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Bybit Learn
Jun 24, 2022

Exchange-Traded Funds (ETFs)

A cryptocurrency ETF is a fund that consists of a number of cryptocurrencies or crypto futures that investors can purchase to immediately diversify their holdings.

When most people think of investing, stocks and bonds are likely to come to mind. Those who want to diversify their investments sometimes opt for purchasing shares of mutual funds or exchange-traded funds, better known as ETFs. These funds allow investors to buy a basket of stocks or bonds with a single purchase. ETFs trade more like individual stocks than mutual funds, which trade only at the end of the trading day. If you hold an ETF, you can buy or sell any time the market is open.

While stocks and bonds are two of the most popular investments people can make, there are others. Crypto investments in commodities such as Bitcoin or Ethereum are increasingly becoming a part of the financial landscape. As they do, the financial services industry has created a new type of fund, the cryptocurrency ETF, which is also commonly referred to as crypto ETF.

What Is a Cryptocurrency Exchange-Traded Fund (ETF)?

Unlike most ETFs, which track a basket of assets or an index, cryptocurrency ETFs consist of a number of cryptocurrencies, and track the price of one or more digital tokens. The share prices of the cryptocurrency ETFs will fluctuate on a daily basis according to the sales and purchases made by investors. 

If you’re interested in the crypto industry, but don’t quite have the time to research what cryptocurrencies to purchase, cryptocurrency ETFs are a good way to have some skin in the game at low cost with little to no effort.

Types of Crypto ETFs

There are two basic types of cryptocurrency ETFs available for investors. 

The first is backed by actual cryptocurrencies. This involves the investment firm buying actual virtual coins. The firm might own Bitcoin or Ethereum along with other, less familiar, digital currencies.

One example is the Bitwise 10 Crypto Index Fund, which holds 10 different crypto assets. Bitcoin and Ethereum make up more than 90% of the holdings in this fund, with Bitcoin alone taking up nearly two-thirds of the fund's assets. However, the fund also holds less popular cryptocurrencies like Litecoin (LTC) and Cardano (ADA). Some of the more speculative meme coins, like Shiba Inu (SHIB) and Dogecoin (DOGE), aren’t included in this particular cryptocurrency ETF.

The second type of cryptocurrency ETF is a more synthetic variant. These track things like Bitcoin futures. They don’t actually hold the coins, unless they exercise a futures contract. Effectively, futures contracts allow a firm or individual to buy a given security, fund or cryptocurrency at a stated price. The cryptocurrency ETF in this instance would pay a premium for the right to buy a cryptocurrency at a given price.

Bitcoin and cryptocurrency ETFs are relatively new on the scene. The first cryptocurrency ETF that tracked cryptocurrencies only hit the market in October 2021.: ProShares Bitcoin Strategy ETF, which falls under the second type of cryptocurrency ETF. It tracks the futures market for Bitcoin.

How Do Cryptocurrency ETFs Work?

Cryptocurrency ETFs work much like other ETFs. The fund basically follows the price of Bitcoin or the broader crypto market. This is similar to a stock ETF, which owns a basket of stocks and trades based upon the price of the underlying shares of individual companies at a given point in time. The prices of cryptocurrency ETFs rise or fall based upon the price of Bitcoin and any other cryptocurrencies held by the fund.

Benefits of Cryptocurrency ETFs

There are some benefits that come with investing in cryptocurrency ETFs. The first is tied to the ability these funds provide for investors to own crypto without some of the associated costs of using the digital currencies to make purchases. There is no need to hold a digital wallet. Additionally, investors pay no fees for network access, or for transactions other than management fees. These hidden costs associated with holding Bitcoin can make it a rather expensive investment. Additionally, if you lose access to your digital wallet, your coins are lost forever. This isn’t a risk with cryptocurrency ETFs.

Cryptocurrency ETFs provide instant diversification at a low cost. You can start investing in Bitcoin with the purchase of a single share in a Bitcoin ETF. This is much lower than the cost of purchasing one Bitcoin, which has at times exceeded $60,000. Furthermore, many cryptocurrency ETFs hold more than one specific cryptocurrency.

Those who have little knowledge of the terminology associated with crypto can still get involved in owning this asset class through cryptocurrency ETFs. Perhaps you'd like to invest 5% of your portfolio in crypto without having to learn all of the lingo associated with this new technology. That's not a problem with cryptocurrency ETFs: Simply purchase shares in the fund.

Drawbacks of Cryptocurrency ETFs

Like any asset class, cryptocurrency ETFs are subject to volatility. However, unlike some more established assets that have more government regulation associated with them, this volatility can be extreme. In recent years, substantial price movement has been more common and pronounced with Bitcoin and other crypto assets than with the stock market. If you're looking to get into the crypto industry and hold shares as a long-term asset, you'll need to have the ability to ignore short-term moves when you make your purchase. Cryptocurrency ETFs are a great option for anyone looking to diversify their holdings by investing in cryptocurrency.