BITO: FTX Collapse A Potential Lehman Moment For Bitcoin

Overview

ProShares Bitcoin Strategy ETF (NYSEARCA:BITO) (“the fund”) is the first U.S. Bitcoin (BTC-USD)-linked ETF which offers investors exposure to Bitcoin.

The fund does not buy Bitcoin directly, but instead, gets exposure to Bitcoin via futures contracts.

The fund has an expense ratio of 0.95% per annum (10th cheapest among similar ETFs). VanEck and Global X provide similar ETFs with lower expense ratios.

Performance

The fund’s performance has not been great. An investment of $10,000 at inception would be worth approximately $2,700 today, representing a capital loss of more than 70% on paper.

Portfolio

The fund does not invest directly in Bitcoin. There are currently no ETFs that offer direct exposure to Bitcoin. Instead, BITO seeks to provide exposure to Bitcoin via futures contracts.

This week’s news of the collapse of FTX has drawn parallels with the 2008 financial crisis and the bankruptcy of Lehman Brothers.

What does this mean for BITO and Bitcoin? We will look at this in more detail in the next section.

Is the FTX collapse a potential Lehman moment for Bitcoin?

Yes potentially. FTX has filed for U.S. bankruptcy protection due to a liquidity crunch during the week, and it is impossible not to draw similarities with the 2008 financial crisis.

The 2008 financial crisis has taught us a few things. First, the inter-connectedness of the financial industry makes the FTX collapse a potential Lehman moment for the crypto industry due to the possible risk of contagion.

FTX customers were stopped from withdrawing their deposits, which raised a lot of questions from regulators globally.

It was reported that FTX had been using customer deposits to fund risky bets, which eventually led to its downfall.

As the crypto industry is largely unregulated, there is a strong possibility that other platforms like FTX have been using customer deposits for speculative trading or lending, which could lead to contagion and the eventual collapse of the crypto industry.

Like the banking system, trust is key for cryptocurrency exchange platforms to operate.

The collapse of FTX will be a massive breach of trust for the public, and it will take time to come back.

FTX customer deposits are not insured by any public or private deposit insurance agency, which means that people will be losing their money.

Following the financial crisis, the banking industry became under increased scrutiny and regulation by the U.S. regulators.

For example, the banking industry was required to comply with the Liquidity Coverage Ratio to avoid liquidity crunches.

I believe that the cryptocurrency industry will have to become more regulated as it will help to restore trust in the system.

Outlook for Bitcoin

The price of Bitcoin has fallen below the $20,000 mark, below its 2017/18 peak. It has been an absolute rollercoaster ride for Bitcoin holders.

With inflation out of control and uncertainty over how high interest rates need to rise, I believe Bitcoin will stay in a bear market until everything is sorted out.

I believe that institutional investors will reconsider their position on Bitcoin following the collapse of FTX. Until cryptocurrencies become fully regulated, the risk of fraud will be too high.

Institutional investors might have to sell their crypto assets to de-risk their portfolios, which will put downward pressure on the price of Bitcoin.

For retail investors, I believe that inflation and high borrowing costs will eventually start to hit their income and ability to save and invest. This will reduce the ability of retail investors to keep on buying Bitcoin.

Additionally, better savings rates are increasing the opportunity cost of holding Bitcoin.

All of these factors will put downward pressure on the price of Bitcoin.

Conclusion

Only time will tell what happens next. The inter-connectedness of the crypto industry and the risk of contagion will be tested in the next few weeks.

The collapse of FTX and its impact on customer deposits has provided regulators with sufficient ammunition to start regulating the crypto industry stringently.

Regulation is a double-edged sword for cryptocurrencies as it will help to restore trust, but at the same time, cryptocurrencies will lose their essence.

BITO is definitely a sell in the current environment. A combination of new regulation, inflation, and interest rates will continue to put downward pressure on Bitcoin and BITO.