Exchange-traded fund investors have only been able to get bitcoin exposure since November 2021, when we saw the first futures-based bitcoin funds launch. But it seems like a lifetime ago, right?
Now, investors waiting for gold-like exposure to bitcoin and are following the legal tussle currently winding its way through the courts between the Securities and Exchange Commission and Grayscale -- who issued the Grayscale Bitcoin Trust (GBTC) fund -- know that we may be waiting a bit longer for a direct exposure, or spot market bitcoin-based ETF. Despite this, innovation continues with the recent launch of the Bitwise Bitcoin Strategy Optimum Roll ETF (BITC) . BITC takes a stab at trying to take the pain away from futures-based BTC exposure. Let's take a look.
Roll Yield? Like When There's Extra Jelly Left Over?
If you are already an investor in funds like United States Oil ETF (USO) , United States Natural Gas Fund LP (UNG) , and ProShares Bitcoin Strategy ETF (BITO) , then you may know what this section is about, but I invite you to stay tuned to learn about how BITC intends to turn a bug into a feature.
Generally speaking, investors' expectation is that prices of goods, services, and securities will rise over time. Because of this, the future expected spot price of say, corn, will be higher than the current spot price. If I buy a corn futures contract that settles three months from now, the seller of that contract is obligated to make available to me 5,000 bushels of corn at the contract's expiration. Because the timing of the harvest season may not line up with the future delivery date of my 5,000 bushels, the seller will most likely have a warehouse that serves as the storage depot for the corn. Storing stuff costs money. Because of this, the price I pay for the futures contract includes what is known as a "cost of carry" fee, literally the cost to store, maintain and insure the corn until I take delivery. With non-physical, or "cash settled" futures, that cost of carry ends up being represented by the costs associated with maintaining an account with the asset in question, including any potential borrowing costs. The cost of carry for the underlying item diminishes as the time to settlement gets closer to the present day. In other words, the premium you paid to account for the value of time between the contract purchase date and settlement goes to zero.
Congratulations! If I've done my job well enough, you now understand the concept of "Contango."
In traditional futures-based products, the fund is constantly buying futures contracts, holding them to settlement, and then using the remaining proceeds to buy contracts further out on the curve. The loss of that time value premium produces a situation where the fund is losing money at each roll point creating a negative roll yield. There is a detailed example in the article link I provided earlier for reference.
The traditional futures-based exposure strategy involves buying the next available futures contract, holding it to just before settlement, and then buying the next available point on the curve. BITC is taking a different approach. The prospectus introduces the concept of Contango and its opposite, Backwardation, which is when the futures curve is predicting future spot prices that are lower than the current spot price. In the case of a market in Backwardation, roll yield would be additive to returns. With this in mind, the fund "will roll to the bitcoin futures contract ... that exhibits the highest implied roll yield under current market conditions." To be clear, the "highest implied roll yield" could end up being the smallest negative roll yield available. Just saying. ...
Wrap It Up
While not a silver bullet solution for the effects of Contango, Bitwise is at least making an effort to be smart about how much pain they will be putting shareholders through during each roll. Trying to beat Contango is tough. There were some oil, and natural gas futures indexes I worked on a while ago, and between the horizontal spread trades (selling expensive future contracts and buying lower priced contracts not as far out on the curve) and trying to mitigate potential losses due to underlying market volatility, it got very complicated very quickly. I don't blame Bitwise for taking a best-effort approach here, although, as they state in bold text in the prospectus, "Investors seeking direct exposure to the price of bitcoin should consider an investment other than the fund."
If it turns out Grayscale is successful in its fight with the SEC, I expect that all these futures-based funds will convert to spot products as soon as legally possible. Until then, BITC gives you exposure to movements in BTC (although not at a 1:1 scale) and has the added benefit of trying to keep a handle on the effects of Contango.