On August 23, the U.S. Securities and Exchange Commission (SEC) rejected all of the pending derivative-backed Bitcoin exchange-traded funds (ETFs) filed by ProShares and Direxion.
According to Jake Chervinsky, a government enforcement defense & securities litigation attorney for Kobre Kim LLP, the SEC disapproved all seven ETFs because of the risk of market manipulation and fraud involved.
What Did ProShares and Direxion Try to do?
Last month, the U.S. SEC officially rejected the ETF proposal filed by the Winklevoss twins, citing market manipulation as a major concern. The Winklevoss twins used Gemini, a strictly regulated cryptocurrency exchange, to establish the value of Bitcoin.
But, the SEC argued that because Bitcoin markets are not inherently resistant to manipulation, relying on a single exchange to determine the value of a Bitcoin ETF, which has the potential to lead billions of dollars in new capital into the market, is of high risk.
At the time, the Winklevoss twins believed that their ETF had a solid chance of being approved by the SEC, given the involvement of Nasdaq, the world’s second-biggest stock market, in Gemini’s operations to ensure that market and trading activity remain transparent and authentic.
As a response to the SEC’s decision to reject the ETF proposal filed by the Winklevoss twins, ProShares and Direxion submitted new ETF proposals, which used the strictly regulated Cboe and CME futures market to establish the value of their ETFs.
While the Cboe and CME markets are regulated markets, the SEC said that the Bitcoin futures markets are not sufficiently large to allow an ETF to based its value on.
“So why did the SEC reject all these ETFs? Basically, the decision came down to the risk of market manipulation & fraud. The SEC can only approve an ETF that is ‘designed to prevent fraudulent and manipulative acts and practices.’ In the SEC’s view, these ETFs were not.”
He further added that the SEC was not satisfied with the efforts of the two institutions to rely on the futures markets, mostly because the SEC is aware that the majority of Bitcoin trading still occurs in unregulated markets and cryptocurrency exchanges.
“The SEC wasn’t impressed, finding that the bitcoin futures markets aren’t “of significant size” as required by the Winklevoss denial. They even cited Crypto Twitter favorite Chris Giancarlo, CFTC Chairman, who characterized the volume of the futures markets as ‘quite small.’ As a result, the SEC found that CBOE & CME wouldn’t provide enough info about the ‘identity of market participants’ on unregulated spot and derivative markets ‘where a substantial majority of trading’ occurs,” Chervinsky explained.
In the long-term, as the Bitcoin futures market increase in size and other regulated financial institutions like Goldman Sachs, which already have started to clear futures on behalf of their clients, expand their businesses to create a major futures market alongside CME and Cboe, it is possible that derivatives-backed ETFs receive the approval of the SEC.
But, in the short-term, the SEC will not approve any futures market-backed ETF in the U.S. market.
Cboe and VanEck ETFs
Based on the SEC’s arguments against the Winklevoss Bitcoin ETF and ProShares ETFs, it is clear that the SEC is trying to see rigorous transaction monitoring by an ETF that is based on a regulated market of significant size.
It may be difficult to satisfy all of the demands from the SEC, but with the track record of VanEck and Cboe, the two ETFs have the highest probability of being approved to be available in U.S. markets.
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