On the Grayscale GBTC to ETF spam campaign

Index

Grayscale, GBTC, and the ETF

Grayscale is a financial company that created and manages the Grayscale Bitcoin Trust (GBTC), an investment fund whose portfolio consists entirely of a practically static hoard of bitcoins (BTC).

Ordinary GBTC investors can trade their shares with other investors, with some restrictions; but cannot get them redeemed by Grayscale, either in dolalrs or in bitcoins. Grayscale also takes some of the bitcoins as management and storage fees.

GBTC shares are not traded on stock exchanges like NYSE or NASDAQ, but through a network of securities brokers and dealers. Its share price is implicitly defined by bids and offers of various dealers, which are reported on the OTCQX online service. Unlike those open marketplaces, OTCQX does not handle money or execute trades by matching bids and orders itself. Instead, the brokers listed there trade the shares directly among themselves.

Because of those restrictions and fees, the market price of a GBTC share has for some time been about 25% lower than the spot market price of the 0.05 BTC in Grayscale's custody that nominally corresponds to that share.

In November 2021, Grayscale requested from the SEC the conversion of the GBTC fund to an Electronincally Traded Fund (ETF). As such, the fund shares could be more conveniently traded in a securities exchange (specifically, NYSE Arca) in the same way as other ETFs, which are more similar to the way stock shares are traded in stock exchanegs. That should keep the price of the ETF shares close to the spot price of the underlying bitcoins in cryptocurrency exchanges.

The Grayscale spam campaign

Grayscale encouraged the current GBTC investors to write to the SEC expressing support of the conversion, and even provided a letter template with slots where the sender should fill their name and place of residence. As a result, the SEC public comments space was overwhelmed with a torrent of "spam" letters (more than 7000 as ov 2022-05-29).

Grayscale's motivation for the request is clear. Since Bitcoin is not a productive asset, its price will collapse without a continuous inflow of new investment. By converting their fund to an ETF they hope to attract many more investors -- especially the savings of millions of americans that today find it difficulet to invest in GBTC because it is (in theory) restricted to "accredited investors" and cannot be used for retirement savings (IRA and 401k). These restrictions are quite appropriate, since the complexity of bitcoin makes its risks and flaws very difficult to see, even by investors with some knowledge of computers or finance.

The restriction already seems to be ineffective, though. Grayscale claims to have more than 850'000 investors, and many of them seem to be middle-class workers or retirees who are already investing their retirement savings in the fund. This situation is so dire that the US Department of Labor had to issue an explicit recommendation against it.

Misconceptions

Most authors of the letters -- mostly current or prospective GBTC investors -- seem to have some big misundertandings about the mission of the SEC, particularly what "protect investors" means. Some also may be unaware of consequences of the conversion for their investments. Grayscale naturally did not care to dispell those misconceptions; on the contrary, incorporated them in their letter template.

"Protect investors" does not mean "make my investment be profitable"

The Grayscale model letter includes this sentence, copied by thousands of the letters: "By not approving this conversion, you are not protecting me, the investor – the very person you were appointed to protect." The model letter then explains how the current formulation of the GBTC fund harms its investors because of the significant difference between GBTC share price and the price of the underlying bitcoins.

That line exposes a deep misconception about the SEC's mission. If your investment sours and you lose money, or did not profit as much as you think you should, that is not the SEC's problem. It is your problem, that you should take up with the issuers -- or sell the thing and invest the money in some. In particular, the SEC has no obligation, legal or moral, to help reduce the losses of those who decided to invest in GBTC. Morever, when investors choose GBTC, they had no promise by Grayscale that it would be later converted to an ETF, nor any other reason to expect that.

If protecting and improving the market price of investments was part of the SEC's mission, they would have to endorse pump-and-dump penny stock scams and ponzi schemes, instead of shutting them down; and praise the scammers who create them, instead of sending them to jail. It just does not make sense.

"Protect investors" does not mean "let me invest in what I want"

Many of the letters received by the SEC have words to the effect of "a Spot Bitcoin ETF would allow people like me to invest into the world's most popular cryptocurrency"

The SEC has no obligation, legal or moral, to let a security be freely issued and traded just because millions of people want to invest in it. Quite the opposite.

The SEC was created because the crash or 1929 and the Great Depression showed how easy it is for scammers to sell fraudulent or grossly misrepresented securities, even to investors who believe that they "understand the risks". Thus the SEC's mission is to block selling and trading of such securities to the general public, and to make sure that those which are allowed are correctly described, including all the risks. Moreover, the more appealing an investment is to the genral public, the more rigorous the SEC must be in this task.

This story has been repeated in other fields. The Thalidomide disaster showed that it was foolish to let pharmaceutical industries freely market and sell medical drugs, and spurred the creation of government agencies like the US FDA with authority to block drugs irrespective of their popularity. The deaths attributed to the Great London Smog of 1952 and the smogs of Los Angeles and New York led to strict environmental protection laws and agencies like the US EPA. The 1919 Great Molasses Flood of Boston started the present laws that require filing of structural calculations, signed by qualified engineers, before any building project is allowed to start. And so on.

Thus, the thousands of letter authors who demand the ability to invest their retirement savings in a bitcoin ETF, even though they clearly cannot understand the technical and financial flaws of BTC, are in fact a strong argument against the conversion. "The NEMA must increase the size of holes of standard power outlets because there are 15 million toddlers in the US who just want to stick their fingers into them."

Manipulation in existing markets is not an excuse

The SEC has justified their denial of previous Bitcoin ETF proposals with concerns that the the bitcoin market price could be easily manimpulated. Several letters reject that justification by pointing out that such manipulation already happens for many securities that the SEC has approved.

Cryptos and all their derivatives are rotten investments

As a payment system for legal commerce, bitcoin is a utter failure, for many incurable technical and economic reasons that have no fix in sight. These include its inherently limited capacity (insufficient to support 5 million users doing one payment per week), extremely volatile value (that can rise or drop by more than 10% in minutes), its sluggishness (minimum 10 minutes for first tentative confirmation, sometimes hours or days), its high operating cost (currently about 25 million USD/day, more than $50 for each transaction, paid by investors rather than users), its insecurity (there is no way to reverse or remedy mistakes, by thefts, or payments to fraudulent merchants), and many more. The Lightning Network, which has been touted for years as a solution for some of these problems, has in fact even bigger problems that will prevent it from serving even the couple millions that Bitcoin itself can handle.

Being a failure as a payment system also makes it a failure for the other uses that have been claimed for it, including "large settlement payments", "reserve currency of the world", and "store of value". As for the latter, in particular, there is no "natural floor price" for bitcoin that is anywhere above zero. (Whereas gold, for example, has a floor price of at least a few hundred USD/oz because of its consumption in jewelry, decoration, and industry.) In fact, this general economic failure is shared by all other cryptocurrencies, even those that are somewhat better that BTC in one or two aspects.

Adoption of bitcoin as a currency of trade is still negligible, in spite of almost a decade of intense marketing efforts by its promoters. Bitcoin has only two significant uses: a tool for illegal payments, and the vehicle for the biggest ponzi-like scam in history.

Illicit uses of bitcoin include ransomware (which was virtually unknown before it adopted bitcoin and is today the biggest and fastest-growing form of cybercrime, causing many billions of USD of damage each year), drugs-by-mail (see Silk Road and all dark markets that followed, responsible for thousands of deaths by drugs like fentanyl-laced heroin), child porn and sex trafficking (see Jeff Epstein, Joel Greenberg, George Nader), tax evasion, bribery, fraudulent sales and investments, and more. These users put up with the flaws above because bitcoin are the only digital payment method that does not respect KYC/AML laws.

Both GBTC and the proposed BTC ("raw" plus ETF) have entities that take out money from the investors. For GBTC it is Grayscale, that skims the BTC in its hoard as maintenance and management fees. For the proposed market, in addition to some residual Grayscale fees, there will be the miners, who take the equivalent of ~900 BTC daily from investors, as they sell their reward coins to them. Therefore, both markets have the same negative sum financial structure of a Ponzi scheme.

If bitcoin is a system whose contribution to humanity is very negative, it makes no sense to allow investment into it, no matter how many people want to do so. And if bitcoin is a rotten investment, any derivatives -- such as bitcoin futures, funds, exchanges, and the like -- cannot be anything other than rotten too.

A Futures ETF is not an excuse for a Spot ETF

One of the main arguments made by Grayscale and their lawyers, and included in their template comment, is that the SEC has already approved a Bitcoin Futures ETF, thus they should not object to the musch simpler and more capitalized Spot ETF. They cite the Administrative Procedure Act (APA) which requires consistency in the decisions of regulating agencies.

However, the two funds have completely different nature. The Bitcoin futures ETF BITO has a source of income that could in theory pay back all its investors with profit: namely the trading of the BTC futures contracts. It is true that the BITO profits ultimately come from losses of the investors in BTC, but at least it is not from the BITO investors themselves. BITO thus can be compared to a dairy company, whose cows are the BTC investors.

In contrast, both the GBTC fund and the proposed Bitcoin Spot ETF will have no such source of revenue. While the coins reside in the virtual vaults of those funds, they produce absolutely no revenue -- not even by being used as currency of commerce or illegal payments, not even by being lent for interest.

As long as there is no redemption of GBTC shares, any profit of a GBTC investor can come from only one place: other GBTC investors. The same is true of the proposed ETF, except that, since the hoard will be regularly adjusted by buying or selling BTC on the open marked, the universe of investors is not just the ETF investors but includes also all investors in raw BTC. In other words, the profit of someone who invest in BTC, either "in the raw" or through the proposed ETF, can come from only one source: the money provided by another similar investor.

Moreover, both GBTC and the proposed ETF will have their fate tied to that of Bitcoin: if the price of bitcoin goes to zero (as it must eventually, because of its negative-sum ponzi character), the same will happen to the shares of both funds, and their investors will lose money. Whereas the success of BITO depends on the skill luck of its traders in predicting the BTC price months in advance. Since they can short it (bet on it going down), it is theoretically possible that all BITO investors will exit with a profit, even if the price of bitcoin goes straight down to zero from now on.

As for the risk of market manipulation, for BITO the main risk persumably is that the fund traders could manipulate the BTC market price to match their futures contracts; which would benefit for BITO investors. Whereas the risk for GBTC and the spot ETF is that Greyscale or other traders will manipulate the BTC price to benefit them at the expense of the GBTC/ETF investors.

In summary, the approval of BITO is not an argument for approval of the GBTC ETF fund, because the two are totally different things. Investing in GBTC, or in the proposed ETF, is like investing in lottery tickets; whereas investing BITO is like investing in a lottery ticket shop. Both are morally reprehensible, since they are economic parasites that take money mostly from uneducated people without providing anything of value in resturn; but, in a strictly financial view, the second makes sense, the first doesn't.

Indeed, this "consistency" argument by the Grayscale lawyers is clearly a preemptive attack, intended to deflect attention from fact that it actually works against them: since the SEC has previously denied all proposals of bitcoin spot ETFs, consistency requires that it reject Grayscale's, too...

And, finally, many of the letters show that sender did not understand the nature of BITO. Some seem to believe that it will hold (and be backed by) actual bitcoins; others think that its market price will be tied to the BTC price; others confuse investing in BITO with themselves buying BTC futures contracts. Naturally Grayscale does not seem to have made any effort to educate them on this point.

Approval in other countries is not relevant

Many other countries have looser regulations, or more inept or corrupt regulators. Not just in finance, but in all areas. "The US should lead the world in crypto" means that it should have more restrictive regulation, not less. Such as banning the toxic garbage that is crypto.

Conversion to ETF was neither promised nor expected

Many letters seem to imply that a conversion of GBTC to an ETF should be a natural progression, that the SEC is only delaying. But such a promise should never have been made. Grayscale had better not have fostered that hope in any way, even tacitly, before the present filing.

Notable letters

Here are some of the letters that caught my attention for one reason or another.

Letters against the conversion

Letters showing the use of GBTC for IRA and 401k accounts

Letters that want bitcoin availabe for IRA and 401k accounts

Letters that insult, blame, or patronize the SEC

Letters making hyperbolic claims about Bitcoin

Other notable letters

Spurious stuff from fat-fingered copy-paste

Last edited on 2022-06-05 22:29:11 by stolfi