Knight Checks King: Court of Appeals Rules in Favor of Grayscale

The United States Court of Appeals announced this morning it’s ruling in favor of the Grayscale petition to convert its flagship fund, GBTC, to a bitcoin ETF. In the intricate game of chess the SEC plays with bitcoin funds, it’s a “check” for Grayscale’s white knight strategy.

The ruling hinged on the SEC’s lack of clarity on why it treated bitcoin futures ETFs materially differently than spot bitcoin ETFs. The SEC approved the former while summarily denying all attempts at the latter.

“Grayscale’s win is a huge victory for all potential spot bitcoin ETFs — not just for Grayscale,” said Roxanna Islam, CFA, CAIA, associate director of research, head of sector and industry research at VettaFi. “While we will still have to wait and see how the SEC handles its execution, it is likely that they will have to approve Grayscale’s spot ETF along with other pending spot bitcoin ETF filings.”

Setting the Board, Moving the Pieces

The ruling is the culmination of a process that began back in October 2021. Grayscale filed to convert its flagship fund, the Grayscale Bitcoin Trust (OTCQX: GBTC) into a spot bitcoin ETF. The filing came in the wake of the approval of bitcoin futures ETFs such as the ProShares Bitcoin Strategy ETF (BITO).

The premise was simple, according to Grayscale. If the SEC was comfortable with a bitcoin futures product that tracks the underlying bitcoin spot prices, they should be equally comfortable with a direct investment product. It turns out that wasn’t the case.

The following June, the SEC denied Grayscale’s application. In response, Grayscale sued, calling the ruling “arbitrary and capricious” in a letter to investors.

The denial hinges on the SEC’s insistence that the burden of proof that the underlying markets are free of “fraudulent and manipulative acts” falls on the exchanges. In lieu of proof of this, the SEC’s alternative is for exchanges to submit to being surveilled.

Grayscale Giving Check on the SEC

Grayscale’s lawsuit was built on the premise that the SEC is engaged in discriminatory practices. The regulator approved bitcoin futures ETFs and denied all spot bitcoin ETF applications to-date. It failed to provide clear guidance as to the foundational difference between the two products that would warrant differing treatment. The lawsuit is a pivotal one and could finally brings some clarity to the logic the SEC employs regarding bitcoin.

This morning U.S. Court of Appeals Circuit Judge Rao ruled that “the Commission failed to explain its different treatment of similar products.” Rao acknowledged that Grayscale summarily proved its proposed bitcoin ETF was markedly similar enough to the approved bitcoin futures ETFs.

By this logic, Grayscale should therefore have been granted the same treatment by the SEC. All three funds (Grayscale’s proposed and the two bitcoin futures ETFs) track the spot price of bitcoin, and spot prices and futures prices carry a 99.9% correlation. In addition, Grayscale’s proposed product would have the same oversight and surveillance with the CME as the futures products.

“The Commission’s unexplained discounting of the obvious financial and mathematical relationship between the spot and futures markets falls short of the standard for reasoned decisionmaking,” Judge Rao wrote. The court granted Grayscale’s petition for review. It also simultaneously vacated the SEC’s order of denial for the spot bitcoin conversion of GBTC.

“This is a monumental step forward for all who have been advocating for Bitcoin exposure through the added protections of the ETF wrapper,” Grayscale tweeted after the ruling.

It remains to be seen if this will herald a new, highly anticipated era of spot bitcoin approvals. For now, the industry appears hopeful that this check could quickly turn into a mate.

Your move, SEC.

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