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ETFs have become great options for investors seeking to tap into illiquid corners of the market, or new asset classes. Products have sprung up offering exposure to a number of commodities, stocks in far-flung countries like Nigeria or Kazakhstan, and possibly on the horizon, bitcoins as well.
A shocking filing came across the wires recently detailing plans for a trust holding bitcoins from major players in the industry, the Winklevoss twins. These two individuals, famous for their lawsuit of Mark Zuckerberg over the founding of Facebook, are thought to have a decent chunk of the current bitcoin holding pie, and are looking to bring the asset class to the masses with a fund targeting the digital currency.
Bitcoins in Focus
For those of you are unaware, bitcoins have burst onto the scene in recent months as an alternative to fiat-based currencies. The main item to know is that ‘bitcoins are basically digital commodities based on an open source cryptographic protocol existing on the online, end-user-to-end-user network hosting the public transaction ledger, known as the “Blockchain.”’
While this is obviously a mouthful, it basically means that bitcoins are ‘mined’ by using incredible amounts of computer processing power. There is a fixed amount of bitcoins though, so as the limit is reached, it becomes increasingly hard to ‘mine’ for the coins (read Protect Your Portfolio with Gold ETFs).
The main benefit of this system is that it is beyond the hands of central banks, preventing a devaluation or a high rate of inflation. This could allow the currency to pop up as a competitor to the dollar, or even other ‘safe haven’ commodities out there like gold. The currency is also beginning to be accepted by merchants on the web, though this has seen a relatively slow level of adoption.
The real selling point of bitcoins, at least in recent months, has been their incredible level of price appreciation. After trading in relative obscurity for quite some time, bitcoins have taken off in 2013, surging to new heights (see all the Top Ranked ETFs).
Prices were trading in the low $20s/bitcoin, but skyrocketed in late March and April, rising to well over $200/bitcoin. The value has since fallen back significantly-- $80/bitcoin was roughly the last price seen—though this still represents a good return for earlier adopters of the digital currency.
While some might like the idea of having an easier way to tap into the bitcoin market, there are a host of risks that come with this strategy. The market is extremely small at less than $1 billion, suggesting that volatility and price spikes (as well as crashes) could be prevalent in this asset class (read 4 Ways to Short Gold with ETFs).
There are also a number of legal rissue to consider as well. From the SEC filing, “The loss or destruction of a private key required to access a bitcoin may be irreversible. The Trust’s loss of access to its private keys or its experience of a data loss relating to the Trust’s bitcoins could adversely affect an investment in the Shares.”
Even more troubling though is this statement from the same document, “It may be illegal now, or in the future, to acquire, own, hold, sell or use bitcoins in one or more countries, and ownership of, holding or trading in Shares may also be considered illegal and subject to sanction.”
If these types of risks weren’t enough to sway you away from this idea, it is also worth considering who one of the biggest players in the bitcoin market is today; the Winklevoss twins. Due to this, some are viewing this new trust as just an easy way for the twins to cash out of their sizable bitcoin position in a relatively liquid manner (read Three Biggest Mistakes of ETF Investing).
Given the sizable risks, it might be worth it to avoid the bitcoin ETF if it ever comes on to the market, though it even passing regulatory hurdles seems like a long shot to me. The SEC has taken forever to even allow derivative-based ETFs, so one in which assets vanish if there is a data loss could be problematic for the regulatory body.
Still, the fund could give some added liquidity to the space, or at least make it much easier for the average investor to buy into the bitcoin idea, much like what the current crop of precious metal ETFs has done for that corner of the market.
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