The Securities and Exchange Commission and big name investment firms including BlackRock and Fidelity have been hashing out technical details for a possible spot bitcoin ETF, which could signal that the agency is close to making a decision on whether to approve such a product.
Memos show that firms have met with the agency over the past few weeks to go over details about how the redemption process would work for a spot bitcoin ETF. The SEC seems to be in an inspection period and hammering out the details for a possible approval, said Vivian Fang, a finance professor at Indiana University.
BlackRock employees met with the agency on Nov. 28 to discuss its iShares Bitcoin BTC -0.39% Trust and presented a plan for a so-called "Revised In-Kind" model that could give the asset manager more flexibility should investors want to redeem their shares for the underlying asset, Fang said.
In an interview, Fang broke down the potential structures of a spot bitcoin ETF, comparing them to a basket of eggs. At issue are three separate models for determining which entity would have to liquidate bitcoin in the event of a redemption. No matter the model, investors would still get cash back when redeeming their shares, Fang said.
In-kind redemption model
Asset managers are very familiar with what is called an "in-kind" redemption model, Fang said, since it's one stock-based ETFs mostly use. In that model, retail investors who want to redeem their shares would get their share of bitcoin in return from BlackRock, which could then be turned into cash via a broker-dealer.
On the flip side, the SEC likely favors what is called a cash model that would require BlackRock to move the bitcoin out of storage, sell it right away and then give the cash back to the investor.
Fidelity has also seemed to nod toward a model that would stick to in-kind redemption, according to a memo about its recent meeting with the SEC.
"They [asset managers] are very familiar with a type of model that does not give them a lot of risk," Fang said.
The difference between the models comes down to the risk that BlackRock, or any other issuer, is willing to take on.
For example, if an asset manager holds 100 eggs, and investors want all those eggs back, they don't want to be the ones to assume that conversion risk, Fang said.
"You want your one egg back, I'll give you your one egg back, I don't have to immediately care about how much that egg is selling for now, it can be $5, it could be $10, but I'm holding one egg for you and you're getting one egg back when you want it," Fang said.
The revised model
During the November meeting, BlackRock's presentation detailed a revised plan that wouldn't require the asset manager to immediately liquidate bitcoin holdings upon demand and would reduce the impact of large collective redemptions on the ETF and allow for greater flexibility in managing the portfolio without incurring capital gains taxes, Fang said.
"Basically the only difference is that in the cash model you have to sell bitcoin to raise that cash," Fang said. "In the revised in kind model, I'm paying cash, you don't have to worry about when and how I sold bitcoin to get this cash, but I'm paying cash right now. You leave the selling part to my control."
The revised model might be enough to satisfy the SEC, Fang said. There is no difference, from the investor's point of view, between the cash model and the revised in-kind model.
"They never want investors to get to the point where they want to turn their eggs into cash and they can't," Fang said.
BlackRock and Fidelity declined to comment. The SEC did not respond to a request for comment.
Source : The Block by Sarah Wynn / Dec 11, 2023