Bitcoin ETFs in Canada

A bitcoin exchange-traded fund, also known as a bitcoin ETF, is a popular way to trade bitcoin directly on the stock market, bypassing the need to wade into the confusing and complicated market of cryptocurrencies. In this guide, we explain how they work, the regulatory troubles that explain the paucity of bitcoin ETFs around the world, and why investors use bitcoin ETFs when regulators permit them.

What is a Bitcoin ETF?

Two things require understanding before bitcoin ETFs become intelligible: 1. Bitcoin and 2. ETFs.

Let’s start with the most manageable: bitcoin. Bitcoin is both a type of cryptocurrency and a peer-to-peer payments network that operates without interference from intermediaries, such as central banks, governments or large corporations. Instead of bothering with all that, a decentralized network of “miners” process transactions by running special software. This software races to solve complex mathematical puzzles, and the winner of the race receives newly-minted Bitcoin. This vast payments network ensures that the Bitcoin blockchain (the name for this kind of network) runs smoothly and is very difficult to corrupt. Each bitcoin can be transferred across the network, like a kind of digital cash. At its peak, in April, 2021, the Bitcoin network had a market capitalization of just over a trillion US dollars.

Since pseudonymous developer Satoshi Nakamoto launched the network in early 2009, several caveats have emerged that knock the project from its libertarian ideals. The first is that the network is far from decentralized; a handful of developers maintain the network and most of the mining is performed in China (and much of it, to the annoyance of environmental activists, relies on fossil fuels). Second, governments do interfere with the success of the network more and more. Regulators make it tricky for the bitcoin market to interact with the wider global economy. And most trades are executed through centralized companies, such as Wealthsimple, meaning only a fraction of network activity makes use of bitcoin’s decentralization. Despite these caveats, the bitcoin blockchain is more popular than ever, and its volatile price swings make investing in the cryptocurrency itself an attractive prospect to some.

So, with bitcoin defined and then qualified, let us now turn our attention to the exchange-traded fund. An ETF is, broadly speaking, a big pool of money that trades on a stock market and tracks the price of some underlying asset it has invested in. So, an ETF might use the millions of dollars plugged into it to buy coffee or onions or real estate bonds, and then sell shares on the stock market that attempt to track the price of those assets. The ETF is run by a company and maintained by special traders, who create and redeem shares to ensure that the shares accurately track the price of the asset. ETFs are a far cheaper alternative to their spiritual predecessor, the mutual fund, which might invest in a bunch of stocks or bonds and then sell shares in that investment. ETFs also tend to rack the price far more accurately, and it’s possible to trade an ETF during all trading hours; mutual funds often trade just once a day.

Understanding a bitcoin ETF should hopefully be much clearer now. It is an ETF that invests exclusively in Bitcoin, then sells shares in that investment on the stock market. A Bitcoin ETF trades when the stock market is open, is usually passively managed, and is generally cheaper and more accurate than actively managed bitcoin funds or trusts, which operate more like closed-end mutual funds. While bitcoin ETFs tend to track the price of bitcoin within 1%, the Grayscale Bitcoin Trust, the largest closed-end Bitcoin trust in the world, can trade at premiums or discounts to bitcoin in excess of 20%.Most Bitcoin ETFs invest directly in Bitcoin, but a couple, such as those operated by Horizen, invest in a derivatives product called Bitcoin Futures.

There are a few reasons why people might use bitcoin ETFs over investing directly in bitcoin itself. The first is that ETFs, unlike most cryptocurrency exchanges, are highly regulated. While this regulation doesn’t protect investors from Bitcoin’s volatile price, it does make ETF operators easier to sue if they default on their obligations, and ensures they run as promised. The second reason for using a bitcoin ETF is that some investors can only invest funds in the stock market; regulations forbid them from investing in unregulated crypto exchanges or OTC desks. Tax-sheltered accounts can invest in bitcoin, and so can certain institutional investors. Still, owning bitcoin through an ETF isn’t as decentralized as owning bitcoin outright, and the ETF could cease trading in the event of a huge market crash.

How to invest in a bitcoin ETF

The bad news is that regulators have blocked most attempts for a bitcoin ETF. The good news is that Canada is among the few countries in the world—and the only one in North America—that has green-lit bitcoin ETFs.

CI Global, Purpose, and Evolve all launched bitcoin ETFs in the spring of 2021, and a handful more joined their ranks in the following months. Bitcoin ETFs were incredibly popular when they first traded. The Purpose bitcoin ETF hit $80 million in trading volume in its first hour, easily becoming the most popular ETF of the day when paired with the Canadian dollar. It hit $421 million in assets under management by the end of its first day. “This is just wild,” tweeted Eric Balchunas, Bloomberg’s ETF reporter, who noted that it would have become the biggest ETF in Canada within 20 days if it could keep up the pace. Purpose’s ETF couldn’t sustain that momentum, however. Trading soon cooled down. The Purpose bitcoin ETF quickly slumped to a quarter of all-time high volumes, save for busy trading days.

There are several other cryptocurrency ETFs in Canada alongside the ones for Bitcoin. In April, three ETFs for Ethereum, the second-largest cryptocurrency by market cap (of several thousand total cryptocurrencies), launched in Canada. Purpose, Evolve and CI Global, were behind the funds. These were also very successful, but not quite as successful as the Bitcoin ETFs.

Despite regulation, these ETFs are far from risk free. When Bitcoin crashed by 27.5% in May, 2021, things got dicey for Horizen’s Bitcoin Futures ETFs, which bundle together bitcoin futures contracts—essentially, bets on the future price of bitcoin—from the Chicago Mercantile Exchange, the world’s largest futures exchange. The Financial Times reported that the ETF issuer sent investors warnings of “market disruption,” and cautioned that it might not be able to fulfill orders if the market continued to crash. This would force investors to hold onto their shares in the ETF while bitcoin continued to fall. Thankfully, this didn’t happen, and the ETF managed to stay afloat.

Why there’s no ETF in the US, and why that’s a big deal

The United States has proven one of the toughest markets to crack for ETF issuers. This is because the US Securities and Exchange Commission, the regulator that oversees these sorts of things, has rejected several applications for bitcoin ETFs. The SEC blocked them not because of the quality of an individual ETF, but because it considered the whole market inherently vulnerable to manipulation, particularly in territories over which it held no jurisdiction.

As of May, 2021, about 11 applications for a Bitcoin ETF are under review, from companies such as Skybridge, the hedge fund run by Anthony Scaramucci (who served for a very short time as Trump’s director of communications), VanEck and Fidelity. Some applications use different Bitcoin price indices or custodians, but the proposed ETFs are more alike than they are different. Hopeful firms are confident that a new White House administration and renewed demand and confidence in cryptocurrencies will convince the SEC to approve a Bitcoin ETF.

The SEC has started to consider them but hasn’t approved one yet. A US bitcoin ETF would be of great interest to bitcoin investors outside of the US due to the sizable number of bitcoin investors in the US, plus the growing number of institutional investors ready to dump their cash into bitcoin.

There are a couple of investment products that US investors can use in the absence of a bitcoin ETF. The first is an ETF of crypto-related companies. Such an ETF might invest in, say, Coinbase, the largest cryptocurrency exchange in North America, which started trading on the Nasdaq in April, 2021. Coinbase’s fate is heavily tied to the cryptocurrency market; if Bitcoin goes up, Coinbase, which profits whenever people trade crypto on its platform, could also go up. If bitcoin tanks, Coinbase could fall.

The other product is some variant of an exchange traded product, also marketed as a bitcoin fund or a bitcoin trust. While the details differ, they largely do the same thing. Rich investors pool their money in a fund, and the fund is then exclusively used to buy Bitcoin. Shares in the fund trade on the stock market. Due to their structure, and the fact that these require more active management, these products are far more expensive than a true Bitcoin ETF due to their structure. They also tend to be less effective at tracking the price of Bitcoin, meaning that investors can spend far more, or far less, to invest in Bitcoin.