Drop the Bitcoin ETF


In the 2010 movie “The Social Network”, the Winklevoss twins meet with then Harvard president, Larry Summers, and try to persuade him that Mark Zuckerberg stole their idea for a social network which they called “ConnectU”.  They claimed that Zuckerberg broke Harvard’s code of conduct when he created Facebook and they wanted Summers to intervene.  Summers was not persuaded and he lectured the Winklevoss twins about trying to get special treatment and told them to start another project.

The Winklevoss twins ended up suing Mark Zuckerberg and ultimately settled for $20 million in cash and at least $45 million in Facebook stock.  Apparently, they then took Larry Summers advice and started another project – investing in bitcoin.  In April 2013, they invested $11 million in bitcoin at a price of $120/bitcoin.  If they haven’t sold any, their investment has increased 10x since bitcoin is now valued around $1,200/bitcoin.

In an attempt to take bitcoin to the masses, the twins started their own bitcoin exchange in 2015 called Gemini which they said was similar to Nasdaq:

“Gemini is basically a Nasdaq for bitcoin buying and selling,” Tyler Winklevoss said. “Just like you sign onto E*TRADE and buy a share of Apple, you can into Gemini… and you can buy and sell bitcoin.” Cameron Winklevoss added, “Basically bitcoin is borderless. It’s very much a global currency. There’s no sort of constraints in that manner.”

Gemini joined dozens of other bitcoin “exchanges” as a destination to buy and sell bitcoin (they currently have only about 2% market share).  These “exchanges” however are not regulated like a stock exchange and operate in numerous countries.

Apparently, the next step of the Winklevoss plan to get bitcoin to go more mainstream was to create a bitcoin ETF.  After four years of review, the SEC decided last week to reject the Winklevoss ETF (which was scheduled to be listed on the BATS exchange).  In their ruling , the SEC stated:

“The Commission is disapproving this proposed rule change because it does not find the proposal to be consistent with Section 6(b)(5) of the Exchange Act, which requires, among other things, that the rules of a national securities exchange be designed to prevent fraudulent and manipulative acts and practices and to protect investors and the public interest. The Commission believes that, in order to meet this standard, an exchange that lists and trades shares of commodity-trust exchange-traded products (“ETPs”) must, in addition to other applicable requirements, satisfy two requirements that are dispositive in this matter. First, the exchange must have surveillance-sharing agreements with significant markets for trading the underlying commodity or derivatives on that commodity. And second, those markets must be regulated. 

Essentially, since bitcoin exchanges like Gemini are unregulated and do not have surveillance-sharing agreements with any regulators, the SEC felt that “fraudulent and manipulative acts” could occur on these exchanges.  BATS tried to convince the SEC that since they are a regulated exchange, then their surveillance measures were sufficient to support approval of the Winklevoss bitcoin ETF.  BATS also noted that they entered into a surveillance sharing agreement with the Gemini exchange. Unfortunately for BATS and the Winklevoss twins, the SEC saw through this weak argument and concluded:

“The Exchange (BATS) has not entered into a surveillance-sharing agreement with a significant, regulated, bitcoin-related market. The Commission also does not believe, as discussed above, that the proposal supports a finding that the significant markets for bitcoin or derivatives on bitcoin are regulated markets with which the Exchange can enter into such an agreement. Therefore, as the Exchange has not entered into, and would currently be unable to enter into, the type of surveillance-sharing agreement that has been in place with respect to all previously approved commodity-trust ETPs, the Commission does not find the proposed rule change to be consistent with the Exchange Act and, accordingly, disapproves the proposed rule change.”

We applaud the SEC for rejecting the bitcoin ETF.  This was not an easy decision since many retail investors wanted access to a bitcoin instrument that was easy to trade.   Since the exchanges that bitcoin trades on are unregulated, a bitcoin ETF might have had the potential for a major price dislocation. This could have resulted in a disaster for some of the bitcoin ETF market makers which then might have spread to other market makers and the overall market.  Thankfully, the SEC remembered that their mission is “to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation”.