The Ethereum spot ETF is expected to begin trading in late July, with Galaxy estimating that it will attract an influx of $5 billion in funds five months after launching. This article predicts the performance of the Ethereum spot ETF after it is listed by observing the Bitcoin spot ETF.
Table of contents
Key points
Background
The experience of Bitcoin ETFs
ETF demand primarily driven by retail investors, institutional demand is on the rise
Wealth management platforms have not yet begun purchasing Bitcoin ETFs for clients
Estimating potential Ethereum ETF inflows
Factors affecting the sensitivity of ETH and BTC prices
Future outlook
The Bitcoin spot ETF (launched on January 11, 2024) has accumulated a net inflow of $15.1 billion as of June 15, 2024.
Nine issuers are working to launch 10 Ethereum spot ETFs in the US. The Securities and Exchange Commission (SEC) approved all 19b-4 filings on May 23, and these ETFs are expected to begin trading in July 2024.
Like the Bitcoin ETF, we believe that the primary source of net inflows will be independent investment advisors or investment advisors associated with banks, brokers, or dealers.
We expect net inflows of the first five months of the Ethereum ETF to account for 20-50% of the net inflows of the Bitcoin ETF during the same period. Our estimate target is 30%, meaning a monthly net inflow of $1 billion.
Overall, we believe that the price sensitivity of ETHUSD to ETF inflows is higher than that of BTC, as a large portion of ETH’s total supply is locked in staking, cross-chain bridges, and smart contracts, with less held by centralized exchanges.
Observers and analysts have underestimated the possibility of the Securities and Exchange Commission (SEC) approving spot Ethereum exchange-traded products (ETPs) in recent months. Pessimism stems from the SEC’s unwillingness to explicitly recognize ETH as a commodity, lack of contact between the SEC and potential issuers, and enforcement actions regarding the Ethereum ecosystem.
However, all current spot Ethereum ETP applications have been approved by the SEC. We expect these instruments to be officially launched after the S-1 filings come into effect (expected to be released at some point in the summer of 2024).
This report will refer to the performance of the Bitcoin spot ETP to predict demand after the launch of the Ethereum ETP. We estimate that the Ethereum spot ETP will achieve approximately $5 billion in net inflows in the first five months of trading (approximately 30% of Bitcoin ETP net inflows).
Currently, nine issuers are competing to launch 10 spot ETH exchange-traded products (ETPs). In recent weeks, some issuers have withdrawn. ARK has chosen not to collaborate with 21Shares to launch an Ethereum ETP, while Valkyrie, Hashdex, and WisdomTree have withdrawn their applications.
The figure below shows the current status of applicants, sorted by 19b-4 filing date:
Grayscale is seeking to convert the Grayscale Ethereum Trust (ETHE) to an ETP, just as the company did with its Grayscale Bitcoin Investment Trust (GBTC), but Grayscale has also applied for a “mini” version of the Ethereum ETP.
On May 23, the SEC approved all 19b-4 filings (allowing rule changes for securities exchanges to ultimately list ETH spot ETPs), but each issuer now needs to discuss its registration statements with regulatory agencies.
The products themselves can only truly begin trading once the US Securities and Exchange Commission allows these S-1 filings (or ETHE’s S-3 filings) to come into effect. According to our research and reports from Bloomberg, we believe that the Ethereum spot ETP could begin trading as early as the week of July 11, 2024.
The launch of the Bitcoin ETF can be used as a benchmark for predicting the potential popularity of the Ethereum spot ETF.
Source: Bloomberg
The following are some observations of the first few months of trading of the Bitcoin spot ETP:
Inflow has been steadily increasing. As of June 15, the total net inflow of the US spot Bitcoin ETF since its launch exceeds $15 billion, with an average net inflow of $136 million per trading day. These ETFs hold approximately 870,000 BTC, accounting for 4.4% of the current supply. The BTC trading price is about $66,000, and the total AUM of all US spot ETFs is approximately $580 billion. (Note: Before the ETF was launched, GBTC held approximately 619,000 BTC.)
ETF inflows are partly responsible for the increase in BTC prices. Through regression of the 1-week change in BTC prices and ETF net inflows, we calculated an r-squared of 0.55, indicating a high correlation between these two variables. Interestingly, we also found that price changes lead inflows, rather than the other way around.
GBTC has been a major concern for the overall liquidity of the ETF. Since converting the trust to an ETF, GBTC experienced significant outflows in the first few months. Daily outflows from GBTC peaked in mid-March, with outflows reaching $642 million on March 18, 2024. Subsequently, outflows have eased, and there have even been a few days of positive net inflows from GBTC starting in May. As of June 15, GBTC’s BTC balance has decreased from 619,000 to 278,000 since the ETF was launched.
13F filings show that as of March 31, 2024, over 900 US investment companies held approximately $11 billion worth of BTC ETFs, accounting for about 20% of the total BTC ETF holdings, indicating that most demand is driven by retail investors. The list of institutional buyers includes major banks (such as JPMorgan, Morgan Stanley, and Wells Fargo), hedge funds (such as Millennium, Point72, and Citadel), and even pension funds (such as the Wisconsin Investment Board).
The largest wealth management platforms have not yet allowed their brokers to recommend Bitcoin ETFs to clients, but reportedly, Morgan Stanley is exploring allowing its brokers to solicit clients to purchase. In our report “Market Size of Bitcoin ETFs,” we wrote that it may take several years for wealth management platforms (including proprietary brokers, banks, and RIAs) to help clients purchase Bitcoin ETFs. Thus far, inflows from wealth management platforms have been minimal, but we believe it will be an important catalyst for Bitcoin adoption in the near to medium term.
GBTC Daily Liquidity After ETF Approval (USD)
By referencing the situation of the Bitcoin ETP, we can roughly estimate the potential demand for the Ethereum ETP.
Relative market size of BTC and ETH ETPs
To estimate the potential inflow of the Ethereum ETF, we apply the BTC/ETH multiple to the net inflow of the US spot Bitcoin ETF. As of May 31, 2024:
The market value of BTC is 2.9 times that of ETH.
In all exchanges, based on open interest levels and trading volumes, the BTC futures market is approximately 2 times the size of the ETH futures market. Specifically at CME, BTC’s open interest is 8.4 times that of ETH, and BTC’s daily trading volume is 4.2 times that of ETH.
The AUM of various funds (divided into Grayscale Trust, futures, spot, and selected global markets) shows that the scale of BTC funds is 2.6-5.3 times that of ETH funds.
Based on the above situation, we believe that the inflow of the Ethereum spot ETF will be approximately 1/3 of the inflow of the Bitcoin spot ETF (estimated range of 20%-50%).
Applying this data to the $15 billion inflow of the US spot Bitcoin ETF before June 15, it means that in the first five months after the launch of the Ethereum ETF, the monthly inflow is estimated to be $1 billion (estimated range: $600 million to $1.5 billion).
Estimated inflow of US spot Ethereum ETF
Due to several factors, we see some valuations lower than our estimates. Nevertheless, our previous report forecasted that the first-year inflow of the Bitcoin ETF would be $14 billion, assuming the entry of wealth management platforms, but there were already substantial inflows into the Bitcoin ETF before these platforms entered. Therefore, we recommend caution in predicting a downturn in demand for the Ethereum ETF.
Some structural/market differences between BTC and ETH will affect ETF liquidity:
The demand for the Ethereum spot ETF may be affected due to the lack of staking rewards. Unstaked ETH will be lost.Below are the translated contents:
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The opportunity costs involved are: (i) inflation rewards paid to validators, (ii) priority fees paid to validators, and MEV income paid to validators through relays. Based on data from September 15, 2022, to June 15, 2024, we estimate the annualized opportunity cost of forfeiting staking rewards for ETH holders at 5.6% (4.4% if calculated from year start to date), highlighting a significant difference.
This diminishes the attractiveness of spot ETH ETFs to potential buyers. Note that ETPs offered outside the United States (e.g., in Canada) provide additional income to holders through staking.
Sources of revenue for non-staking and staking ETH holders
Additionally, Grayscale’s ETHE may impede inflows into ETH ETFs. Similar to the substantial outflows experienced during the ETF conversion of the GBTC Grayscale Trust, converting the ETHE Grayscale Trust to ETFs could lead to significant capital outflows.
Assuming the outflow rate of ETHE matches that of GBTC in the first 150 days (i.e., 54.2% of trust supply withdrawn), we estimate monthly outflows of approximately 319,000 ETH, amounting to $11 billion per month at current prices, or $36 million per day.
It’s important to note the token percentages held by these trusts relative to their total supplies: BTC 3.2%, ETH 2.4%. This suggests that ETHE ETF conversion pressure on ETH prices is less than that on BTC. Furthermore, unlike GBTC, ETHE is not subject to forced liquidation in bankruptcy cases (e.g., 3AC or Genesis), further suggesting that the sell-off pressure related to ETH’s Grayscale Trust may be relatively less than that of BTC.
Net flows of GBTC and ETHE (forecast)
Basis trading may drive demand for Bitcoin ETFs by hedge funds. Hedge funds engaging in basis trading aim to arbitrage differences between Bitcoin spot and futures prices.
As mentioned earlier, 13F filings show that as of March 31, 2024, over 900 U.S. investment companies hold Bitcoin ETFs, including notable hedge funds like Millennium and Schonfeld.
Throughout 2024, ETH’s financing rates on exchanges average higher than BTC, indicating (i) relatively higher demand for longing ETH, (ii) potential for more demand from hedge funds utilizing basis trading via spot ETH ETFs.
BTC and ETH financing rates
Given our estimated proportions of ETF inflows to market capitalization similar to Bitcoin flows to market capitalization under all other conditions equal, we expect similar price impacts. However, there are several critical differences in supply and demand for these assets that could lead to ETH being more sensitive to ETF flows:
BTC and ETH market supply differences
Exchange-held supplies: Currently, exchange-held BTC supply percentage is higher than ETH (11.7% vs. 10.3%), suggesting potentially tighter ETH supply, with higher sensitivity to ETH price due to assumed proportional inflows.
Inflation and destruction: Following the latest halving on April 20, 2024, BTC has an annual inflation rate of approximately 0.8%. Post Ethereum merge, ETH has seen net negative issuance (-0.19% annualized) due to new issuance paid to validators (+0.63%) being offset by burnt base fees (-0.83%). In the last month, ETH base fees were relatively lower (-0.34% annualized) and failed to offset new issuance (+0.76% annualized), resulting in a net positive annualized inflation rate of +0.42%.
Supply held by ETFs: Since launch, net BTC entries into U.S. spot ETFs (excluding the starting balance of GBTC) total 251,000 BTC, accounting for 1.3% of current supply. Calculated annually, ETFs will absorb 583,000 BTC, or 3.0% of current BTC supply, far exceeding dilution from miner rewards (0.81% inflation rate).
However, actual market liquidity available for purchase is much lower than reported current supplies. Adjustments should better reflect available market supply for each asset, including adjustments for staked supply, dormant/lost supplies, and supplies held in cross-chain bridges and smart contracts:
Adjusted supply calculations for BTC and ETH
Staked supply (discount: 30%): Staking reduces the token available for ETF purchases. Currently, Bitcoin lacks staking functionality, while Ethereum requires staked ETH to secure the network, with stakers able to unstake ETH for other uses. Currently, staked ETH amounts to approximately 27% of current ETH supply; we apply a 30% discount to estimate available market supply, resulting in an 8.2% supply discount.
Dormant/lost supply (discount: 50%): Some BTC and ETH are considered irretrievable (e.g., lost keys, shipwrecks), reducing available supply. We use BTC addresses dormant for over 10 years and ETH addresses dormant for over 7 years to calculate dormant/lost supplies, accounting for 16.6% and 6.7% of current BTC and ETH supplies, respectively. We apply a 50% discount to this balance, assuming some supply held in dormant addresses may return to circulation.
Supply in cross-chain bridges and smart contracts (discount: 25%): This represents supply locked in bridges and contracts for production purposes. BitGo holds approximately 153,000 BTC in custody for wrapped BTC (wBTC), with a similar amount estimated locked in other cross-chain bridges, totaling about 1.6% of BTC supply. Locked ETH in smart contracts accounts for 11.4% of current supply. We apply a lower discount of 25% to this balance compared to staked supply, assuming this supply is more liquid than staked supply (i.e., potentially not subject to the same lock-up requirements and withdrawal queues).
Applying discounted weightings to each factor to calculate adjusted supply for BTC and ETH, we estimate available supply is 8.7% and 14.4% lower than reported current supplies, respectively.
Overall, ETH’s price sensitivity to market value-weighted inflows should be higher than BTC, due to (i) lower available market supply based on adjusted supply factors, (ii) lower percentage of exchange-held supplies, and (iii) lower inflation rates. Each of these factors should multiply rather than add to price sensitivity, with prices often more sensitive to larger variations in market supply and liquidity.
Looking ahead, several questions remain regarding adoption and secondary effects:
How should allocators view BTC and ETH? Will existing holders migrate from Bitcoin ETFs to ETH? Expectations for some rebalancing among allocators. Will spot ETH ETFs attract new buyers who have not yet purchased BTC? What will potential buyer portfolios look like? Will they hold only BTC, only ETH, or both?
When might staking capabilities be added? Does the absence of staking rewards affect the adoption of spot ETH ETFs? Will investment demand for DeFi, tokenization, NFTs, and other crypto-related applications further boost the adoption of ETH ETFs?
What potential impact will this have on other altcoins? Are we more likely to see approval of ETFs for other altcoins following ETH?
Overall, we believe the launch of spot ETH ETFs will have a significant positive impact on the adoption of Ethereum and the broader cryptocurrency market, primarily for two reasons:
(i) Expanding the reach of cryptocurrency
(ii) Greater recognition of cryptocurrencies through regulatory agencies and trusted financial service brands.
ETFs can expand coverage to retail and institutional investors, provide broader distribution through more investment channels, and support more investment strategies involving Ethereum in portfolios. Additionally, increased understanding of Ethereum among financial professionals will accelerate investment and adoption.
Related Reports
Bloomberg: Launch of Ethereum spot ETF postponed to July 8; SEC requests issuer to amend S-1 filing
Bloomberg: Standard Chartered Bank is setting up a “cryptocurrency exchange” stationed in London, trading Bitcoin and Ethereum spot
Reuters bullish as well: Ethereum spot ETF potentially launching by 7/4, how much new capital could it bring?