Bitcoin ETFs — everything you need to know

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Justin Zacks

Sandy Kaul is Senior Vice President Digital Assets and Industry Advisory Services, where she provides advisory consulting for Franklin Templeton and thought leadership as part of Franklin Templeton Institute. David Mann is the head of ETF Products and Capital Markets for Franklin Templeton. Welcome. I want to thank both of you for being here today. Can you tell us a little bit about yourselves?

Sandy Kaul

Sure. I'll dive in. Thanks so much, Justin, for having us. It's a pleasure to be here today. As you said, I do thought leadership on the industry and how it's evolving and changing. And what is so exciting to me as I started covering digital assets back in 2017, when people really were very resistant to the idea that this could ever take off.

Sandy Kaul

And here we are in early 2024 and we have a Bitcoin ETF. So it's just been a great journey and one that I think is really showing the sophistication of the investor audience and how it's opening up. So I'm excited about our conversation today.

David Mann

Yeah, glad to be here as well. Justin. David, Mann, I run products and capital markets, so that's both the ETF pipeline as well as, you know, what we call capital markets, how they trade the creations redemptions, making sure that investors can get a good experience when they're buying and selling on exchange to just all the a lot of the plumbing with the with the ETF ecosystem.

Justin Zacks

Well, it's great. It's really great to have both of you here today. And so, you know, a lot of our listeners have varying degrees of financial knowledge. So I want to kind of just start off and talk a little bit about the basics. And so why don't I ask you first, what is an ETF and how does a Bitcoin ETF vary from other ETFs?

Justin Zacks

I'm sure a lot of people have heard of some of these exist, but they're not. Maybe they're not quite sure what it is. Can you can you explain a little bit about them?

David Mann

Yeah, sure. Maybe I'll start with that one. So an ETF, an exchange traded fund is really just a fun that trades on a on a regulated stock exchange and it usually will hold something. Okay. So that could be a basket of stocks. It could be a basket of bonds, it could be gold bars. Or in this case, it's it's Bitcoin.

David Mann

So the starting point to think about ETFs is you buy them just like any other stock. So you go into your your account, you look up want to buy 100 shares or 200 shares and you'll see they're available. And you, you know, they have a bidding and offer and you go trade them. The part that people often want to understand more is, okay, so I buy it on, I buy it on exchange.

David Mann

What happens next? And that's what we start getting into a little bit of things like ETF market makers and the creation redemption process. The only really part of what I talk about here is specifically for bitcoins is as investors are buying all of these Bitcoin ETFs on exchange. Since all these funds hold as actual bitcoins are the ETF market maker.

David Mann

So you can think about, you know, professional brokerages and banks that are doing the actual on exchange market making. They need to create new shares. The way that works is they're just going to give the fund cash and the fund goes out and buys the Bitcoin. So the big takeaway for investors are I can now go buy this ETF on exchange and I'm going to get the performance of the underlying bitcoins.

Justin Zacks

All right. So you talked about them holding the coins. How are they actually held by the fund? I know we hear a lot about the coins being held in a or digital wallet. How does that how does it work for an individual and how does it work for for an ETF?

David Mann

Yeah, sure. So any ETF, you know, I started with stocks and bonds and commodities and now Bitcoin, the ETF issuer in this case Franklin Templeton, will have a custodian. So those are those are where the actual assets are held in this regard. The actual bitcoins are held with Coinbase. And so we have a well-established relationship with them. We've been working with them for for many years now.

David Mann

So when the fund goes and buys the bitcoins, those go into our Coinbase account where we have a cold wallet with, with, with insurance and protections and everything as such, so that investors know that it's safe. But from the investor experience they can just buy it like any other stock. Which is why we think these Bitcoin ETFs they're having Bitcoin exposure within the ETF vehicle is so exciting.

Justin Zacks

Thanks. I think that clears it up for a lot of our users. But let's back out a little bit and talk a little bit about the technology around Bitcoin itself. Maybe you could help us a little bit with what a distributed ledger is and what blockchain is and kind of explain a little bit to our users how actually Bitcoin works.

Sandy Kaul

Yeah, I mean, this is a really exciting new space and it's one that only was created in 2009. So we're really talking about very new innovations and it was created as a network, right? So we're used to networks. We use networks all the time when we type HTTP into our browser to get up a website. That's a protocol.

Sandy Kaul

That's a way that one network talks to a different network. And what Bitcoin did is that Bitcoin created its own network, but they wanted a network where peers, different people you, me, Dave, we could all work with each other directly without having to go through an intermediary. So we call that a peer to peer network. And what they did to enable that is they said, well, if there's not going to be an intermediary, if I'm going to be able to go to Justin and Justin's going to be able to go to Dave, I need a ledger that everybody can see so that everybody trusts that when I trade something with Justin, I can see that

Sandy Kaul

trade show up. And when he says something to Dave, Dave can see that trade setups show up. So what they created was a new kind of ledger, which is just a recording of what's bought and what's sold. But instead of a company owning the ledger, right, it is owned by everyone in the network. That's why it's called a distributed ledger.

Sandy Kaul

Every person who's part of the network can actually see every transaction that goes through the network and they call this network this new kind of ledger network, a blockchain. And that was the first time that blockchain had ever been created or deployed was with the launch of Bitcoin. So Bitcoin is going to go down in history as having kind of introduced one of the most radical new technologies that we've seen.

Sandy Kaul

We've heard a lot of people talking about like Chachi Pete in the past year, Chachi, Pete as a new technology and now people are trying to figure out use cases for it are blockchain is a brand new technology, but its first use case was built in when the blockchain was introduced, which was Bitcoin. So this is really exciting from that perspective.

Sandy Kaul

It's a peer to peer network. It's built on a ledger that everyone in the network can see and everyone in the network can participate. And you compare that to something, say, like a Facebook or a YouTube, right? Everybody can see what each other is doing on it, but the company that owns that platform owns all the data. They collect all the revenues, right.

Sandy Kaul

With these peer to peer networks, that's all shared among everybody who is part of the network. So it's a whole different way of operating and it's one that is very radically new and it's starting to really gain traction. And the whole ecosystem is getting built out and it represents a way of really democratizing access to the transact and rails to give everybody an opportunity to participate with their resources in new ways that will give them more of the personal benefit.

Sandy Kaul

Instead of assigning most of that benefit to a centralized company.

Justin Zacks

So so you talked a little bit about that growth and the transaction. Can you give us a little bit of idea of, you know, what has that growth been like and how many transactions are you talking about?

Sandy Kaul

Yeah, So this is an incredible statistic. And even when I saw it, Justin, I was surprised. Right. But the Bitcoin network has actually done over $110 trillion worth of transactions since 2009 and in 2022 it did more transactions than the Visa network or the MasterCard network. Right. And we're used to thinking of these as part of our everyday life.

Sandy Kaul

We haven't thought of Bitcoin as part of our everyday life in the same way, in part because it's been hard to access and invest in Bitcoin. And that's one of the aspects of why we think this new ETF structure is going to be very interesting and help to raise awareness about what the potential of the Bitcoin network might be over time.

Justin Zacks

And then that really leads into, into my next question. And it's really about these you know, a lot of people are have invested traditionally in stocks or bonds, but there has been, you know, in the last 20 or 30 years a real move to invest in what's called alternative assets. And we've seen ETFs pop up around some of these alternative assets, particularly commodities, gold, silver, oil.

Justin Zacks

What has those those alternative asset ETFs, what has that meant to the popularity and the width of the investor base?

David Mann

Yeah, maybe I'll start with that one. So it's funny when when I when I started the ETF industry, I would say that ETFs were always synonymous with passive index equity exposure. Okay. If I wanted to get exposure to broad U.S. equities or broad emerging markets, ETFs were a great tool, and probably ETFs didn't get the credit that they were owed in terms of their innovative way to provide exposure to all the things that you just said.

David Mann

Okay. So really, over the last call it now 10 to 20 years, gold commodities, fixed income, you know, bank loans, all municipal bonds, all these all these different asset classes were became available within the ETF vehicle often at very competitive prices. And so what we saw was investors starting to realize they could use ETFs to build portfolios and allocate across all these different things in terms of what you know, whatever they whatever their view was about those particular asset classes.

David Mann

So so specifically for alternatives, what we've noticed is a lot of money managers looking to have some, you know, some some exposure alternatives. And, you know, whether it's low single digits or mid-single digits, I'll leave that up to up to the professionals. But the beauty was now all of a sudden you had all these vehicles in ETF form that could provide that in a in a liquid and low cost manner.

David Mann

And Bitcoin is now just the latest addition to that to that part of the lineup right now.

Sandy Kaul

In fact, it does add to what Dave said, Justin, you know, this idea of having an alternative in your portfolio is really important because really modern portfolio theory really talks about the more diversification you can have in your portfolio, the more likely it is that you're going to be able to have risk adjusted returns. Right. That this diversification helps to offset some of the risk of being overly exposed to just one asset class.

Sandy Kaul

And we've seen institutional investors move very heavily into alternatives. Some of them have more than 20% of their assets allocated, but they allocate to very illiquid alternatives, private equity, private credit, infrastructure and real estate private funds. And that's just not available to many everyday investors. So the introduction of all these new types of alternatives in ETFs is opening the door for individuals to be able to diversify their portfolios, just like institutions have been diversifying their portfolios.

Sandy Kaul

So it's a very important progression in really giving individuals more opportunities to get better returns in their portfolio. So through diversification.

Justin Zacks

That that's a that's a very good point, Sandy. And I want to point out to our users, you know, a lot of this diversification revolves around correlation. So the idea is if you are in an asset and it moves on a 1 to 1 basis with another asset, well, you're not very well diversified. You want something that are some things that are not super correlated to each other.

Justin Zacks

And it's very interesting because I always hear while Bitcoin is correlated to gold, it's correlated to the Nasdaq, it's this, it's that, and it seems to change on a month to month basis and kind of what's your what's your view on that?

Sandy Kaul

So actually we've done some studies and Bitcoin is actually fairly uncorrelated with some of these other asset classes that you spoke about. We looked at the S&P 500 and we looked at the gold index, we looked at the Barclays U.S. AG Index for bonds and we looked at the U.S. dollar index and we actually found that Bitcoin does provide some uncorrelated returns.

Sandy Kaul

I think any moment in time you might see a day where Bitcoin moves up and equities move up or Bitcoin moves down and equities moves down. But when you look at the statistical performance over time, there really is a correlation benefit by adding bitcoin to a portfolio in terms of creating diversification because it is less correlated with some of these other asset classes.

Justin Zacks

Right. That's that's very interesting to know. So diversification obviously might be a reason people are interested in investing in Bitcoin ETF. So I just want to get at, you know, who might be a good investor for Bitcoin ETFs and what investors might not want that in their investing plan and how does it fit into that investing plan?

Sandy Kaul

I'll take a first stab, Dave, and then you can fill in what I missed out on. I think I think, first of all, it's very important to note that there's risks in investing in Bitcoin that don't exist with some of these other asset classes. Right? Bitcoin is not yet under the regulatory perimeter here in the U.S. so nobody regulates it.

Sandy Kaul

There is a lot of volatility. We've seen a lot of volatility in the price of Bitcoin. So that can be very difficult for some investors to tolerate. Right. And so we really want to point out that while we're enthusiastic about the growth potential, it's not without risks. So really, when you ask yourself, would Bitcoin be good for your portfolio, you should really think about what amount of money can you take more risk within your portfolio?

Sandy Kaul

If you're older and you're getting closer to retirement, maybe you want to take much less risk with that money. If you're younger and you feel like you have time to build and accumulate assets over your lifetime, you might be willing to take a little bit more risk. Dave noted that even professional investors at this point are still trying to keep single digit type exposure to Bitcoin because of some of the risks that exist in the asset class.

Sandy Kaul

So I think you really need to ask yourself, you know, how willing are you to tolerate the potential volatility? Do you have the time horizon to wait for the Bitcoin prices to really perform over time? And are you being careful right, Don't over allocate to a high risk asset like bitcoin, even if it's in a better wrapper now, you still need to think of it as a very high risk asset.

David Mann

Yeah, no, I mean the you know, you touched on one part that I think is interesting that, you know, Bitcoin, the Bitcoin ETFs hold Bitcoin. So, you know, to Sandy's point about, you know, that's the asset class you're getting, you're not getting any income from Bitcoin, you're just getting the price movement of bitcoins. And so as you know, especially for older investors who potentially now want more income as an example, then Bitcoin is not going to be a great option because it's not going to provide any any income.

David Mann

So having that conversation and making sure that your asset allocation is in line with, you know, your your current goals is is is of the utmost importance.

Justin Zacks

That's good to know. So we've we've talked a little bit about that volatility risk of the underlying spot bitcoin. What are some of the other risks of investing in Bitcoin and what are some of the risks of a Bitcoin ETF and what are the differences like? Do you feel like there's different risk profiles from an ETF versus say, going out and buying an underlying spot?

Justin Zacks

Bitcoin?

Sandy Kaul

Yeah, so I'll start on that one. You know, one of the reasons we are excited about the Bitcoin ETF is that, you know, we, we do trade bitcoins already on behalf of our investors and we have investors that we speak with who trade their own bitcoins directly. But to do that today, you really need to first of all understand how the Bitcoin is being traded.

Sandy Kaul

Most of it is being traded on unregulated exchanges and you are required to either hold the Bitcoin in a digital wallet yourself or you are trusting this unregulated exchange to hold the Bitcoin on your behalf. And that has led to problems in the past. You've seen incidences like the exchange last year co-mingle in customer money because they're not regulated and no one was watching.

Sandy Kaul

So there's risks there and typically only people who are really willing to get into that set of risks and understand the technology have really ventured into the space to directly own Bitcoin. But if you look at the historical performance and we've done some analysis on this just in and in eight of the last ten years, Bitcoin was the top performer among asset class for the year, right?

Sandy Kaul

So that's a very compelling statement for some investors who are looking for that higher risk asset. And so what we have seen is that there's more appetite to invest, but people did not want to get caught up with the complexities of investing directly into the Bitcoin. And that's why a product like Franklin Templeton's EZBC Bitcoin ETF is making it easier, right?

Sandy Kaul

That's why we called it EZBC. It's making it easier for investors to get that exposure without having to really step into these unregulated exchanges, these digital wallets. Instead, they are trusting Franklin Templeton. As Dave mentioned earlier, we are creating the institutional relationships to manage the direct Bitcoin on their behalf. They get the exposure to the price movements of the Bitcoin without the need to actually physically hold the Bitcoin.

David Mann

Yeah, and you know, one of the interesting one of the, you know, I guess things that Sandy and I like to talk about is we've sort of got this intersection of the digital asset crypto space with my ETF world where we, you know, at Franklin where we've had equities, fixed incomes, commodities and now Bitcoin within the ETF vehicle.

David Mann

So you know, to your point about the risk, one of the things that our whole team does is making sure that there's multiple ETF market makers that can provide two way markets on exchange to make sure that there's multiple authorized participants who have the ability to create, redeem shares, make sure there is multiple approved counterparties so that the fund can actually go out and buy and sell the bitcoins that it's going to hold, you know, working with, you know, Coinbase as an example, to make sure that those Bitcoins are safeguarded.

David Mann

So there's, you know, Sandy, we've been joking about making it easy, but, you know, the beauty is, is the investors should be able to just go on to, you know, go into their usual manner of buying and selling stocks and ETFs and go by easy buy or sell easy. DC But we've taken a lot of caution downstream to to make sure that that that the plumbing works right so that user experiences is a is a good one.

Sandy Kaul

Right And that's that's why these whole set of Bitcoin ETF spot Bitcoin ETF products are such an exciting new offering for the marketplace.

Justin Zacks

And a lot of what people want from Bitcoin that they might not have been getting is some type of transparency. And I know the FCC is now having disclosures requiring ETFs to have these disclosures. Can you talk a little bit about the disclosures that are required and what that might mean for investors?

David Mann

Yeah, I mean, the if you go to our registration statement, there is extensive amount of disclosures in terms of all the risks associated with with Bitcoin. You know, as I was joking with our legal team, it was a crash course on every possible scenario from what is the airdrops and forks and everything else that might happen. But, you know, the you know, I would encourage anyone to read our registration statement to go over all those risks.

David Mann

There's there's a ton of disclosures in terms of all the things that could happen. But, you know, back to my my previous comments, you know, our job as as a trusted partner at Franklin Templeton is we have a lot of a lot of experience, both within the ETF vehicle and specifically within the digital asset space to to provide a vehicle that when the investors go to trade is EBC that it that it does so as they would expect.

Justin Zacks

And it's I'm sorry too.

Sandy Kaul

Say just to add to that I mean we as Dave says, our ETF franchise is extensive and very well established and our digital asset unit is actually one of the most established globally. We were actually the first asset manager ever to launch a mutual fund on the public blockchain, and we worked extensively with the SEC to do that.

Sandy Kaul

So we have a lot of experience within the digitally native space. And then now we're combining that experience with Dave and his team's experience in the ETF space to safely manage the wrapper and all of the mechanics that need to go into being able to offer this product. So we think it is a great marriage and we're very excited about it.

Justin Zacks

I'll thank you. Thank you for those comments and I know EZBC is available and other Bitcoin ETFs are available to trade on the Moomoo platform. We've seen trading now for about a week. What has been the initial reaction from investors? What's the volume been like compared to other ETF launches? Can you speak to a little bit about I know this has been hyped up for quite a long time and now that we're here, you know what what what's the what's the initial results look like?

David Mann

Yes, it's been it's been great so far. You know, one of the you know, we touched on this a little bit in terms of like, well, what's the volume going to look like in the first few days? Because we know that there's going to be a lot of platforms and gatekeepers that are going to watch this thing for a while.

David Mann

And they want to see that the ETFs are doing what they're supposed to do in terms of providing exposure to Bitcoin. So first movers are the first movers, you know, the crypto natives that now want to have it in a different form. Is it asset allocators who have had money on the sideline and want to have a, you know, a little bit of exposure to Bitcoin, but they wanted it with an ETF form.

David Mann

Those are things that we were all speculating. But you know, collectively of all the new, the new all the ETFs combined, it's been about $1,000,000,000 of net inflows, lots of volume. You know, with so many of the ETFs launching at once, it's always hard to tell if there's lots of new money coming in every one or if there's a little bit of moving from, you know, number one to number four and number six to number two or something.

David Mann

But, you know, for Franklin Templeton, we've had hundreds of thousands of shares, trade each day. We've had over 50 million of net inflows. So we've been excited, you know, putting on my ETF and it's that's the most volume we've had for a new launch for any of our products. So it's been it's been very exciting.

Justin Zacks

And that's great to hear it in kind of my last question relates to, you know, I know most investors out there are interested in buying and possibly holding a holding Bitcoin or Bitcoin ETF, but there are some investors that that are interested in shorting a Bitcoin. Can you short a Bitcoin? Can you short a bitcoin ETF? How does that work?

Sandy Kaul

Yeah, so it’s called a bitcoin.

David Mann

So yeah.

David Mann

So you know, within the ETI, you know, we like to call it the ETF ecosystem since they trade like stocks, ETFs will go through the normal SEC lending protocols of their securities lending agents. So for investors who want to go short the ETF, assuming that there's borrow available they they can borrow shares and and sell them short on exchange if they wanted to have I guess exposure to the to the downside that you know you'd have to go through your your SEC lending agent or platform to see if those shares are available for for selling short.

David Mann

But we would we would expect over time that as these all these Bitcoin ETFs get bigger, that they will start showing up on those on those platforms. And if investors want to sell sell short, they could do so just like any other ETF.

Sandy Kaul

The one thing I'm just finish this off is one thing to keep on your horizon if you're thinking about these Bitcoin ETFs is that there is this pattern within the Bitcoin network itself that's called the halving pattern and it's technical. It's basically the way that the Bitcoin network pays the people who verify transactions every about four years when a certain number of new transaction blocks have been added to the ledger, they cut the price and path of what they pay the people who verify transactions in the network as a reward.

Sandy Kaul

They cut it in half and that tends to tighten up the supply of Bitcoin for a period. So I just want to bring to people's attention that we are likely going to see that cut, that having event happen sometime in the next three or four months. So just something to keep on your horizon that this is a pretty established pattern in the Bitcoin market and in the past it has led to big rallies in Bitcoin.

Sandy Kaul

The past is no guarantee of the future and I want to make that very clear. But it is an event that is a big fundamental event for Bitcoin. So we would definitely be keeping your eye out and try and understand the timing around that event. If you're looking at these assets.

Justin Zacks

And I do want to remind our users that when you short a security, you have a potential for an unlimited loss. And in getting at that halving, I mean, would you expect there is a possibility that you could have less ETFs available to short in this type of situation during during close to this having.

David Mann

Yeah. I mean the the supply will be dictated in terms of the assets of the of those ETFs. Okay. So when the public is buying an ETF, new shares have to get created and the shares outstanding will grow and there's more shares available to the public and so from a SEC lending perspective, what we see is there's, you know, when that demand is increasing, they'll look at the supply of ETFs in the system and see if there's enough shares.

David Mann

And if there's not, then shares will start getting recalled and low. And your short positions might have to be might have to be closed. So it's really going to be contingent on the amount of shares outstanding of those ETFs.

Justin Zacks

Thank you for that answer. I really want to thank Sandy and David for being with us today. I'll let each of you maybe tell us any closing thoughts you have about Franklin Templeton or the Bitcoin ETF or or both?

Sandy Kaul

Well, I'll just finish off by saying thank you to Moomoo for sponsoring this and for being willing to really educate their customers on these new products. We have Franklin Templeton, our experts and digital assets and experts at ETFs, and we're happy to be able to bring this expertise to you, and we look forward to sharing more content and more of our knowledge and insight to help you be a better investor.

David Mann

Yeah. In closing thoughts, you know, we touched on that. There's lots of ETFs currently that can provide exposure to Bitcoins and you know, our EZBC, which is currently priced at the lowest expense ratio and coupled with all of the expertise that an and a that Sandy talked to about the digital capabilities of Franklin I think really makes us a trusted partner for investors who want to get their bitcoin exposure within ETF form via EZBC

Justin Zacks

Right. Well thanks to both of you for being on the show. And to all of our viewers, please comment in the comments section below if you would. If you've enjoyed the webinar or if you have any additional questions, we'll try to get those answers for you. Hope you have a great trading day today. Take care.

David Mann

Thanks, Justin.

Sandy Kaul

Thank you.