Oct. 12, 2018
Robert Geier, Ph.D. Michigan State University East Lansing, MI United States While I am generally opposed to the Bitcoin ETF proposals that intended to base an ETF on a derivative instrument like bitcoin futures as being too subject to manipulation and unforeseen impacts of leverage and delays of market information, I support the current proposal which is based directly on the underlying bitcoin commodity market. In general, cryptocurrencies are an emerging asset class that show low correlations with other markets. Bitcoin in particular because of its secure issuance limitations has attractiveness as a long-term gold-like stable asset during periods of market or monetary upheaval. For both reasons, cryptocurrencies make an intelligent, if limited addition to an ideal diversified Markowitz portfolio for both institutional funds and for individual retail investors. An ETF is necessary in this space because bitcoin (and other cryptocurrencies) are bearer instruments. As such, they pose risks to retail investors and non-technically savvy institutions for long-term storage and security. Providing an ETF therefore allows retail investors and others safer, more secure access to this class of assets in much the way that other commodity ETFs function. The proposal intends the SolidX Bitcoin Trust to engage in a variety of the bitcoin OTC and private markets directly. Essentially, it places the Trust in a position to further stabilize and surveil the inter-market bitcoin pricing, acting as an additional arbitrageur. This is commendable, and will serve to further the Commission's interests in providing a stable and non-manipulated market. The intended engagement by the Trust is necessary for the current market, however it raises some concerns about market transparency for retail and small institutional investors. If a large majority of transactions occur solely on the OTC markets, timely price discovery by market participants may be reduced. The Commission should consider whether some fraction of Trust transactions, perhaps increasing by year, must be concluded on public global exchanges. This will help further stabilize these instruments while ensuring transparent national and global pricing. With respect to the specific questions raised by the Commission: 1. In general, I concur with the Exchange's viewpoint on the matter raised. Insider information on bitcoin is not relevant; what information is useful for pricing involves investments by major regulated entities (like this proposal). Bitcoin pricing is dependent in the long term on adoption levels which can be ascertained by public data. The introduction of cash-settled Bitcoin futures contracts did raise the specter of price manipulation capitalizing on the leverage of the futures contracts, but that would not be a worry for an unleveraged ETF and the presence of such ETFs would limit the ability of manipulation through futures. Bitcoin also benefits from a global network which is unlikely to be affected as strongly by national or regional events. 2. The Exchange is correct that the larger sizes of trades in the OTC markets limit the ability of short-term price manipulation on lower-volume public exchanges. Liquidity in the OTC markets is adequate to support this Trust; the concern would be with transparency and price discovery. The public's interest is advanced by slowly pushing a higher volume of transactions onto public exchanges, and the Commission should consider whether that can be gradually introduced. 3. The presence of Authorized Participants in the global markets as additional arbitrageurs will further stabilize global pricing and align shares with NAV. There should be little difficulty in the Trust tracking the bitcoin price over time. Fast-moving markets tend to be the result of local or regional effects, and the activity of the Trust across exchanges and regions will enhance their ability to track bitcoin prices in fast-moving markets. 4. Since this product is based on the underlying bitcoin commodity market and not on the bitcoin futures market, I don't see any viable path to manipulation of the ETP. 5. The bitcoin derivative markets have affected the ability to manipulate bitcoin prices, by arbitraging leveraged futures positions against the underlying. That manipulation risk will be reduced by the presence of one or more bitcoin ETFs that are based on the underlying bitcoin commodity. For this reason I believe the Commission has been correct to be skeptical of ETPs based on bitcoin futures or other derivatives. 6. The lack of transparency of the bitcoin OTC market is a concern, thought the global nature of this market makes it difficult to manipulate. The presence of the MVBTCO would actually add a measure of transparency and price discovery to these markets. This is effectively no different than other commodities markets, with the exception that the global market and the nature of the commodity make it less likely to be manipulated than domestic markets where insider information is significant. However, the Commission should consider mechanisms that will push the Trust slowly away from reliance on OTC markets and toward public exchanges over time for higher levels of transparency. 7. I concur with the Sponsor. Attempted price manipulation at this level would require global coordination across multiple marketplaces operating in different languages. That would likely require large nation-state resources or the equivalent, and be readily detectible by market participants. 8. I have not had time to thoroughly analyze the alternatives. In general, the pricing mechanisms used by CME and CBOE options are adequate given the current liquidity of arbitrageurs between major exchanges, though there is some risk of time delay arising from the friction of USD settlement and transfer. 9. This is similar to the situation for OTC trades in other commodities, where some large transactions occur between private parties, particularly suppliers or institutions. In general, the presence of the Trust and its public website will improve price discovery for all market participants. However, the Commission should consider if additional requirements should be imposed here to ensure transparency. 10. At present, the volumes on the public bitcoin exchanges are low enough at times for a major market participant like the Trust to move the market for a brief period, necessitating the use of OTC markets. This would provide a measure of insulation from occasional erratic or short-term-news-driven behavior of the individual public spot markets. However, the potential for "disconnect" between the OTC and public spot markets in some circumstances is a real one, and the Commission should consider means to slowly move the Trust toward use of the public markets over time for better pricing transparency and stability. 11. The efficiency of global bitcoin market arbitrage is constrained only by the efficiency of moving and converting fiat currencies for that part of the exchange, as the settlement of bitcoin is much faster than for other instruments. As such it is no less efficient than arbitrage in other markets, though over-regulation by various jurisdictions may impact this. 12. This is outside of my personal knowledge, however the Sponsor's report seems reasonable. U.S. bitcoin markets should roughly correspond to the U.S. share of the technology developed world's economy, adjusted by those jurisdictions posing regulatory interference with digital assets. 13. Since the Exchange didn't specify all of the bitcoin exchanges with which it would engage in surveillance-sharing, it is hard to comment on. Generally speaking, the significant majority of bitcoin trading in the U.S. occurs on larger exchanges where surveillance sharing should be possible and easy to execute. That is generally true in the global markets as well. While small, retail-focused exchanges exist, they are of insufficient volume to effect market manipulation even in concert. 14. Gemini Exchange is a large, well-regulated market but not the largest in the U.S. Aside from that knowledge, others are in a better position to comment on this. 15. I concur with all of the Sponsor's assertions. A 25 BTC share currently would trade for roughly $155K, well beyond the reach of small investors. As part of a diversified portfolio, one share would require a portfolio value in excess of $2M, well into the range for accredited investors. The demand from institutional investors operating in the space will certainly have a positive impact that reduces the ability of market participants to manipulate the underlying. The Commission should encourage sub-division of shares in a manner similar to Mutual Fund shares, allowing access to smaller retail investors. Retail investors are at greater risk from participating in the underlying spot market because bitcoin is a bearer instrument, and many retail investors do not have the necessary technical sophistication to ensure secure longer-term storage of quantities of bitcoin for investment purposes. It is the rough equivalent of keeping cash stuffed in a mattress. A sub-dividable ETP of this nature would respect the freedom of retail investors to create their own efficient portfolios while reducing their exposure to custody risks. 16. 100 shares will not meaningfully affect the arbitrage mechanism. While I trust that the Exchange has a reasonable basis for its 100 shares estimate, I expect that the demand will be substantially higher in the short to medium term. 17. I concur completely with the Exchange's assertion. Each share at this time would be roughly $155K, which is enormous compared with other listed products. The Exchange delisting procedures should adjust for exchanged value in such an outlier case. Ultimately, it would be beneficial for the Commission to approve a bitcoin-based ETP with a smaller share size. 18. The Trust is proposing reasonably state-of-the-art security for these bearer instruments. The bulk of the associated risk will be with collusion of insiders or with unanticipated zero-day vulnerabilities exploited by a nation-state actor like North Korea. The insurance mechanism is a backstop that works in part to ensure investor confidence. On a practical and cost-performance basis, overall insurance could probably be reduced with experience to less than a 1-for-1 basis with adequate geographic distribution and bitcoin wallet distribution, or at least incorporate a high-deductible self-insured amount.