BTCI: $100K Sticky Bitcoin Level May Benefit Option Sellers

Summary BTCI offers high yield by selling Bitcoin options, but these distributions are a return of capital rather than true income and may erode principal over time. BTCI outperforms in flat Bitcoin markets due to its premium income, but underperforms during sharp rallies and carries a similar downside risk to holding Bitcoin directly. I suspect Bitcoin’s price may remain range-bound near $100K due to the behavioral and emotional weight of this price level, creating resistance above $110K and support below $90K. Although BTCI is not suitable for long-term income or aggressive bull scenarios, it stands to outperform with a high yield if Bitcoin remains range-bound, as I suspect. Those who follow my research may know that I am skeptical of both Bitcoin (BTC-USD) and derivative-based ETFs. Both have become more popular investments among retail investors seeking low market correlation and high appreciation potential (Bitcoin) and high-income returns (option selling funds). Thus, it is little surprise that Neos Funds has seen strong inflows in its Bitcoin option strategy ETF ( BTCI ), which generates distributions by selling options on Bitcoin. Although cryptocurrencies provide potential and, in a few cases, actual economic utility, I doubt Bitcoin’s potential to fulfill its primary role as a medium of exchange . For the time being, it is certainly a store of value for many, but one subject to the speculative whims led, in part, by excess liquidity conditions in the market. Derivative-based ETFs often generate dividend premiums by selling options. While strategy is attractive to many due to its double-digit yields, I believe it is frequently misunderstood as “income,” when in fact it is a return of capital, akin to an insurance premium for assuming risk. Given the fund’s sharp rise in assets under management since its inception, and the popularity of both option selling and Bitcoin funds, I believe BTCI deserves closer inspection. Although I am generally skeptical of Bitcoin and option selling, BTCI may be an instance where this strategy is sensible, given that speculative demand for Bitcoin long options may be excessive. BTCI Outperforms in Flat Markets On the surface, BTCI has many desirable qualities. Its current distribution rate is around 30%, with a reasonable expense ratio (for a complex fund) of 0.98%. BTCI’s total return since its inception late last year is 50%, significantly outperforming most equity funds over the same period, driven by both price appreciation and substantial distribution returns. Since its inception, BTCI’s correlation with the S&P 500 ETF ( SPY ) is 0.44, a relatively low figure that still indicates some market exposure. Its correlation to the Bitcoin ETF ( HODL ), which it owns for appreciation, is 0.98. Since its inception, BTCI has underperformed HODL on a total return basis (which accounts for fully reinvested dividends): Data by YCharts As seen in the total return ratio, BTCI underperforms sharply during large rallies in Bitcoin, such as that seen recently and after the election last November. However, BTCI outperformed slightly during the range-bound conditions in the intermediate periods. Two-thirds of BTCI is allocated to T-Bills, resulting in a BTCI SEC Yield of 2.1%, as distributions of option premiums are not considered actual dividends. The reason is that, unlike actual dividends, these premiums will weigh on BTCI’s unit price over time. Approximately 25% of BTCI is allocated to the Bitcoin ETF ( HODL ), which may experience minor appreciation potential in the event of a rise in the price of Bitcoin. However, most of its fluctuations come from the small portion of the fund allocated to options on the CBOE Mini Bitcoin Index, MBTX. The index is currently at 255 points, equivalent to a BTC-USD value of approximately $107K. Currently, 9.5% of BTCI is allocated to long calls at 225, providing significant appreciation potential should Bitcoin rise, though this position will be worthless should Bitcoin fall to ~$94K. About 1% of the fund is allocated to call sales at 285 and 270, respectively (about $110K-$120K in BTC terms). It also has a negative put at 225, which is approximately 1% of its holdings. Thus, roughly 2% of the fund is allocated to option sales, generating premium returns of roughly 2% by expiration in mid-July. Based on its allocations, its ratio appears to be four put short positions, two long calls, and two short calls at differing expiries. Because option price data on MBTX is not as readily available as it is on the Bitcoin fund ( GBTC ), I aligned the expiry prices from MBTX with the equivalent prices for GBTC and, using an online tool, created a rough profit payoff chart for this strategy at current GBTC option prices. I assume that implied volatility levels (which drive premiums) are roughly equivalent for GBTC options and MBTX. At the same time, GBTC trades at its NAV , meaning this payoff chart should be almost identical for BTCI based on its current holdings: Option payoff chart for GBTC, July 18th, 2 $75 long calls, 4 $75 short puts,1 $90 short call, and 1 $95 short call (OptionsProfitCalculator.com) Importantly, the total cost of each option position is in the same ratios as BTCI’s allocations on its positions, with the same expiry date. Although imperfect, this should be as close as possible to BTCI’s actual payoff chart from its current derivative positions. However, it does not include the quarter of the fund allocated to HODL. Accounting for that position would “tilt” this chart upward, showing a ~1/4 slope at the left end instead of a plateau. The 2/3rds of the fund in T-bills would very slightly lift the chart by about 30 bps, as that income will come regardless of Bitcoin’s price. Fundamentally, this strategy is not significantly different than a simple covered-call approach. However, by selling options at various expiration levels, the payoff is more curved than the usual “stair step” seen in simple covered calls. This gives BTCI relatively high appreciation potential, with a roughly 1:1 linear payoff up to a 5% rise in Bitcoin through July 18th. If Bitcoin rises by over 10%, BTCI should increase about 7% to 8%, with more limited gains given a very sharp rise in Bitcoin. Crucially, BTCI should earn about 1% (98 bps) if Bitcoin merely sustains its current price. There is approximately 1/17th of a year between now and July 18th, meaning the annualized return of BTCI would be about 18% annualized, assuming no change in Bitcoin’s price or implied volatility levels. BTCI can earn a decent yield in flat markets because Bitcoin is volatile and therefore has high option premiums to account for its added risk. GBTC’s implied volatility today is 37% , far higher than seen in equity index funds, but that is one of its lowest implied volatility levels compared to recent months. This means that BTCI’s premium compensation may be low compared to the volatility risk associated with Bitcoin. Bitcoin May Face Sustained Plateau Investors who reinvest their distributions back into BTCI can expect total returns that are very similar to those of Bitcoin itself. The primary difference is that BTCI’s strategy generates returns in flat markets, albeit not as strong as those in sharp rallies. BTCI’s downside risk is roughly the same as that of Bitcoin itself, except for a small premium cushion. That said, if BTCI’s distributions are not reinvested, the position’s value will inevitably decline compared to the value of Bitcoin. We can see this in the price-return ratio of BTCI to HODL: Data by YCharts Their total returns, accounting for reinvested distributions, are very close; yet, BTCI experiences chronic decay to simply long Bitcoin funds. This decay factor is larger the faster Bitcoin rises, and vice versa. For this reason, it isn’t very reasonable to treat BTCI’s distributions as income that can be used for personal consumption. Doing so will inevitably lead to the decay of capital over time, assuming Bitcoin does not appreciate forever . Today, Bitcoin is at a key level, aligning with its past peak before the spring correction. Both Bitcoin and gold have been in trading ranges since the May recovery: Data by YCharts Compared to gold, Bitcoin has demonstrated higher market exposure. Although gold faced small losses during the height of the last correction, it generally rose through that period as inflation expectations and concerns mounted. At the same time, Bitcoin’s value crashed by around 30%, more than the value of equities. Gold continued to rise as the market recovered. From an inter-asset correlation standpoint, Bitcoin is neither countercyclical nor a hedge against monetary risk. When concerns regarding dovish monetary policies (in a recession) rise, we’re generally seeing gold rally and Bitcoin decline. Changes in the liquidity conditions of retail investors likely drive the price change of Bitcoin. When individual investors report having higher cash allocations, and those allocations are declining, we generally see sharp rallies in Bitcoin. When they report having low cash positions, Bitcoin often peaks and declines. See below: Data by YCharts This relationship is not perfect. I have had a bearish sentiment on Bitcoin since late last year due to low investor sideline cash levels; yet, it rose dramatically after Trump’s election, primarily due to the view that he would create a Bitcoin reserve. The reality of this plan has disappointed investors , as Trump is not aiming to buy Bitcoin with government funds, but rather is merely creating a named reserve for Bitcoin that the government already owns through civil asset forfeiture. To me, this effort mainly highlights the degree to which Bitcoin is not an asset immune to government oversight and confiscation. Nevertheless, investor cash allocations were higher last month due to a derisking effort following the correction. That may be somewhat supportive of Bitcoin, though it is unclear if cash levels have fallen significantly since, which I assume given the full recovery of most assets. In my view, it is more likely that Bitcoin struggles to break above $110K, given its momentum has slowed. To me, the more likely outcome is continued range-bound behavior around $100K, given that it is an emotionally critical threshold. Bitcoin may also crash again, potentially catalyzed by another market correction due to the upcoming end of delayed tariffs , though recent news suggests the deadline will be delayed yet again . However, considering only Bitcoin’s fundamentals, I believe a range-bound outlook is the most reasonable, particularly given that gold is also in a trading range. The Bottom Line If Bitcoin fluctuates around the $90K to $110K range for a prolonged period, BTCI stands to outperform Bitcoin, earning premiums in a flat market. For this reason, I remain neutral on BTCI, but I believe it may have some speculative short-term value in relation to Bitcoin itself. Of course, there’s an argument that Bitcoin may see a huge rally if it breaks above $110K. BTCI is likely to underperform in a massive rally and has roughly the same downside risk should the rally reverse. In my opinion, that is unlikely, given the behavioral and emotional importance of $100K, which provides a “stickiness factor” that may keep it around this level. A flat Bitcoin price is ideal for BTCI because it will earn high premiums with less volatility if that is sustained.

Source: Seeking Alpha