Will The Real Bitcoin Market Please Stand Up?
7 Things you need to know about the Bitwise Bitcoin ETF Presentation in 7 minutes or less.
This is Summary and analysis of the Bitwise SEC presentation.
The awesome team at Bitwise Asset Management has released their presentation to the SEC, discussing Bitcoin markets and their proposal for a Bitcoin ETF.
For those of you who don’t have the stomach or time to go through the entire 227-page presentation, I’ve summarized the main findings as well a short analysis on what I believe should be concluded from this report.
The presentation discussed topics such as “real vs. fake” trading volume across exchanges, the ability to manipulate the market, as well as the legitimacy of existing crypto-custody solutions (compared to traditional ones), Bitcoin price valuation, liquidity and arbitrage in current market conditions. Overall, The report aims to show a matured Bitcoin market, where most of the SEC’s concerns, as posted in comments on previous ETF submissions, are answered meticulously and close almost any thinkable that could stand in the way of approving Bitwise and NYSEArca’s proposal for the Bitcoin ETF.
Get the full breakdown on Video (BlockTV)
The first part of the report comes to show that most of the Bitcoin trading volume reported on CoinMarketCap is faked. It does so by comparing 3 factors across all the exchanges to show patterns and anomalies across “Well-Known Exchanges” in contrast to “Suspect Exchanges”. These factors include Trade size dispersion, volume spike alignment, and spread patterning analysis.
They go on to conclude that only 10 out of the top 81 exchanges have a total “Actual Volume” of $273M, out of a total report volume (for all 81 exchanges) of ~$6B.
Most people would think that the ramifications of such a huge part of Bitcoin’s trading volume being fake are somewhat alarming, but Bitwise points to the fact that considering Bitcoin’s market cap, the actual volume indicates a “healthy” market, using a comparison to the equivalent Gold market.
Gold currently has a market cap of ~$6.7T and spot volume of $37B, which puts its daily turnover at around 0.55%.
Bitcoin currently has a market cap of ~$70B and spot volume of $273M, which puts its daily turnover at around 0.39%.
Overall makes sense, despite the relatively low volume, which according to the SEC, shouldn’t be a concern.
2. The Bitcoin Market Is More Orderly and Efficient Than Is Commonly Understood.
The report goes on to show that across the 10 “legitimate exchange” there is a strong price correlation and even the small deviations can be explained by exchange-level fees (~30 basis points), volatility and hedging costs. This comes to show that Arbitrage is working properly and that it would take significant effort for one to manipulate the market (as they would need to do it across all 10 exchanges.
USDT/BTC was also mentioned in correlation to BTC/USD trading and price differences were explained by the nature of USDT change in price (USDT doesn’t always trade for $1 (USDT traded between $1.05 to $0.87) and if you take the price change into consideration, the actual deviation is between the two pairs is insignificant.
3. The Bitcoin Market Is More Regulated and Surveilled Than Is Commonly Understood.
Out of the 10 “legitimate” exchanges, 9 hold a Money Services Business regulation with FinCEN and 5 have a Bitlicense by NYDFS. This comes to show that the actual market is much more regulated than most people think.
In addition, 5 out of the 10 exchanges use “Market Surveillance Tools” that help detect market manipulations such as spoofing and wash trading through the real-time and historical analysis of trades, order books, and other market information
The only exception here is Binance, which doesn’t go by any regulation (at the moment) and doesn’t use (at least according to public knowledge) any kind of surveillance tools, and still controls over 40% of the global “legitimate” trading volume.
4. The Spot Market For Bitcoin Is Smaller Than People Think; The Futures Market Is Commensurately More Significant.
If we’re taking into account the “actual” size of Bitcoin’s spot market, the Future’s market that peaked at $91M (including both CME and CBOE) in February, is 30% of its size. Actually, if you would put the CME in the same exchange ranking as the other “legitimate” exchanges, it would be only second to Biance.
This comes to answer on the need, presented by the SEC in previous comments on ETF submissions, for “at least one significant, regulated market for trading futures on the underlying commodity… and the ETP listing exchange has entered into surveillance-sharing agreements with, or held Intermarket Surveillance Group membership in common with, that market.”
5. Bitcoin Custody is solved.
After explaining how crypto custody works and similarities to traditional custody on the one hand, and other digital key management processes (such as ICANN for the keys to the internet, NIST standards for key management and Visa best practices for Data Field Encryption), the report provides an overview on existing institutional custody solutions in the market, including their regulatory structure and insurance.
It also includes a very simple walk-through of the auditing process for a custodian and explores different procedures to verify exclusive ownership of private keys.
6. Wall-Street Market Makers are already in the game.
One of the more interesting things I’ve learned from the presentation was the fact that so many major Wall-Street market makers are already playing the Bitcoin market, or are in the process of exploring it.
According to the report, established market makers like Jane Street, DRW, SIG Susquehanna, Jumptrading and Flow Traders are already operating in the market since early 2018.
7. Key points on the Bitwise Bitcoin ETF
Most of the report touched the topics above as a background and reference to questions that the SEC has presented before when looking into previous Bitcoin ETF applications. As part of the presentation, Bitwise gave an overview of how they are going to deal with NAV calculation (Calculate The Volume-Weighted Median Price Using Inputs From Each Of The Ten Exchanges, over 5 minutes intervals across 30 minutes), handle hard forks (It counts the fork with the greater valuation as the original and sells the other as soon as possible, distributing proceeds to the shareholders) and Airdrops (they just ignore them completely).
Another super important point is that Bitwise allows only in-kind creation/redemption mechanism, meaning the only way to create new ETF shares is by depositing (or withdrawing) bitcoins directly from the fund, so the fund isn’t actually buying (or selling) anything on the free market. This, in addition to the fact that the Bitwise proposes that its management fee will be paid in bitcoins, create a good alignment of interests and insulates shareholders of the Trust from any direct harm from NAV-based manipulation.
Conclusion and analysis
This is probably the most comprehensive overview of the Bitcoin trading market that I have ever seen, but we need need to remember that it comes with an agenda.
While I can’t argue on the data (which is most likely to be an accurate representation of the market), the interpretation of the data is just a bit tainted with the narrative. The idea behind the story of the “legitimate” exchanges was to show that Bitwise is actually building its ETF on top of the “entire” Bitcoin market. Just to give a little context, the Blockchain Transparency Institute is closely following exchanges and tracking their trading volume, and while its results aren’t extremely different, it doesn’t disqualify 100% of the volume across all the exchanges that don’t show 100% “legitimate volume” as Bitwise does.
Overall, Bitwise has done an excellent job in answering almost every question and argument and presented the best mechanisms (so far) to deal with most of the major challenges (besides airdrops) that it needs to, in order to build a regulated, publicly-traded, investment vehicle for Bitcoin.
All of the points mentioned above are a great addition to the crypto puberty thesis I published last week and after diving into this report, I believe that the timeline for crypto-institutionalization has changed significantly.
As Bakkt experiences further delays with its appending launch and retail custody projects are going back to the drawing boards (at least until the next bull run), it appears that stable coins and an actual Bitcoin ETF (which, is somewhat likely to be approved in H2-2019) will be leading the charge.
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