BITO: Expect Continued Volatility As Miners Consolidate

Summary The price of Bitcoin seems to be going up, making investors feel that they may be missing an opportunity to invest, especially with BITO which pays a substantial amount of dividends. However, the price action shows that BTC’s price seems more range-bound while miners, which are a key component of the ecosystem, continue to consolidate in the post-halving landscape. Also, more than six months after the emergence of several spot ETFs, BITO seems to be standing its ground when looking at total returns. I continue to lean towards a cautious Hold, as more supply hits the market. Some indications of how miners are performing should be obtained from the Nashville Conference in a few days. Since I last covered the ProShares Bitcoin Strategy ETF ( BITO ) on June 5 in my piece entitled: ” Wait for the end of turbulence before investing”, it lost more than 20% in light of crypto volatility. One and a half months later, things are improving as shown in the chart below, and it trades at around $23. Data by YCharts However, in the highly dynamic digital asset market, this thesis aims to show that this upside is not likely to be sustained, meaning that BITO is not a buy, and, for this purpose, I provide an update on the demand and supply factors that are driving Bitcoin’s ( BTC-USD ) performance. To start with, seven months after the approval of eleven spot Bitcoin ETFs by the U.S. SEC (Securities and Exchange Commission), I provide an update on how BITO which bears an expense ratio of 0.95% has performed against emerging competitors charging much lower fees. BITO Versus Spot ETFs First, in the same way as spot ETFs, it allows investors to gain exposure to Bitcoin without having to manage digital assets directly, but the difference is that BITO invests primarily in Bitcoin futures contracts rather than the physical coin itself. These futures are traded on the CME (Chicago Mercantile Exchange), a regulated market, which adds an element of security and transparency for investors​. BITO’s Holdings (www.proshares.com) Making a comparison of the AUM (assets under management) as per the chart below, the iShares Bitcoin Trust ETF ( IBIT ) saw record inflows since its launch, as shown below. On the other hand, BITO initially suffered as it saw net outflows in January but eventually recovered, in sharp contrast to the Grayscale Bitcoin Trust ETF ( GBTC ) which is still experiencing outflows. Data by YCharts This shows that the launch of cheaper spot Bitcoin ETFs did have some effect, but did not erode BITO’s value. On the contrary, the January 10 approvals coincided with the interest in CME’s future contracts hitting an all-time high as more investors were attracted to the crypto world. This has also improved liquidity conditions in the futures market​. Next, looking at capital appreciation, IBIT has beaten BITO by a hefty margin of nearly 40% as charted below, but, the total returns, which include the dividends provided they are reinvested show a different picture. Thus, despite attracting 200% more inflows than dividend-paying BITO, IBIT has only outperformed the futures ETF by around 5% when considering total returns. Data by YCharts However, the ProShares ETF does not pay dividends in the same way as equity-based ETFs holding income-producing stocks. Instead, as mentioned earlier, BITO invests in futures, or agreements to trade (buy or sell) an asset on a future date at an agreed price. Thus, the income part is mainly derived from fluctuations in the price of futures, and, as such, should not be expected to generate a regular cash flow like dividend ETFs. Still, despite missing some monthly dividend payments, as of January this year, its yield of 35% remains far superior to the median for all ETFs covered by Seeking Alpha. Next, since BITO’s price performance is linked to Bitcoin, it is important to identify the supply and demand-led catalysts that can influence the path going forward. Identifying the Catalysts for the Price Action In my previous thesis , I had detailed how miners were adjusting to the post-halving landscape, which saw their rewards for adding a block to the blockchain cut in half to only 3.125 BTC. This led to less efficient miners halting operations, and those with not strong enough balance sheets selling their HODLed (accumulated) coins, causing supply to outstrip the demand from spot ETFs, thereby impacting prices. Another factor that could have pressured digital asset prices was the German government’s disposal of over 50K Bitcoins previously seized from a piracy website and valued at around $3 billion considering a unit BTC price of $60K. This sell-off started on June 19 and lasted for over 24 days and coincided with the world’s largest former Bitcoin exchange, Mt.Gox (which was based in Japan) started to return over 140K Bitcoin or about $9.1 billion to victims of the 2014 hack from July 1. Thus, with an additional supply of crypto assets reaching the market, Bitcoin dipped to under $56K on July 7. Since then, Bitcoin rebounded to the $68K level as shown below due to demand-led catalysts, one of which is inflows into spot ETFs. Data by YCharts Thus, net inflows of $386 million were recorded on July 19 in contrast to outflows of $13 million at the beginning of this month. Also, the fact that all ETFs (including GBTC) cumulatively accumulated net inflows of $17 billion while GBTC alone experienced an outflow of $18.7 billion, shows that this is not only about investors rotating away to cheaper funds, but there is also fresh demand. One of the reasons for this is Republican candidate President Donald Trump being viewed as crypto-friendly, implying regulations could be loosened, considering he is voted into power. Moreover, some speculation the U.S. government would consider Bitcoin as a reserve currency in case he is elected has also influenced BTC’s value. Now, including BTC as part of a reserve currency in the same way as gold is not that difficult considering the Department of Justice holds about 200K units of bitcoin, making America one of the largest HODLers. By transferring these digital assets to the Department of Treasury instead of disposing of them on the open market as the German government has done, $13 billion worth of Bitcoin could find its way to its balance sheet. Such a move would potentially restrict the supply of Bitcoin. Therefore, after supply-led catalysts pressured digital asset prices in June and the first week of July, it was mostly speculation-fueled demand that pushed prices up. Still, with the elections more than three months away, there is uncertainty as to the outcome, and this is what has mirrored in Bitcoin’s value which retrenched from its $68K peak on Tuesday. Post-Halving Mining Industry Consolidation Ongoing Hence, in a volatile market still looking for direction, it is crucial to obtain a clearer idea of the path digital asset prices are likely to follow. For this purpose, it is better to assess how miners, as key stakeholders in the ecosystem, are performing, and such information can be obtained during the Nashville Conference from July 25 to July 27. Looking deeper, miners are not only facing cost pressures due to lower mining rewards, but it is also more difficult for them to refinance with interest rates above 5%. Also, as I had detailed in an earlier thesis on the consolidation of the mining industry, except for the larger players like Marathon Digital ( MARA ), smaller ones need cheaper electricity without forgetting AI data centers on the lookout for alternative power sources. To provide investors with a sense of how miners have suffered from the halving, the charts below show how the hash rate or the total computing capacity on the Bitcoin network sloped downwards in April, soon after the halving, reflecting lower miner participation. Data by YCharts Conversely, this resulted in lowering the mining difficulty or the time it takes to add a block (to the network) in the highly competitive industry, from its peak of 88 to 82. This has in turn resulted in the hash rate jumping to 730 (above chart) showing more miners are back in production mode. Noteworthily, its impact on BTC’s price depends on how many of the minted coins are HODLed versus being sold and incrementing supply. In this connection, while trending lower, BTC has been trading in a narrow range (chart below), gaining support at $55.8K and reaching a resistance of $68K, as the mining industry consolidates following halving. Chart prepared using data from (www.seekingalpha.com) Key Takeaways As a result, BITO’s support level has come down to $23 from $28.47 and there is a possibility of again testing the $19.8 level and even lower because of the following factors. Chart prepared using data from (www.seekingalpha.com) Firstly, the newly launched U.S. spot Ethereum ETFs has attracted investment worth more than $667 million. Now, while these are expected to be far less popular than their Bitcoin peers, their effect on the crypto ecosystem cannot be underestimated due to the diversification rationale they provide. To this end, it will ultimately depend on whether inflows to spot Bitcoin ETFs continue next week. Second, ongoing Bitcoin repayments worth around $2.85 billion linked to Mt.Gox this week could also result in additional supply reaching the market. In conclusion, by going through the price action, this thesis has shown that volatility should continue as demand versus supply catalysts, including some politically driven ones, continue to unfold. This is happening as the industry consolidates in the post-halving landscape and the Nashville conference should provide some visibility into this area, but depending on how news updates are interpreted, there could be further volatility, which explains my Hold position. In this context, miners could greatly benefit from the Federal Reserve starting to cut rates in September, resulting in a surge in Bitcoin’s price. This said, more BTC fluctuations in the three months before the elections should allow for more returns or dividend income for shareholders, depending on the futures contracts held and how they perform when traded.

Source: Seeking Alpha