Seeking Alpha

Hold Satoshi All You Want, Just Stay Away From GBTC

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About: Grayscale Bitcoin Trust (BTC) (GBTC)
by: Manhole Financial
Manhole Financial
Value, contrarian, media, gold
Summary

Bitcoin might be a great investment in 2019 and beyond. That doesn't mean you need to buy GBTC.

The #DropGold campaign says more about Grayscale's ability to market than it does about gold.

The fund performance has lagged the underlying asset.

The decay of the fund from management fees makes holding the fund long term unattractive if you believe the price of bitcoin will stabilize.

Investor interest in the fund could be declining.

Grayscale Bitcoin Trust (GBTC) is an investment vehicle designed to provide bitcoin (BTC-USD) exposure to investors. The company offers this through a tradable asset via over the counter markets. Bitcoin might be one of the best investments you can make in 2019 with a long-term outlook. Bitcoin could also move much lower. The focus of this article isn't to discuss bitcoin as an investment. This article intends to provide an opinion on the Grayscale Bitcoin Trust. Investors looking to add bitcoin positions to their portfolios would be wise to avoid GBTC and other cryptocurrency trusts under management of Grayscale Investments.

The Enemy of my Enemy is my Enemy

Despite many fiat-hedgers like myself who hold both gold and bitcoin, there is a rather sizable tiff between die-hard bitcoin fans and gold purists. Judging from online sentiment, those of us who think both gold and bitcoin can co-exist together are in the minority. The war between the pro-crypto camp and the goldbugs hit a fever pitch earlier this year. On May 1st, Grayscale launched its #DropGold advertising campaign to the chagrin of many in the gold community. The message in the campaign was exactly what it sounds like. There are some projecting that Bitcoin will eventually overtake the market cap of gold in the future. If true, trillions of investment dollars would theoretically be up for grabs and Grayscale, wisely, wants a piece of that action. The company insists you should dump your gold position and put the funds into their cryptocurrency trusts instead.

In response to the campaign, Roy Sebag published a white paper that comprehensively eviscerated many of the ideas marketed in the #DropGold campaign. For full disclosure before the fine print: Roy is the CEO of Goldmoney (OTCPK:XAUMF), which is a stock that I am long and have covered here. Again, the purpose of this article is not about bitcoin or its relationship to gold. Personally, I think there is a place for both in a portfolio. This is purely about Grayscale Investments and the products that it has to offer the market.

Regarding Grayscale, I do wonder what kind of sales team has to resort to what amounts to a mudslinging campaign. It makes me question the validity of the product that is being sold. Don't sell me why the other guy is bad if you're trying to fill the same role as the other guy. Sell me why what you provide is better than what the other guy provides. The people at Grayscale think they did that. They did not. Why? Because Grayscale isn't really competing against gold. It is competing against bitcoin. And it isn't winning that fight.

GBTC vs. Bitcoin

GBTC, though up significantly since mid-2015, is lagging the underlying asset by a fairly wide-margin.

Source: investing.com - Bitcoin is blue, GBTC is purple

Part of the reason for this is because the fund, to sustain itself, gradually decreases in value over time.

Fund Decay and Price Premium

For the privilege of handling a bitcoin allocation for you, Grayscale charges the trust holder a 2% management fee annually. On the surface, you might think that makes sense. We pay metal custodians a fee for storing and protecting our precious metal, why not bitcoin as well? I maintain it isn't an apples to apples comparison because gold exists in a physical sense and bitcoin does not.

A 2% fee might seem small to those in the cryptocurrency space, but if the price of Bitcoin ever stabilizes, due to the compounding nature of an annual 2% fee, the fund would have to outperform bitcoin every year to justify parking your wealth in the fund rather than just buying bitcoin yourself. And while it is actually possible that the fund could do that, the likelihood of that occurring is not good.

GBTC is capable of outperforming bitcoin because shares of the fund command a sizable premium over the actual bitcoin allocated to each share. That premium fluctuates on a regular basis. Because of this, it is possible to buy GBTC at a smaller premium than what you sell it for. But the opposite is also possible.

For instance, as of market close on 11/29, 1 share of GBTC entitled holders to $7.40 in bitcoin. To get that $7.40 in bitcoin, the share would cost the buyer $9.57. That's a 29.3% premium.

Source: Grayscale Investments

So, if you bought GBTC on 11/29, you've already paid almost 30% more for bitcoin than you needed to. And that's before you kick 2% back to Grayscale if you hold it for a year. Again, GBTC could actually outperform bitcoin if the premium continues to rise. However, this is unlikely to happen and it wasn't hard to find an example of a premium nearly twice as high last year. This really illustrates how dangerous the premium can be.

Source: Grayscale Investments

If you bought $7.00 in bitcoin through Grayscale on April 2nd, 2018, you paid $11.19 for it. On 11/29, you could have sold $7.40 in bitcoin through Grayscale. You'd have received $9.57. A 5.7% increase in your bitcoin value yet your GBTC position actually lost 14.5%. Yikes.

There's an alternative to this and it's incredibly simple. You can just buy bitcoin through Coinbase and not deal with 30% premiums or decay of your holdings.

The GBTC Market Closes

The fact that GBTC only trades when the market is open means that holders of the trust are at a considerable disadvantage compared to investors who buy bitcoin more directly through an exchange or an app like Robinhood. Let's look at the price information from October 25th. The price of Bitcoin surged about 20% from $8,679 to $10,464 after hours that evening. You could have locked in a sizable gain if you traded it in real time through one of several different online exchanges and apps.

Source: investing.com

Because the market was closed, holders of GBTC didn't get the benefit of that sell opportunity over the weekend. The closing price of GBTC on October 25th was $10.31. By October 28th when markets reopened, the high of the day for GBTC was $11.35. Just a 10% gain. And though that kind of return is fantastic, the fact that GBTC couldn't be traded during the weekend capped the gain well below what bitcoin actually did.

Is the public interested?

We can try to track fund interest in a couple of non-traditional ways. Because bitcoin is viewed by many as a younger-generation investment tool, it's fair to look at what the social media engagement is like for Grayscale. CrowdTangle allows us to look at Facebook (FB) data for pages that aren't our own. It can give valuable insight into how people are interacting with Grayscale Investment's Facebook page. After a big boost in May, presumably from the #DropGold campaign, engagement with the company's Facebook posting has started to trend down.

Source: CrowdTangle, May - November 2019, Facebook interactions

To be fair to Grayscale, CrowdTangle no longer measures Twitter (TWTR) as a platform. And Grayscale's Twitter following is significantly larger than its Facebook footprint. So is there a better way to think about interest from people online? Maybe.

Despite a greater likelihood to convert someone to a paying customer when a brand engages online, declining social media engagement doesn't necessarily mean that interest isn't there. We can also look at web search trend data from Google to see how a topic or term is indexing over time. After a big spike earlier this year, again, presumably from the #DropGold marketing campaign, search interest in Grayscale Bitcoin Trust has fallen significantly according to Google Trends data.

Source: Google Trends

What's concerning about the declining interest in the fund is that the best chance a holder of GBTC has at outperforming bitcoin is the premium of the share price. Essentially, you can sell to a greater fool if the market commands a larger share premium after you buy it. Without interest, the prospect of the greater fool likely dissipates.

The lack of search interest is also compelling considering the company is again seeing news coverage in the financial press for filing to register with the SEC. Despite this coverage, search interest hasn't moved. Granted, SEC filing news isn't as provocative as a marketing campaign like #DropGold, but it is a big deal. For what it's worth, I happen to believe filing with the SEC is actually a good thing for Grayscale. The company should want to be more transparent and registering with the SEC and filing regular reports would be a step in the right direction.

Risk factors

If you don't care about paying a sizable premium for an investment that will decay over time, there is certainly a bull case for GBTC. It's the same bull case for bitcoin. You either think bitcoin is going to go up or you don't. If you do and you want an investment vehicle that is more like an ETF than a currency, GBTC could be right for you. Additionally, I'd be remiss if I didn't mention that the one advantage that Grayscale's fund has over buying the currency directly is availability in tax-advantaged accounts. You can buy GBTC in a Roth IRA. You can't buy bitcoin from Coinbase in a Roth.

Conclusion

If you want exposure to bitcoin, there are just better ways to get it. Bitcoin is already volatile enough. With a fluctuating premium over asset holdings, GBTC unnecessarily adds an additional level of risk to the equation. The question an investor should ask oneself is "if the trust lags the asset, requires a premium to purchase, and decays 2% annually, why buy the trust over the asset?" To me, there is a very obvious answer to this question. So, while Grayscale is busy being the Mike Bloomberg of exchange traded funds with an ad campaign taking shots at an enemy, you can very easily get exposure to bitcoin without worrying about your satoshi getting siphoned away by an asset manager. You can easily and inexpensively allocate a cryptocurrency portfolio with apps like Robinhood or Coinbase. If the cybersecurity angle of owning bitcoin keeps you up at night, you can cold store it yourself and never have to worry about a hacker stealing your coins. Either way, there's a better way to do almost anything that you want to do with GBTC.

Disclosure: I am/we are long XAUMF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.