other hand, the trade and exchange of mutual funds is only allowed once per trading day.
- Portfolio Management Strategy
It is important to know that the crypto ETFs are mostly managed passively, however the crypto mutual funds are managed actively by the providers.
It is very important to mention here that in case you invest in the crypto ETFs or the crypto mutual funds, the assets are not technically your own in reality. Therefore, it is important to invest the money earned by hard work after taking into consideration all the risks that could be associated with the volatile crypto market.
Cryptocurrency ETFs provide the ease of trading to the investors by holding multiple assets at a time that ultimately helps in the enrichment and diversification of their trading portfolio. However, there are always higher chances of loss and risks attached with crypto trading due to its high volatility. Therefore, one should invest carefully in the crypto market after carrying out a proper detailed research about it.
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