Inside the Multi-Year Quest to Create a Bitcoin ETF

why do you bring this up? Well? Sometimes I think in finance and markets, we talk about complicated or sort of abstract topics and the best way for people to learn about them would be if we went out and tried our hands at them ourselves. But given its finance and markets, that's difficult and or in some cases illegal. So you're saying, we're not going to do an episode where we go out and launch a trading operation or

anything like that. No, we're not. But we're gonna do the next best thing, which is we're going to have a guest come on and talk about his specific experience trying to set up a bitcoin exchange traded fund. I am very excited about this. Of course, this was a huge topic late last year, so many different companies rushing to try to be the first with a e t F that gave people direct exposure to bitcoin. It was fascinating to watch. It still hasn't happened yet, but that

exact process, I agree. I think it is still shrouded in mystery for most people, how you go about it and what it actually takes to get there. So the great thing about this conversation, in my opinion, it's not necessarily the emphasis on bitcoin. It's the emphasis on the e t F structure and how you would apply that to a new type of asset. And I should also say, as a bonus, we have an extra guest on our thoughts today. That is Rachel Evans. She is our e

t F guru for Bloomberg News. She covers all sorts of e t F. She's going to be in on the conversation and to begin with before we bring on our main guest, she's going to help us lay out well the lay of the land really when it comes to E t S. So Rachel, let's start with you. Thank you so much for coming on. Thank you guys for having me. So I guess the first question to you is we talk about building a Bitcoin e t F. It's been a multi year attempt. Why has it been

so difficult? So with bitcoin e t F, I mean, it basically takes us back to what it takes to create a successful exchange trade of fund. First, of of course, you need to have a great idea. Now with Bitcoin, people feel like they have a great idea. But the next step in that process is trying to get approval from the Securities and Exchange Commission, the regulator for e t f s to actually be able to launch that.

And now the sec has really been dragging its feet a list a bit on this for for market participants anyway, because they have some serious concerns about how Bitcoin would operate within an exchange trade of fund. Now what this kind of comes down to, it in essence, is really kind of the back office operations of an exchange trade of fund um. To make an e t F actually work, there are three key aspects that you need to have in place. The first is kind of the fairly sort

of vanilla back office type arrangements. This is kind of the custodian the board that kind of monitors um. You know how the manager is actually doing and make sure that the e t F is on target. And that's something that I think on the custody side they've kind of had concerns about, but that the second and the third kind of pillars are really kind of where the

sec has actually had issues. That's kind of on the authorized participant side of things, which sounds a lot like jargon, right and and it is, but basically, the authorized participant is the gatekeeper for e t F, so they are pretty much the most import autant person when it comes to making an exchange trade of fund work. What they do is that when you decide to buy an e t F, you give your cash to your broker via

any of the many online platforms that you have. That cash then wends its way through to the hands of an authorized participant, who is the one that actually goes out and buys the stock or the bonds or the commodity that then gets put into the fund, and the fund manager will then manage the same process happens on the way out that the fund is going to give you your money back. The security is goes to the authorized participant, who then sells those securities in the market.

And gives you your money back. So basically they are the middleman, and the SEC is a little bit concerned about how that might work with bitcoin. There's then of the third pillar, and this is really related to the fact that e t f s are something that you can invest in for the long term or you can trade. So the third pillar for for ecfs is the market makers who are really dealing with e t f s

on the secondary market. So the thing that's really important for these guys is that they do something called arbit Now.

Arbitrage is very important to to e t f s because it makes sure that the price of the e t F doesn't diverge too significantly from the actual value of the e t F. Now, the way that the market makers go about doing this is that if they see that the shares of the e t F A are trading more than the underlying securities, and what they might do is they will go into the market, buy up for all the underlying securities, take them to that authorized participant, get some shares for the e t F

and then sell them at that higher price. They've basically been able to buy something cheap and sell it high and lock in that profit. Now that is not only great for them because they take that margin, it's also really good for investors because it makes sure that the price of the e t F doesn't diverge too far from the actual value of the securities. Tracy, I just learned a lot from that answer about e t f s, all kinds of stuff I didn't already know about how

they work. Well, I mean, I think we have the essential building blox for the next leg of our conversation, which is our main beust. Greg King, the CEO of rex Shares and someone who has actually attempted to begin a bitcoin based e t F. So Greg, thank you for coming on all thoughts, Hey, Tracy, Joe, Rachel, good to be here. So Greg, Before we get into the specifics of the bitcoin et F endeavor and your journey to get there, why don't you tell us a little

bit who you are? What's your background? What is rex Shares? I mean, I think, uh, there are a lot of some well known brands in the e t F space, But what is your firm and how did you get there? There are there are so many new entrants in the space, right I I started back when there were I don't know,

just a handful of et F companies. But my journey into e F started when I was at Barkley's so early two thousand's, and Barkley's was already with with I Shares, the sort of eight pound gorilla in the space, and was developing all kinds of new asset classes, mainly commodities, and so I was on a project with them to develop some of the first commodity exchange traded products. That's how I got in, and like a lot of things

in life, is sort of just happened unintentional. And then I got to know a little bit about the et F space and was fascinated and start to dig and do a little more and work on more projects with Barclay's and kind of one thing led to another. It's been fourteen years or so, and during that time I worked for a bank, Swiss Bank Credit Space, developing some products. Previously founded and sold a company called Velocity Shares, which we sold to Janice Capital, and so rex Shares is

my next company. We wanted to focus on democratizing access, right I. I sort of believe that investors um the e t F is a great tool for democratizing access to new asset classes or new investment strategies. You know, as we're going to talk about there's there's lumps along the way, but that's what REX is all about. You

mentioned democratizing access to assets. I wonder how that applies to bitcoin specifically, because of course, one of the selling points of bitcoin is, you know, it's this decentralized currency and anyone can buy it. So walk us through how exactly you came up with the idea to apply the

E t F structure to bitcoin. So I remember I was on a business trip in Washington, d C. Actually, and I came across I don't know if the I was at a conference and the session was that very entertaining or something, and I was flipping through the news and I read an article on bitcoin. It was sort of late two thousand thirteen. Bitcoin was having a big run up, and I remember I think I had heard of it before, but hadn't really paid that much attention.

You know, price action tends to tend to focus the mind. We saw last year as we saw last year in spades. So within the span of of a couple hours, I decided to open an account with coin base and buy some bitcoin, and so I personally got involved in bitcoin then, and it wasn't on my radar for purposes of product development. It just was it just seemed like, you know, those

worlds were too far apart. But shortly thereafter, or some time around then, of course, the Winklevoss filed for an e t F and uh, you know, if you were in the E t F world, you saw that and it was like, wow, okay, here we go. But knowing something about how these things get done, I thought, well, that's you know, that's gonna have a lot of hurdles to overcome, and you know, just watched from a distance. But for me, that the turning point was in two

thousand fifteen when the CFTC you know ruling. I think that it was a it was some sort of enforcement action against one of the early exchanges that in the course of making that ruling, the CFTC basically said, hey, bitcoin is a commodity and therefore, you know, we're its regulator.

And that's when the light bulb went off for me that I saw a route to an e t F that perhaps didn't necessarily involve bitcoin itself, but futures contracts, something that was regulated by the CFTC, and of course there were no bitcoin futures, but now we actually have them, and last year we did see the launch of two bitcoin futures that are currently trading. Yeah. Yeah, it took a while for that to develop, but for for us, that was the kind of the first glimmer of Okay,

I see, I see a path here. Because physical bitcoins are just so intangible, it seemed like it would take

a while for everyone to get comfortable. I want to ask before we talk too much about the specific process of getting the bitcoin e t F off the ground, I want to ask about the business of running a niche e t F company in this world where we have these huge eight pound gorillas like I shares and so there are obviously some strategies that are well known and well trodden, whether it's just sort of indexing strategies against the SMP five hundred, or emerging market strategies or

country specific strategies or factor strategies buying low volatility stocks in a basket. In the world of sort of very small, sort of startup E t F companies, what is the goal is it to find something that becomes the next mega E t F? Like, how do you think about these sort of upsides and downsides of the business and the general opportunities. I could answer that question for a while, but you know, I think actually the bigger companies are the ones these days that really need to look for

the mega hits to move the needle. Uh. The smaller companies can actually survive with with much smaller niche products and so um. But it is it is more difficult there are so many players out there. UM. The way we look at it is we have to believe in something and and believe that it's going to add value to the market. Just generally, that's something that investors want, something that hasn't been done before, hasn't been done in a way that we think we can do it, and

uh and and where there's a demand. Right. So, but if you don't, if you don't have that drive to to kind of discover these opportunities and really work towards them, then it's a difficult place. So when did you decide that that your idea for investing in bitcoin um individually could actually be transferred into something that would work as an exchange trade of funds for a variety of investors. So in two thousand and fifteen, when the CFTC came

on the scene. We started to say, all right, well, you know, how far are we away from a futures contract. We visited a number of the futures exchanges and and really started to understand you know, who's out there, who's working on this. Uh. Index providers are also important, um. The exchanges in for example, the CME was developing an index which at the time you know, was not publicly announced. UM.

So we just tried to learn the ecosystem. We also decided to approach the SEC and speak to them about this off the record, and even though futures didn't exist, we generally got favorable kind of remarks from them. They they thought, okay, well this would sort of help address some of the concerns that we have regarding physical bitcoin. So when you embarked on that process, you know Rachel mentioned earlier these three necessary ingredients for the et F structure,

the custodian, the authorized participants, and the market makers. When you were in the early stages of your idea, did you go out and talk to potential custodians or aps or market makers. We did. We talked to a few of the market makers and they were active in in physical trading of bitcoin already. So there's a few firms that have been that that sort of do E t

F market making that were early in cryptocurrency trading. Um, so we knew that there would be support from at least a few market makers, which is which is critical. As Rachel pointed out, without that, you know, you don't really get too far. The custody piece though, skipping back up to her first sort of back office category, um, that is the part that that kind of really gets

cleaned up with the futures contract. Right, everyone can custody, uh, you know, a CRME or c a listed future, but customing these you know ones and zeros, you know, a little bit trickier. Yeah, it was just gonna ask exactly that, because without the futures you could theoretically have an E t F that held the private keys of bitcoins. Right, but this just sort of makes it much easier, so you don't have to worry about getting hacked or all those other things. Yeah, yeah, that's right, and this is

you know a couple of years ago. So really I think even the custody of the physical bitcoin, and when I say physical bitcoin, I you know, it's how physical is it really? But the private keys, even the technology there was not where it is today. I think that's come a long ways as well. But thinking through the ecosystem that Rachel explained, we just thought that a derivatives contract would be would be the way to do this.

If you look at other e t F s right say, for example, we we already had bitcoins of commodity, and if you look at gold, the way that the et ups have been done is to hold the physical gold. That's great, and everybody's comfortable with that process. That works well. If you look at oil, however, the e t F don't hold physical oil. They just roll oil futures contracts.

Same for natural gas, etcetera. So with commodities you really have to look at the characteristics of the underlying and in some cases it's just more pragmatic to hold the futures contract as a proxy for the underlying. So we thought that this cleaned up several of those issues really pretty nicely. So Greg, I gotta ask you said, you went to the sec uh, you got an initially what seemed to be a favorable response. Um, what happened after that?

After that we sort of had to hurry up and wait because the futures didn't exist, So we uh focused on a few other things and and kept trying to encourage the futures ecosystem, for lack of a better term, to populate with contracts. So being helpful, we did speak to a number of exchanges and helped however we could, but it took a while, you know, they was the bulk of last year, and then as we know, in in December we had a couple of contracts that finally launched.

Of course, by that time there were a lot of people interested because I think the buzz preceded the you know, the actual launch. Yeah, tell us a little bit about last year, because obviously the second half, or really the fourth quarter of seventeen, it was just an absolute frenzy for bitcoin and other cryptocurrencies, and there were numerous applications

for bitcoin e t f s. Everybody wants one. I think everybody knows how big the SPDR Gold Fund is become truly democratized the way people could invest in gold. Now it's one of the biggest e t f s in the world. Talk us to us about that sort of frenzy and competition and what really happened over the

last few months. Yeah, it was. It was a really interesting time and and obviously speaking from a product development perspective, it was interesting and but also at the same time, the price was just really cranking and it was on

TV all day. You know, we just it was. It was surreal in the sense that you know, in learning more, if you if you go back a year trying to find articles or trying to find clips or or different research on bitcoin, it was sparse, and then by the end of the year it was just everywhere and every

everybody had an opinion on it. But I think what happened is there was a press release, I think that one of the exchanges was going to launch, and you know, we had not filed anything publicly because, as I mentioned there, there's sort of no point to do that quite yet if the futures don't exist. Um, and so we we had just sort of been waiting. We'd had our discussions of the SEC but people started to file, so you know, we thought, well, we the environment might be changing quickly,

so let's go ahead and file as well. Um. And you know, we weren't. We weren't the first and we weren't the last. And there were a lot of filings that came through, but ultimately the sec UH decided on a couple of different occasions to really asked people to take a step back, and I think they, you know, they were clearly getting bombarded and just wanted to to

basically slow things down. I think to put that all in context, when we actually had the most kind of e t F filings out there, it was more than I think it was seventeen or even more than that. So the SEC was really kind of being bombarded by all these filings that all wanted a bitcoin ETFC the physical as physical as you can get. All the futures.

Is the expectation that in worthy SEC to give a green light at some point that all of them would get approved, or that some of them would be approved, or do people think maybe one or two would be approved and those would be the big winners? Like how do how does the SEC think about these situations where lots of entities are competing for the exact same roughly the same thing. Yeah, that's a great question. So and there's a lot of nuance here because there are different

divisions of the sec um. There is the CFTC, which is totally separate regulator um, and there's some I guess diversion of opinion in terms of where those boundaries end. But specifically with respect to ETFs, you basically have two kinds. Right. Your typical ETF is is what we call a forty Act fund. Right, it's an investment company. It's basically a mutual fund that has applied for certain exemptions that allow it to trade like a stock. That's essentially how we

t fs really started. But then you have and and keeping in mind that bitcoins a commodity, you have a lot of e t f s. They're they're actually not forty Act funds at all. They're filed under the thirty three Act, and they don't have an investment manager. So what happens is that and strictly speaking, there's probably four or five permutations of this. So if you're filing a product, it's going to go to the regulator that governs that particular type of product, and in all cases it might

lead to a different department. And that sounds a little I guess, um, you know, silly, but the reality is that there are bodies of law that govern different types of investments differently, and that's just kind of the way the the ecosystem has evolved here since, you know, since nineties, and it hasn't changed a whole lot. So the letter that got sent out was sent by the Division of Investment Management at the SEC, and that division is specifically

concerned with forty Act funds. There are a number of filings that are still in and they basically don't have an access to the Division of Investment Management. UM. So, so a letter was sent back in January by Dahlia blast Um and the Investment Management division of the SEC regarding the bitcoin funds that had come to them seeking approval. UM, Can you tell us a little bit about what that

letter said regarding their concerns? Sure. Yeah, that was a sort of an industry wide letter that came out and they articulated I think it was like thirty eight different questions in that letter. UM. Really as a as a letter to the I c I and really all mutual fund or forty Act fund providers that ask them questions regarding valuation policies around bitcoin, uh, custody issues around bitcoin arbitrage mechanics with the market making community. Essentially, I thought

it was helpful to understand where they're coming from. So it's a little bit of an extraordinary move. You don't typically see something like that, But they essentially put down on paper all of their issues and I think a number of them had, at least in our communication with them, already been addressed. But I think this was their way of saying to the industry formally and very you know, sort of loudly, here is what we're concerned about. And

and they said it very clearly. Until these issues are addressed, we don't think it's appropriate to file for these products. So each provider got their own version of that letter. We got one privately as well that was tailored to our our products, and each provider, I assume we are is responding to the SEC. It's just happening outside of the registration process. That was going to be my question. So these letters get sent out in January. I realized

it's only um four or five months since then. But it seems like virtually every day that passes, there's another financial institution that's tiptoeing into the crypto space, or at least says they are. So are we any closer to alleviating some of the SEC's concerns? Are we any closer to getting you know, a real group of potential authorized participants, market makers and especially custodians who might be able to do those I think we are actually so. Um. The

market makers have been there for a while. I think the futures volume, for example, is one of their concerns. I think that's developing nicely. Um. The staff has been responsive in terms of our private dialogues, so it's not like that they're not focused on this. I think they just needed to slow down the timeline. I don't want to predict obviously the timeline, um, but I do think that progress is being made, and to your point, just industry wide, there continue to be resources poured into this,

just from all over the place. Yeah. One thing that's striking in your recounting of the early history is things that we may not think about as having been important bits of infrastructure. So you talk about an early attempt to create a bitcoin price index, which of course is probably important for some sort of reference for a future, which then becomes important for obviously the custodial aspect of an e t F. So right now, when you look at the lay escape and we see, oh, there's a

new trading desk at expert or there's new something. These all are sort of even if we don't really think of it that directly, bits of infrastructure that are coming in place that could see theoretically, uh support of an eventually TS. Yeah, there are a lot of building blocks that need to need to happen. And I was as you were talking, I was thinking about a house. Right. You go in the house and switch on the lights and you know, wash your hands or whatever, and everything

works right. But without those systems electrical or plumbing or whatever it is, it's just it's not really a fully functioning house. So there was a lot of UM. I I think there was a lot of interest obviously because bitcoin is such a phenomenal thing and it's it's so new and and and it's it's so interesting to a lot of people. But the capital markets infrastructure just wasn't there, and it's getting built out, and I think it's um it's only a matter of time. So obviously we'll see

what happened. It is on the development of the bitcoin etf at all the different companies trying to get that out. Your firm wreck Shares is not just doing a bitcoin ETF. You also have a filing out for a blockchain e t F. What could you say about the other irons in the fire seth week the yeah, sure, the So the bitcoin ETF technically we withdrew, but we're talking to them on the side. That's actually why I can talk about it uh now, is because we're not in the

filing process. But we do have a blockchain ETF that we're hoping to launch in the upcoming weeks. We're excited about that because we think investors want exposure to this technology, and we've partnered with um, a portfolio manager who runs a crypto hedge fund, so he's going to be an active manager for this e t F, which is a little unusual in et F land. Usually you're following a passive index, but this is taking the active approach and trying to get exposure to companies you've got some form

of blockchain exposure or cryptocurrency related activity. That's that's material. Got it, alright, So both the potential bitcoin et F and a blockchain e t F maybe on the way. Okay, so special thanks to our bonus guest for this episode, Rachel Evans. She's a reporter at Bloomberg News. She covers all things et F and also thank you to Greg King's CEO of wreck Shares for sharing your story. Thanks

so much, Thank you both. Thank you so Joe. I really enjoyed that conversation because I like talking about the nuts and bolts of e t f s, whereas I don't really like talking about the nuts and bolts of bitcoin and blockchain so much. To be honest, no, I agree.

I I feel the same way because there's been a million bitcoin conversation We've had them on this podcast specifically, but using bitcoin as a lens through which you can understand this process in this massive industry and the unique challenges that bitcoin poses with regards to custody and the arbitrage and all that stuff. I learned a ton just about the mechanics of e t f s and the

regulatory aspect that I definitely didn't know about before. Yeah, and I guess it's worth pointing out that learning about the mechanics of e t f s actually helps you learn about potential strengths and weaknesses in the structure. Uh. You hear all the time about this idea that maybe e t f s aren't going to work one day, and what people are worried about there is that maybe

the market makers or the ap s won't do their jobs. Essentially, you know, one day they won't do the arbitrage, maybe because the market is so volatile that they don't want to come in and take that sort of risk. But on the other hand, a lot of people in the E t F industry would say, well, if you understand how that works, it's very, very unlikely that we're ever going to encounter a day when a big AP which is essentially a large bank doesn't want to make money.

So it helps to understand both sides. Yeah, absolutely, And of course something that you've done a lot of reporting on is you hear about this, particularly with h bond E t F which people fear that the underlying are a liquid or don't trade or don't price enough. Some of the people get anxiety every couple of years about junk bond e t f s, and so understanding that exact mechanics really illuminates what it is that people get concerned about. Yes, how I learned about bond e t

f s through the mechanism of a bitcoin exchange traded fund. Okay, well, this has been another edition of the Odd Lots podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway and I'm Joe Wiser though you can follow me on Twitter at The Stalwart and you should follow our producer so for Foreheads at for has T, as well as the Bloomberg head of podcast, Francesca Levy. She's at at Francesca Today, as well as our guests follow

Rachel Evans at Rachel Evans Underscore and Why. And our guest Gregg isn't on Twitter, but his company Wreck Shares is on Twitter at rec Share. Thanks for listening