ETF Edge - The Bitcoin ETF Craze

Episode Date: October 25, 2021

CNBC's Bob Pisani spoke with Steven McClurg, CIO at Valkyrie Funds and Tom Lydon, CEO of ETF Trends. They discussed the world of crypto as more and more companies are jumping on the bitcoin futures ETF bandwagon, So far, the new trend has really taken off, so how can investors get in the game, and how might they look to bitcoin as a way to hedge against inflation? In the ‘Markets 102’ portion of the podcast, Bob continues the conversation with Tom Lydon from ETF Trends. Hosted by Simplecast, an AdsWizz company. See https://pcm.adswizz.com for information about our collection and use of personal data for advertising.

The ETF Edge podcast is sponsored by InvescoQQQ, supporting the innovators changing the world. Investco Distributors, Inc. Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights on all things, exchange traded funds, my friends are in the right place. Every week we're bringing you interviews and market analysis, breaking down what it all means for investors. I'm your host, Bob Fassani. Today on the show, we'll dive even deeper into the world of crypto. More and more companies jumping on the Bitcoin, futures.

ETF bandwagon. We'll catch up with the man who runs the latest fund that launched the Valkyrie Bitcoin strategy ETF. So far, that new trend really taking off. So how can investors get in the game and how might they look to Bitcoin as a way to hedge against inflation? Here's my conversation with Steve McClurg, CIO at Valkyrie Funds, along with Tom Lighton, CEO of ETF Trends. Steve, the Bitcoin, the pro-shares, Bitcoin futures, over $1.1 billion in assets, what, four days of trading. You launched your Bitcoin futures product on Friday. I keep joking. You're like Avis. You've got to try harder. Tell us how this is a little different, or if it is different, than the pro shares, an ETF. And how are you going to compete with all these other big names that

are coming down the pike? Hey, Bob. Thanks for having me. So we actually went live on a Friday, which is the worst day to go live with an ETF. And on a day that Bitcoin was down 4%. And we still came out strong with we were the 14th biggest ETF launch of all time. So even though we're going up against the biggest of all time and a firm that's already gathered 1.2 billion, I think we're going to do quite well, primarily because we're able to still stick with the October contracts and keep very little tracking error. Yeah, that tracking error was a big issue. You know, this big complaint among the

crypto community was that the futures contract would not track the underlying Bitcoin very well. So can you just tell us how is the tracking doing? And can you clear up this issue about the front month contracts you're owning? Right now, you just own October. Is that right? But could you have contracts farther out? Could you have contracts, you know, a month, two months out, three months out? Clear this up for us. Yeah, so right now with the current price of Bitcoin, where it is, there's about $630 million in notional contracts available in the October month. And we're under that, So we're able to be 100% in the October contracts. Once you go out to November and December, you're going to actually hit up against some

contango issues, particularly in December. So with the current CME limits at 2000 October, 4,000 in November, 4,000 in December, if you grow any larger than that, you are going to hit some issues, unless, of course, the CME decides to extend its limit. But as we come into the market and others come into the market, we will absorb some. So Tom, will the CME extend these limits? You know, this was the concern that these firms would eventually have to own contracts that are farther out. And so it's inevitable, you know, it'll not end up tracking the underlying eventually.

This is what happened. Remember, we went through this with the U.S.O. last year, didn't we? So I guess the question here, is there any good research at how much it will cost investors to keep rolling over into these futures contracts? I mean, how expensive is the negative role, you know, go to be? Well, you're hitting on some really important things, Bob. Each issuer is limited to 5,000 contracts. So already it's a concern for pro-share's, and that's why they apply for this extension

to be able to have access to more futures contracts. If that doesn't happen, we've seen some signals from the folks at pro-shares that they're going to look at other derivatives like swaps or structured notes able to fill the demand. Steve, back to you, do you feel the CME will grant extension number one? And if not, can you fill the demand with derivatives and swaps?

Well, I certainly wouldn't want to fill the demand with derivatives and swaps or even repo. When you start introducing repo into a product like this, the cost is extremely high. So I think the best strategy is actually just open up the playing field. and letting other ETF issuers in. We have possibly one more this week. We have possibly two more next week. And that demand will be filled by a multiple of issuers that will create really strong competition here.

Well, when you think about the individual investor out there, do they really know the situation when you hit that limit that that ETF issuer is in and to know to look at the other players? I mean, Bob, this is one of those things. First mover advantage, usually in the ETF space, carries a lot of weight. Not so much in this regard. Yeah. So let me just follow up with that, Steve.

What Tom was saying here. There were a lot of concerns that so many would crowd into the Bitcoin futures, you know, that those firms themselves would have some issues. Are we just, isn't the answer just extend the amount of contracts that you could potentially hold? Isn't that the issue, Steve? and would see him be willing to do that? Well, I think eventually they will, but right now there's just really not a need to.

You can go up against about 1.2 million in AUM and still be within the limits. And like I said, with us coming in, with BANET coming in, hopefully BANET comes in this week as well, and then you have a lot of issues to choose from, and then we can all have really good tracking error. But I think as it grows,

you know, there's probably only room for really three or four of us. And if it grows, I think the CME will extend those limits. And by the way, when we get out to those further months, I mean, October is only a 2,000 limit, a 2,000 contract limit. Once we get out to November, then you have a 4,000 contract limit. So we're really hoping that we stay within that limit this week, and then next week we can go all in November. Yeah.

So, Tom, let me just switch the subject a little bit. What does all this mean, the success of Bitcoin futures ETF? What does it mean for financial advisors that are out there who might be watching? Advisors, I'm assuming they're not going to buy futures directly for clients. I'm assuming they aren't. Correct me if I'm wrong. But will they recommend Bitcoin futures, for example? Well, the huge thing, Bob, is there's a lot of demand among advisor clients.

81% of advisors are getting questions about crypto. And up until this point, there haven't been a lot of options. except the individual client going on off platform to something like Coinbase or maybe race scale where they can buy that themselves, where advisors not necessarily buying it for clients. Some are. But ultimately, we're looking for an ETF wrapper. We're looking for all the benefits of an ETF. We're looking for tight spreads.

We're looking for lower fees. but there appears to be, at least at this point in time, a little concern about the pure volume. I mean, you know what happened to GLD when it first hit and it hit a billion dollars pretty quick. When it was $5 billion, they were so excited they couldn't believe it. And last summer, GLD was at $84 billion, not to say that it's on this path, but boy, can you imagine if the combined marketplace is $10 billion, you know, what does that? that do as far as the overall structure? Yeah. So the, I guess, Tom, the approval of Bitcoin futures isn't changing the narrative about a

physical Bitcoin ETF. Gensler's not indicated he's going to do anything on a physical Bitcoin. There is not a high level of confidence. They're going to approve physically backed ETFs this year. Is there any reason to think that has changed it all because of what has happened here? No, I think his signaling has been clear. He's open. up this opportunity. We have to take full advantage of it. CME granting more futures contracts could be a huge help and provide some relief. And to Steve's point, welcoming other players in the space, which provides more competition. We're seeing the spreads very tight so far. The arm mechanism is working very, very well.

But, you know, we're going to continue to see demand. And advisors are going to start trickling in because if they're going to start trickling in, because if they don't. If they don't come with some type of plan to say either, look, it's not appropriate for you, or if it is a one to three percent allocation over a period of time that might be dollar cost average in, they're going to have to at this point in time come up with some type of narrative. And it may be that they're not comfortable with the overall infrastructure of futures, but I think that whole plumbing situation is going to take care of itself. I mean, we've seen what Gensler has done and said, look, it's not, it's approved, it's not validated.

We as a industry have to validate it, and I think that that will be coming. Yeah. Steve, you're in the same camp, I gather. You think the chances of a physical Bitcoin future ETF is slim to none, is that fair to say in the next? Until Gensler gets control over the regulatory ecosystem, or there is a clear division of labor amongst the regulatory ecosystem. Are you of the same opinion? Yeah, I mean, look, when we started talking to the SEC and other regulators back in 2017, 2018,

there was a very clear concern for custodial solutions for Bitcoin Spot. And a lot of those issues have been resolved, security, safety. There's some that are better than others, that are some that really act and feel like real custodial solutions, like your Bank of New York and your State Street and U.S. banks of the world. But I think the staff is still trying to get their heads around what exactly is going on with these exchanges. They're trying to put a little bit more regulatory structure around them before they say, okay, yeah, let's go ahead and move forward with this. So I don't think we see a Bitcoin spot ETF until at least middle of next year.

Yeah, my concern is that Gensler is signaling we may need a national legislation, a whole essentially new regulatory regime around crypto in general, which might require congressional approval. And Congress can't even agree on raising the debt ceiling. So this seems very far off if, in fact, that is the solution, as opposed to piecemeal situations where we saw with Coinbase, where the SEC kind of encroaches or just declares certain, you know, jurisdictional supremacy, I guess is the word.

Steve, your Bitcoin futures ET. did well on Friday, but it really generated only a fraction of the volume of the pro-share's ETF that launched earlier in the week. I think Van Eck is likely going to come later this week. How many more additional players are there? I have no way down on the list. Kathy Wood filed just a few weeks ago in September for a Bitcoin futures ETF. Yeah, I don't know exactly how many there are, but I know that there's a few more that are are likely to come in November or December. You know, I think that us and Van Ag and Pro Chairs are probably going to be the frontrunners here.

And by the way, we're okay of having a fractional of what Pro Chairs has. You know, Pro Chairs is a Goliath. You know, we're a brand new issuer. But we also right now care more about, you know, the spread. We've been trading within a penny out there. We care more about sticking with the front front month. future roles, and we also care about tracking error. Those are the things that are really going to matter in the long run. And if we can keep those things really tight in the first few weeks,

then I think that we're really going to be the long-term play here. Yeah. Bob, you know, if you look at CME, a lot of eyes are going to be on CME and approving additional futures contracts. Because the moon and the stars are aligning right now for demand for crypto allocation in the advisor community. When you look at 30 years of declining interest rates and now a rising bond market and what that does to your fixed income allocation with inflation, with the demand for alternative investments and the current trend in the cryptocurrency area, there's a lot of pressure on advisors to take a stake in the ground, but they've got to be confidence in the vehicles that they can invest in that are on platform and not having their clients go rogue and do something.

something independent of their guidance. Yeah. So if a physical, if a Bitcoin physical ETF is not imminent, are there ETFs, I'm trying to think of another way to play this, are there ETFs that can use Bitcoin futures in more creative ways? Either one of you guys. Can we do something else here if we're not going to get a physical Bitcoin ETF with the futures contracts? Yeah. Well, not necessary. Well, I suppose blockchain, they're there's a lot of blockchain ETFs that are available that are actually investing in minors. It doesn't necessarily correlate with the price. Now with futures available, I suppose they can also invest in futures.

I don't know, Steve, anything that you'd add to that? I mean, look, the reality is the way a lot of advisors are getting access to their clients or even institutional clients are getting access is through private funds. you know, that's really where the majority of Valky's AUM is in private funds that we, that we, that we, that we, that we work with. So, you know, ETFs are still a really small portion of, of what we do and what a lot of people are going to be doing in the future. But there, there are some creative ways, whether it's through mutual funds, getting a small allocation to Bitcoin futures or other ETFs that might have a small allocation to futures. I mean, I would rather have futures than say, GBT, see, right, that trades at a really big discount and could trade at even bigger discount. So Steve, we're seeing, Steve, you know, institutional allocation. So on the high end, there's definitely demand. And then, you know, younger investors, Robin Hood investors are taking their swing, you know,

at the ball as well. But there's this whole middle market where financial advisors manage about $20 trillion that really don't have the best solution right now. And right now, it appears that the futures-based ETF might be that as far as on platform. Bob, that's really where the lion's chair of the demand will be coming. Yeah, yeah. How about the defy markets and ETFs? Anything creative that can be done right there right now?

I don't think so. I mean, the defy markets are extremely interesting. Valkyry actually runs a defy hedge fund that is quite fun to run. And if I could get into the mechanics, but they're probably really boring. But I think it's going to be a really long time before you can put a defy type strategy on public market vehicle, right? Or even other cryptocurrencies into a public market vehicle. I think it's going to take a long time to get hands around Bitcoin before they move on to these other vehicles. What about other currencies?

What about Steve? What about Ethereum? Does this open up room for the Ethereum marketplace to be able to see like products? I think it will. So for Ethereum, the futures actually trade pretty clunky right now. So I don't think it's a good opportunity at the moment. We saw a couple of filings that were filed and then pulled. It's not something I'd be comfortable trading.

And by the way, even Ethereum, you know, a lot of people look at it because it's the second biggest cryptocurrency next to Bitcoin. But it's a completely different type of cryptocurrency. It's a token that essentially pays for gas on a platform, right? Think about it like your AT&T iPhone and applications that are being built on it. And then you're paying for data and you're paying for applications, which is very different than Bitcoin, which is a cryptocurrency. that's used for pure-to-clear transactions. That's why I think that blockchain and even Ethereum is so much more interesting than Bitcoin,

which is essentially just a Bitcoin running off of a blockchain technology. It's just broader. Blockchain in general, Defi is a broader issue, and I think it has much more interesting applications. I have questions about how, about Bitcoin in general for how long it's going to last, particularly as an inflation hedge. Let me just ask you both about inflation. inflation. People keep saying, oh, we're concerned about the dollar and inflation, and Bitcoin's a hedge against inflation. Do you really think that it is? These are the same arguments that have made about gold for many years. I think gold has, there's a lot of people would argue whether or not gold has provided an effective hedge against inflation. You know, I know, Steve, we were talking about El Salvador, it's, you know, switching to the U.S. dollar. But what exactly does that mean? I'm not sure that's an argument for using Bitcoin as a hedge against inflation.

Yeah, well, look, if you look at gold and you can you zoom out a little bit, right? And you look at Bretton Woods too and where gold prices have gone from being pegged to $35 an ounce to where gold is today, it certainly has followed inflation, but not very correlating, right? There's there's been a lot of events and that's taken out the short term correlation, but the long term correlation has been there. I think Bitcoin has really been the same thing, except Bitcoin has also experienced this tech adoption curve. So we're still getting out of that speculative stage and getting into a more useful stage. I think we're getting close. I don't think we're there yet. But we are getting very close to that.

And having countries like El Salvador and potentially other countries adopting Bitcoin as a currency that has a fixed supply that will never go up, certainly helps protect smaller countries against hyperinflation. Yeah. Yeah, Bob, the number one concern among advisors in the last year has been inflation, even though the Fed has been signaling it's transitory. But really, regarding Bitcoin, it comes down to supply and demand. There's a finite number of coins that are available. And there's increasing demand, whether it's El Salvador or creating more vehicles like this

what we're talking about today. They want to, there are more people that want to get Bitcoin in their hands in some way. It doesn't seem to be waning anytime soon. Right. You know, Tom, I know Van Eck has a Bitcoin futures ETF waiting to go. The word is, it's this week. You got any news you can give us here? Any word on when trading might begin there?

Yeah. So, you know, we saw that they did apply for an extension to go affected tomorrow. That doesn't necessarily much. mean it's going to happen tomorrow. But everything we're hearing is it's green light. Everything's go and we could probably expect something within the next week, which again provides more offering. Now it's time to round out the conversation with some analysis and perspective to help you better understand ETFs. This is the market's 102 portion of the podcast. Today will be continuing the conversation with Tom Leiden from ETF trends. Tom, thanks for sticking around and chatting.

I wanted to just, you're one of the great experts in the world on the ETF business in general. and I want to just switch the conversation to the ETFs in the business right now. What's amazing to me is once again, more money is coming in than ever before, billions of dollars over the transom. We're at $6.5 trillion, heading towards $7 trillion in total assets under management.

And yet, there's still, I still see more pressure on the bottom line because of the declining fee base. So people still have money coming in, but there's pressure because of the fee situation. We have north of 200 ETF issuers, but the top five have 90, 93% of all the business. Is that worrisome? We're still getting all this money, and yet the concentration in the business is really getting intense. Does that matter for investors, or it's just something you and I would chat about as people who follow the business?

Yeah, Bob, you and I have been fans of ETFs for a long period of time, and the bottom line is that they're doing exactly what they need to do. They're providing market exposure. They're providing choice, low cost, tight spreads, and all on brokerage platforms that advisors can provide for their clients or self-directed investors can do themselves. And the bottom line is, and it's not sexy, but most of the money is flowing into the traditional index-based strategies,

whether it be the SP 500, P-500 or the NASDAQ or Russell indexes or international MSCI indexes, the Barclay Zag, we continue to see money flowing into those areas that have done really, really well for the last 10 years. It's fun to talk about crypto strategies. It's fun to talk about thematics and disruptive technology. But the lion's share is in the traditional indexes, which have turned out to be best for the investors. Yeah, that's what I, that heartens me greatly because as much as I love talking about thematics, like solar ETFs, or lithium ETFs, or social media ETS, what we call thematics, as a Jack Bogel disciple,

Bogle being the founder of Vanguard, it worries me when we try to minutely slice and dice the universe. It might be great for really active investors, but for long-term investors, I can't help but think Jack Bogle is going to be sitting here pointing his finger at me and saying, you know, Bob, they're going to make the same mistake they made 30 years ago by trying to buy individual stocks or mutual funds. These thematics had the same problems. You're not, you're getting too small slice of the market, and what you want to do is stay in broad index funds. That worries me, but you're saying that the majority of people are still sticking with broad index funds. And for the right reasons.

But look at the advisor community. advisors manage $20 trillion. And the marketplace is different. We're seeing concerns about inflation. We're seeing maybe after 30 years of declining rates, the ability for rates to tick up in the coming years. What does that do for the fixed income portion of the balance sheet? It's not good for the Barclays Ag.

We've already seen negative performance in fixed income ETFs. So what's happening? Investors are moving to either cash, or short-term active strategies or alternative income strategies. Is that a good thing? It may be, but you have to be a little bit more sophisticated if you're doing that yourself. On the other side of the balance sheet with the S&P 500,

we know a high concentration in very few stocks worked well for the last 10 years. However, you don't have allocation to these new, innovative, disruptive technology companies that a lot of people are investing in. And as you know, Bob, COVID has moved up the timeline for many of these. So diversifying a little bit into these areas may be the right thing. And advisors can justify their service and fees by offering a little bit more diversification in these areas.

How is the advisor business doing? I mean, are we still seeing a rush into registered independent advisors? Are people still leaving the old wirehouses to set up their own shop? And is that compelling, given the fee structure, is changing? You know, it's hard for a guy to set up a shop who's an old Morgan Stanley, you know, wealth management guy and, you know, charge one and a half percent these days. That would be a very difficult thing to do these days. Can they, is it feasible to happen?

Well, a lot of them are older and manage a lot of money and probably don't have the energy to make that switch. But you know what? That's going to be passed on to the next general. and they will continue to make the move to the RIA side. They're going to move on the other side of the tracks where companies like Schwab and Fidelity are there in open arms to provide all the technology and services. They have the ability to offer lower fees,

and more of that will be coming. There's a lot of pressure on the wirehouse firms and the independent channels from a fee standpoint. You slice that dollar, thinner and thinner and thinner and ultimately you see disruption and that's all for the good for the underlying investors.

Yeah, at least we're not talking, you know, remember two, three years ago we were all doing race to zero stories, when is a zero you know fee ETF going to come? And essentially three basis points for the S&P is, you know, it's not zero, but it's effectively zero practically. So at least we're not having those arguments

but the pressure on the mid-level stuff, the stuff that used to be charging, you know, 100 basis points is now down to 60 basis points and even 40. That's where you start getting the fee compression, though, right? Yeah, exactly. Well, you see new ideas come to market, and they'll tend to charge a premium. Look at the Bitcoin ETFs themselves. First two launches, 95 bibs.

Third launch that comes from Vanek, 65. Are we going to see that continue to head south? Probably with more demand and more flows, that will happen, all for the right reasons. and ultimately, hopefully, the end investor benefits. Yeah, and you're right. That's the great thing about competition, which is why I think a third Bitcoin futures provider will be a big help.

And we'll see a pro-share's response to that if FANET charges 65 basis points this week. Tom, thank you very much for joining us. Always appreciate your insights. And everybody, thank you for listening to Tom Leighton. InvestcoQQQ believes, new innovations create new opportunities. Here's the greater possibilities together.

Learn more at Invesco.com slash QQ, Invesco Distributors, Inc.