JPMorgan says hot Bitcoin ETF could end up distorting futures market

The launch of the ProShares Bitcoin Strategy ETF was a huge success, with the fund being the fastest ETF ever to attract $1 billion in assets.

But that success is a double-edged sword that could hurt its investors, according to JPMorgan.

“Contango in the BTC futures curve could be a drag on the performance of these funds due to futures holding costs,” JPMorgan explained.
The ProShares Bitcoin Strategy ETF saw a surge in inflows when it launched last week, making it the fastest ETF ever to reach $1 billion in assets.
But JPMorgan Chase & Co. said in a report last week that futures-based ETFs have a major flaw that could lead to lower returns for their investors if the fund's assets grow too large.
That’s because ETFs don’t own Bitcoin as their underlying asset. Instead, ETFs own derivatives of Bitcoin that attempt to match the cryptocurrency’s return profile through futures contracts. (SEC Chairman Gary Gensler has rejected calls to approve a spot Bitcoin ETF, but has allowed futures.)
“Contango in the BTC futures curve can be a drag on these funds’ performance due to futures holding costs/roll yields. This carry drag can be several times the management fees of these products and could become larger if these products accumulate significant assets due to market impacts,” JPMorgan explained.
In order to actively manage a Bitcoin futures portfolio that is closely tied to Bitcoin price movements, an ETF must continually roll over Bitcoin futures contracts to the next month before they are about to expire. This incurs various transaction costs and is less efficient than simply buying and holding Bitcoin, similar to what most gold and silver ETFs do.
According to JPMorgan, the average annual cost of rolling futures contracts since mid-2019 has been about 9%, nearly 10 times the 0.95% annual expense ratio of the ProShares Bitcoin Strategy ETF. This could leave investors disappointed with their returns, as they could significantly lag behind Bitcoin.
The bank said long-term volatility ETPs are a good example of how long returns can be eroded as the costs associated with trading futures increase. “The more long positions an investor has, the more expensive it becomes to hold, due to the market impact of the ETF itself,” JPMorgan said.
According to the bank, the ProShares Bitcoin Strategy ETF already has about 25% of open interest in bitcoin futures contracts, and the fund recently sought a waiver from the Chicago Mercantile Exchange to allow it to have more than the mandatory limit of 4,000 futures contracts.
If the ETF doesn’t receive a waiver from CME, it could eventually stray from its futures strategy and invest in stocks of cryptocurrencies to better track the price of bitcoin, according to the fund prospectus.