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Changing Dynamics in the ETF Market: BITO’s Decline and the Rise of Spot ETFs

The trading volume on BITO dips after the spot ETF approval

The cryptocurrency investment market is witnessing a shift with the introduction of spot Bitcoin ETFs in the U.S. market. This change has notably impacted the ProShares Bitcoin Strategy ETF (BITO), the first U.S. bitcoin futures-based ETF. Since the launch of spot ETFs on January 11, BITO has experienced a significant drop in daily trading volume. 

Once a prominent player in the ETF space, BITO's trading volume has plummeted by 75% from its record high of $2 billion on the day spot ETFs debuted. This trend marks a crucial transition in investor preference, as they increasingly turn towards spot ETFs for direct exposure to Bitcoin.

The decline in BITO's trading volume is not just a numerical shift but a reflection of the changing investor sentiment in the cryptocurrency market. On January 11, BITO shares traded over $500 million, a stark contrast to the $2 billion on the day spot ETFs were launched. This decrease is further emphasized by a net outflow of over $270 million from BITO during the same period. Meanwhile, the newly introduced spot ETFs, which invest directly in Bitcoin, registered an impressive cumulative trading volume of $14 billion in their first week. 

These figures dwarfed the combined total of all other ETFs launched in 2023, signaling a strong investor appetite for direct Bitcoin exposure. The spot ETFs, amassing over $1.2 billion in investor funds, are quickly becoming the preferred choice over futures-based options like BITO, due to their straightforward investment in Bitcoin and avoidance of “roll costs” associated with futures contracts.

BITO still maintains relevance as a hedging instrument

Despite the decline in its trading volume, ProShares Bitcoin Strategy ETF (BITO) retains its importance in the market, particularly as a hedging tool for authorized participants (APs) associated with the new spot ETFs. The process of ETF creation and redemption, involving either in-kind or cash transactions, exposes APs to the volatility of Bitcoin prices. In the case of cash creation, APs provide cash to the issuer, who then purchases the underlying asset, creating a window of price fluctuation risk. To mitigate this risk, APs often turn to regulated products like BITO and CME Bitcoin futures.

Laurent Kssis, a crypto trading adviser and former ETF market maker, explains: 

“APs may use regulated products like BITO as a hedge for their positions, as a proxy if they can't execute CME Bitcoin futures or outright Bitcoin.” 

He further notes that while BITO may not be a perfect hedge due to slippage and cost factors, it provides a vital cover for APs who might be restricted in their direct Bitcoin dealings or lack the necessary infrastructure.

Balancing BITO and spot ETFs in the market

David Duong, head of institutional research at Coinbase, emphasizes BITO's ongoing relevance, noting that some APs, particularly broker-dealers, will continue to rely on regulated hedging methods like CME futures or BITO. This is especially true for share creation or redemption activities, where hedging against intraday client transactions becomes crucial.

Duong:

“We believe some APs (namely broker-dealers) will continue to rely on regulated means of hedging themselves, such as long CME futures or long BITO when creating shares (or short CME futures if redeeming),”

“to hedge potential client buys and sells intraday.”

As the market matures, the complementary roles of BITO and spot ETFs are expected to become more pronounced. Spot ETFs offer direct Bitcoin exposure, appealing to investors seeking a straightforward investment in the cryptocurrency. Meanwhile, BITO and similar futures-based ETFs provide essential hedging tools for market makers and institutional participants, ensuring stability and risk management in a volatile market.

The interplay between these two types of ETFs will likely shape the future of Bitcoin investment, as the market adapts to the diverse needs of investors.