SEC approves Spot Bitcoin ETP, opening new pathway to Bitcoin investment

Background and the SEC Order

In past years, the SEC considered numerous proposals to list and trade bitcoin ETP shares. The SEC denied such proposals on the basis that they were not “designed to prevent fraudulent and manipulative acts and practices” as required by U.S. federal securities laws.^[2] In particular, the SEC found that certain features of bitcoin, such as use of the blockchain and the size and liquidity of the bitcoin market, were insufficient to prevent fraud.^[3] In 2022, two bitcoin futures ETPs were approved by the SEC^[4] and, for both products, the applicable listing exchange had a surveillance sharing agreement with the Chicago Mercantile Exchange (“CME”) that allayed the SEC’s antifraud concerns.

However, in August 2023, a unanimous panel of the U.S. Court of Appeals for the District of Columbia Circuit determined that the SEC’s order denying approval to list and trade shares of Grayscale Bitcoin Trust as an exchange-traded product was “arbitrary and capricious” under the Administrative Procedures Act because the SEC failed to explain its different treatment of similar products (i.e., ETPs holding bitcoin futures and spot bitcoin ETPs). The court noted: “[i]n the absence of a coherent explanation, this unlike regulatory treatment of like products is unlawful.”^[5]

In the wake of Grayscale, the current SEC approval Order relies in part on correlation analysis of the relationship between prices in the CME bitcoin futures market and the spot bitcoin market, noting that the CME bitcoin futures market has been consistently highly correlated with the analyzed subset of the spot bitcoin market in the sample period. The SEC concedes that fraud or manipulation that affects prices in spot bitcoin markets would likely similarly affect CME bitcoin futures prices, such that the CME’s surveillance should assist in curbing fraudulent and manipulative acts and practices in the spot bitcoin ETP context.^[6]

Commissioner Statements

The SEC’s 3-to-2 vote to approve the spot bitcoin ETP proposals reflects the broader ideological division within the SEC over crypto regulation. Four of the five current SEC Commissioners published statements about the Order.

Chair Gary Gensler’s Statement.

SEC Chair Gary Gensler addresses the elephant in the room—the SEC’s recent loss in Grayscale.

Gensler notes that the current spot bitcoin ETP proposals are similar to those the SEC disapproved in the past but that circumstances have changed in the wake of the Grayscale decision and as further detailed in the Order. 

Chair Gensler notes that the SEC is merit neutral and does not take a view on particular companies, investments, or the assets underlying an ETP.

Gensler highlights that the SEC’s action is limited to certain ETPs that hold one non-security commodity bitcoin, and that the SEC’s action should not signal the SEC’s willingness to approve listing standards for crypto asset securities, nor signal anything about the SEC’s views as to the status of other crypto assets under the federal securities laws.^[7] The SEC did not approve or endorse bitcoin, and Gensler warns investors to remain cautious and aware of the risks.

Commissioner Hester M. Peirce’s Statement and Commissioner Mark T. Uyeda’s Statement.

While both Commissioner Hester Peirce and Commissioner Mark Uyeda concur in the approval of the Order, their statements criticize the SEC’s decade-long delay and the substantive analysis articulated in the Order. The SEC’s gatekeeping of spot bitcoin ETPs from retail investors has limited the choices available to investors for exposure to bitcoin in their investments. Commissioner Peirce notes that this delay may have driven retail investors to “less efficient means of attaining bitcoin exposure in the securities markets.” Among other things, Commissioner Uyeda expresses concern that the SEC’s rationale and legal analysis in the Order may serve as precedent for future matters that come before the SEC, noting that the Order’s underlying analytical approach effectively amounts to merit regulation, and warns that the “flawed reasoning” in the Order could “reverberate for years to come.”

Commissioner Caroline A. Crenshaw’s Dissent.

Commissioner Caroline Crenshaw dissents from approval of the Order, raising concerns, among other things, about fraud and manipulation in the underlying spot bitcoin markets, concentration of ownership and lack of systemic oversight and regulation, domestically and abroad. Commissioner Crenshaw points out that the bitcoin markets are highly concentrated among a few entities that can influence the price movements and volatility in bitcoin, noting the irony of this concentration given that bitcoin was touted as the product to decentralize finance. In addressing Grayscale, Commissioner Crenshaw, among other things, disagrees that the spot bitcoin ETP and futures bitcoin ETP are “like cases” and views the SEC’s correlation analysis in the Order as inadequate to conclude that statutory requirements for protection against fraud and manipulation are adequately addressed.^[8]

What’s Next?

The SEC’s Order only covers applications for spot bitcoin ETPs and does not address the status of other types of crypto assets, such as spot ETH ETPs or other products.

Crypto proponents are optimistic that the SEC Order creates opportunity for future approvals in the context of similar investment products. While the door may be open for more innovation in the crypto asset industry, the SEC’s rationale and altered approval standards, including reliance on a correlation analysis, as articulated in the Order may prove to be a challenging precedent for future matters in the industry that are likely to come before the SEC.

Footnotes

^{[1] The SEC Order includes rule change applications by CBOE BZX Exchange, Inc. (BZX), NYSE Arca, Inc. (NYSE Arca) and The Nasdaq Stock Market LLC (Nasdaq) to list and trade shares of eleven spot bitcoin trusts, namely: ARK 21Shares Bitcoin ETF, Bitwise Bitcoin ETF, Fidelity Wise Origin Bitcoin Fund, Franklin Bitcoin ETF, Grayscale Bitcoin Trust (BTC), Hashdex Bitcoin ETF, Invesco Galaxy Bitcoin ETF, iShares Bitcoin Trust, Valkyrie Bitcoin Fund, VanEck Bitcoin Trust and WisdomTree Bitcoin Fund.
[2] Section 6(b)(5) of the Securities Exchange Act of 1934, as amended. See e.g. Winklevoss Order, 83 Fed. Reg. at 37,580.
[3] Grayscale Order, 87 Fed. Reg. at 40,305.
[4] Spot-based ETPs are exchange-traded products that track the current or spot price of an underlying asset, such as a commodity, currency, or index. When an investor buys shares in a spot-based ETP, the investor is not buying the asset itself, but rather a share of a fund that holds the asset or a basket of assets. Futures-based ETPs are exchange-traded products that track the price of an underlying asset based on futures contracts, which are agreements to buy or sell the asset at a specified price and date in the future. When an investor buys shares in a futures-based ETP, the investor is likewise not buying the asset itself, but rather a share of a fund that uses futures contracts or other derivatives to gain exposure to the asset.
[5] Grayscale Investments, LLC v. SEC, No. 22-1142, 82 F.4th 1239 (D.C. Cir. 2023) (“Greyscale”). The court granted Grayscale’s petition and vacated the Grayscale SEC order.
[6] However, the SEC did not elaborate on why such a high correlation was not previously sufficient to warrant approval.
[7] Chair Gensler reiterates that the “vast majority” of crypto assets are investment contracts and subject to the federal securities law, continuing to stake the SEC’s position in the debate regarding the appropriate regulatory regime for crypto assets. Some crypto assets, such as bitcoin, are not considered securities.
[8] Crenshaw highlights that the approved spot bitcoin ETPs are not ETFs registered under the Investment Company Act of 1940, and investors should not infer the same level of investor protection.}