The Grayscale Bitcoin Trust (GBTC) is an almost $14 billion market cap product that’s a giant in crypto investing. For more than two years, the fund traded at an increasingly widening discount to the value of the bitcoin it holds, but that’s turned around significantly in recent weeks, rewarding investors.
“When the discount narrows, it suggests that investors are becoming more confident in the trust or that demand for the shares is increasing. If the discount narrows significantly or disappears completely, it could lead to a substantial return for investors,” said Martin Leinweber, a digital asset product strategist at MarketVector Index, in an interview with CoinDesk.
Why has there been a discount in the first place, why does that matter and why is it shrinking?
The structure of the trust matters a lot when answering these questions. It’s a closed-end fund (CEF), which is a different product than exchange-traded funds (ETFs), which have exploded in popularity in recent years. Both are effectively vaults that hold a pile of assets, be it stocks or, in the case of the Grayscale trust, billions of dollars worth of bitcoin (BTC).
But ETFs have a feature that ensures specialized trading firms known as authorized participants can help keep their value closely in line with the value of the assets they hold. If an ETF owns $10 billion worth of stocks, but fetches $12 billion in market capitalization, these traders can create new shares of the ETF. Doing this allows them to make money due to the premium and also drives the ETF’s price down toward the value of the ETF’s holdings; they’re rewarded for making the ETF more efficient.
Conversely, if the ETF’s price drops to a discount – say its market cap falters to $8 billion, versus $10 billion in assets – those traders can redeem shares, again making money from the discrepancy and pushing prices and assets back toward parity.
Grayscale wants to turn GBTC into an ETF, though the U.S. Securities and Exchange Commission (SEC) has rejected that. Grayscale has sued to overturn that decision. In the meantime, as a CEF, it lacks the arbitrage mechanism ETFs use to keep prices from getting out of whack.
GBTC has traded at a discount to its bitcoin holdings since February 2021. The situation dramatically worsened last year in the aftermath of FTX blowing up. In November, the lending arm of Genesis halted customer withdrawals, and the GBTC discount increased to 43%. Both Genesis and Grayscale are owned by Digital Currency Group (which also owns CoinDesk). Why Genesis’ woes hurt GBTC isn’t exactly clear, though theories include the fact that many trading firms were Genesis customers, and some of them could have been betting on a narrowing discount. Losing access to their money could’ve thwarted those trading strategies.
The GBTC discount deepened to a record 50% in December after the SEC reiterated its reasons for denying Grayscale’s application to convert the trust into an ETF.
So why has the discount narrowed so much in recent weeks, reaching about 25%, the smallest discount since early 2022?
There are few questions in crypto hotter at the moment than whether or not U.S. regulators will finally allow for the creation of ETFs that hold bitcoin (as opposed to the current landscape where the closest thing regulators have allowed are ETFs that hold bitcoin futures contracts). Traditional finance giant BlackRock recently put its enormous muscle behind the push, applying to create one of its own. Given its sway in Washington, D.C., as the world’s largest asset manager, this has generated a massive amount of optimism that a spot bitcoin ETF may not be far from reach. And others like Fidelity, the large mutual-fund manager, have also applied for bitcoin ETFs.
The possibility the SEC will approve the conversion of GBTC into an ETF is playing a role in the discount narrowing, according to analysts. Grayscale said in April it expects to learn by the end of the third quarter whether it will be allowed to turn GBTC into an ETF.
“The catalyst for the current narrowing of the GBTC discount could be the ongoing legal discussions around the possibility of GBTC converting to an ETF,” said Leinbewer. “The market appears to be responding to these discussions and the anticipation of a potential legal victory for GBTC could be driving increased demand for the shares. Think of the discount to [net asset value] as an implicit probability of getting converted to an ETF. The lower the discount, the higher the probability the market prices in.”
Referring to Grayscale’s lawsuit against the SEC, James Seyffart, an ETF analyst at Bloomberg Intelligence, said that he expects the decision to likely be favorable for Grayscale. “But this would simply send GBTC's ETF conversion request back to the SEC to either approve GBTC's conversion *OR* to deny for different reasons. This hope of conversion is likely what is driving the discount lower.”
Seyffart added: “We don't know how long it will take the SEC to approve these products. It could happen with this wave of filings (we think Grayscale have a 50/50 shot at approval currently but it could also take years still if they're denied again). We also don't know how long it will take for Grayscale to convert GBTC once that approval is granted.”
What happens if GBTC is converted into an ETF?
The recent flurry of applications from large institutions for bitcoin spot ETF approvals in the U.S., has generated a lot of hope for Grayscale’s potential to convert GBTC into an ETF, Seyffart said.
He said it is only a matter of time before GBTC gets converted into an ETF. “Once converted to an ETF, GBTC would not trade at meaningful discounts or premiums anymore due the efficiencies of the ETF structure,” Seyffart said.
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