Why is the discount on GBTC narrowing and what are the reasons and impacts?

Why is the GBTC discount narrowing and what are the reasons and impacts?

Source: Coindesk; Translation: LianGuaiBitpushNews Mary Liu

Grayscale Bitcoin Trust (GBTC), with a market capitalization of nearly $14 billion, has been the focus of the cryptocurrency investment field. Over the past two years, the trading price of the fund has been increasingly larger compared to its Bitcoin holdings. However, there has been a significant change in the situation in recent weeks, boosting investor confidence.

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Martin Leinweber, the strategist for the MarketVector Index Digital Asset Product, said in an interview with CoinDesk, “When the discount narrows, it indicates that investors have more confidence in the trust or that demand for the stock is increasing. If the discount significantly narrows or disappears completely, investors’ returns could be substantial.”

So why is there a discount, why is it important, and why is the discount narrowing?

Understanding the structure of the trust is crucial in answering these questions. GBTC is a closed-end fund (CEF), different from the exchange-traded funds (ETFs) that have rapidly gained popularity in recent years. Both are essentially vaults that hold a large amount of assets, whether it’s stocks or billions of dollars worth of Bitcoin held by Grayscale Trust.

However, ETFs have a feature that ensures their value closely aligns with the value of the underlying assets, thanks to professional trading firms known as authorized participants. If an ETF holds stocks worth $10 billion but its market value reaches $12 billion, these traders can create new shares of the ETF. This allows them to profit from the premium and also pushes the price of the ETF down to the value of the ETF holdings, rewarding the intermediary fund company for improving the efficiency of the ETF.

In contrast, if the price of an ETF falls to a discount – for example, its market value drops to $8 billion while its assets are worth $10 billion – these traders can redeem the shares and profit from the difference, bringing the price and assets back to parity.

Grayscale wants to convert GBTC into an ETF, but the U.S. Securities and Exchange Commission (SEC) has rejected this proposal. Grayscale has filed a lawsuit seeking to overturn the decision. Meanwhile, as a closed-end fund (CEF), it lacks the arbitrage mechanism that ETFs have to prevent price runaway.

Since February 2021, the trading price of GBTC has consistently been lower than its Bitcoin holdings. The situation worsened significantly after the FTX incident last year. In November, Genesis’ lending division suspended customer withdrawals, and the GBTC discount increased to 43%. The exact reason why Genesis’ predicament harmed GBTC is still unclear, although some theories suggest that many trading firms are customers of Genesis, and some of them may have bet on the narrowing of the discount. The loss of funds could hinder these trading strategies.

After the SEC reaffirmed its rejection of Grayscale’s application to convert the trust into an ETF, the GBTC discount deepened to a record 50% in December.

Why have the discounts narrowed significantly in recent weeks, reaching the lowest level since early 2022?

The hottest topic in the crypto field right now is whether the US regulatory agencies will ultimately approve a physically-backed Bitcoin ETF. Currently, the approved ETFs are those that hold Bitcoin futures contracts. Traditional financial giant BlackRock has recently invested heavily in pushing for this initiative. Given its influence as the world’s largest asset management company in Washington, D.C., this has sparked great optimism, suggesting that a physically-backed Bitcoin ETF may not be far from being listed. Other major mutual fund management companies such as Fidelity have also applied for Bitcoin ETFs.

Analysts believe that the possibility of the US SEC approving the conversion of GBTC to an ETF is one reason for the narrowing discount. Grayscale stated in April that it expects to find out by the end of the third quarter whether the conversion of GBTC into an ETF will be allowed.

Leinbewer said, “The catalyst for the current narrowing discount on GBTC may be the ongoing legal discussions surrounding the possibility of GBTC converting to an ETF. The market seems to be reacting to these discussions, and the expectation of a potential legal victory for GBTC may drive increased demand for the stock. The discount is seen as the implied probability of conversion to an ETF. The lower the discount, the greater the likelihood of a price increase in the market.”

Bloomberg Intelligence ETF analyst James Seyffart, when discussing Grayscale’s lawsuit against the SEC, said he expects this decision to be advantageous for Grayscale. “But it will only send the GBTC’s ETF conversion request back to the SEC for approval of the conversion or rejection for different reasons. This hope for conversion may be the reason for the narrowing discount.”

Seyffart added, “We don’t know how long it will take for the SEC to approve these products. This wave of applications might result in this scenario (we think there is a 50/50 chance that Grayscale will currently be approved, but if rejected again, it could take years). We also don’t know how long it will take for Grayscale to convert GBTC once approved.”

What will happen if GBTC is converted to an ETF?

Seyffart said that recently, large US institutions have been applying for approval of physically-backed Bitcoin ETFs, which has given people great hope for Grayscale’s potential conversion of GBTC into an ETF.

He stated that the conversion of GBTC into an ETF is only a matter of time. Seyffart said, “Once converted into an ETF, due to the flexibility of the ETF structure, GBTC will no longer trade at a significant discount or premium.”

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