The Grayscale Dilemma: A Record Discount and a Golden Goose

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Grayscale Invest­ments’ Bit­coin Trust has been sell­ing at a record dis­count in recent days, though some indus­try watch­ers don’t expect the trust to liquidate.

The ongo­ing cryp­to mar­ket volatil­i­ty, most recent­ly fuelled by the crash of cryp­to exchange FTX and its fil­ing for bank­rupt­cy ear­li­er this month, would like­ly not in itself force liq­ui­da­tion of the trust (GBTC), Bloomberg Intel­li­gence Ana­lyst James Seyf­fart said in a research note. 

“That’s because of GBTC’s val­ue gen­er­at­ing fees for its par­ent, hur­dles for share­hold­ers to force such a move and a require­ment that any liq­ui­da­tion be dis­trib­uted in cash, not bit­coin,” he said. “Plus, liq­ui­dat­ing GBTC would also mean open-mar­ket sell­ing bit­coin cur­rent­ly worth $10.5 bil­lion at a 45% discount.”

GBTC’s dis­count reached 45% on Fri­day — up from about 42.7% the day before, accord­ing to YCharts.com. The dis­count was hov­er­ing around 35% at the begin­ning of November. 

Source: YCharts.com

Seyf­fart tweet­ed that GBTC’s dis­count reached 50% on Mon­day morn­ing before retreat­ing back to rough­ly 48%. 

Bryan Armour, direc­tor of pas­sive strate­gies research at Morn­ingstar, said that GBTC’s record dis­count is a “huge con­cern” for investors already feel­ing the sting from bitcoin’s year-to-date drop of more than 60%. Grayscale has the option to off­set some of the pent-up sup­ply of GBTC by allow­ing redemp­tions of shares, which could ease the dis­count, he added.

“They haven’t shown any will­ing­ness to pull this lever because it would cre­ate costs and low­er future rev­enue from man­age­ment fees,” Armour said. 

A Grayscale spokesper­son did not imme­di­ate­ly return a request for comment. 

Armour also does not expect the fund group to liq­ui­date GBTC, as accord­ing to his esti­mates, Grayscale made about $900 mil­lion in man­age­ment fees since the begin­ning of 2021. GBTC car­ries an annu­al man­age­ment fee of 2%. 

“They may not be will­ing to kill the gold­en goose,” Armour said.

What hap­pens in the case of liquidation

Seyf­fart not­ed that Grayscale’s insol­ven­cy or bank­rupt­cy would con­sti­tute a rea­son for liq­ui­da­tion unless 50% of shares in the trust vote to trans­fer to a new sponsor.

If forced to liq­ui­date, Grayscale would engage direct­ly with bit­coin exchanges or over-the-counter bit­coin mar­kets to liq­ui­date the trust’s bit­coin “as prompt­ly as pos­si­ble while obtain­ing the best fair val­ue pos­si­ble,” accord­ing to SEC disclosures.

The lend­ing divi­sion of cryp­toas­set man­ag­er Gen­e­sis halt­ed cus­tomer redemp­tions and new loan orig­i­na­tions last week. How Grayscale could be impact­ed by a poten­tial Gen­e­sis bank­rupt­cy is unclear, Seyf­fart said.

A spokesper­son for Dig­i­tal Cur­ren­cy Group — the par­ent com­pa­ny of Grayscale and Gen­e­sis — did not imme­di­ate­ly return a request for comment. 

All dig­i­tal assets in Grayscale’s prod­ucts are held by Coin­base Cus­tody Trust Com­pa­ny, the com­pa­ny said in a blog post Fri­day. The doc­u­ments gov­ern­ing each offer­ing pro­hib­it the assets from being lent or bor­rowed, it adds.

“Cus­tody of the dig­i­tal assets under­ly­ing Grayscale’s dig­i­tal asset prod­ucts is unaf­fect­ed, and our prod­ucts’ dig­i­tal assets remain safe and secure,” the blog says. 

A quick­er solu­tion to reduce the discount?

Grayscale Chief Legal Offi­cer Craig Salm has said pre­vi­ous­ly that GBTC con­vert­ing to an ETF would close the trust’s dis­count. The com­pa­ny sued the SEC ear­li­er this year after it denied GBTC’s pro­posed con­ver­sion to a spot bit­coin ETF. The reg­u­la­tor has only approved deriv­a­tives-based products.

“Recent events — while unfor­tu­nate for the entire cryp­to ecosys­tem — should strength­en our case before the D.C. Cir­cuit Court of Appeals,” he told Block­works in an email after FTX filed for bank­rupt­cy.

Armour said that he does not expect GBTC to con­vert to an ETF — a sen­ti­ment shared by oth­er indus­try watch­ers who said FTX’s blow-up would like­ly pre­vent pro­gres­sive cryp­to reg­u­la­tion any­time soon.

Even with­out SEC approval, though, oth­er indus­try mem­bers say the firm should try for Reg­u­la­tion M relief, a rule the agency designed to pre­vent manip­u­la­tion. It could be a last-ditch effort for par­ent com­pa­ny DCG to save assets, accord­ing to Andrew Par­rish, co-founder of Arch Pub­lic Inc.

“I don’t think there’s any ben­e­fit to investors, I think there’s ben­e­fit to Gen­e­sis and DCG cov­er­ing a hole on their bal­ance sheets, cov­er­ing loss­es on their bal­ance sheets,” Par­rish said. “I think that’s the whole rea­son for any sort of Reg M usage in any sort of ‘restruc­tur­ing,’ and restruc­tur­ing is the best case scenario.”

Reg­u­la­tion M, if grant­ed, allows for a fund to simul­ta­ne­ous­ly cre­ate and redeem shares, Grayscale said in a Q&A detail­ing how such a con­ver­sion would play out. If the SEC approves GBTC’s tran­si­tion into an ETF, Reg­u­la­tion M would auto­mat­i­cal­ly be grant­ed, Grayscale said. 

But, Grayscale could opt to apply for Reg­u­la­tion M approval now, before the law­suit is set­tled, which would elim­i­nate the dis­count to net asset val­ue, accord­ing to Mes­sari CEO Ryan Selkis.“

The odds of Grayscale win­ning its case vs SEC in light of relat­ed par­ty trans­ac­tions with Gen­e­sis Trad­ing, Gen­e­sis Cap­i­tal, and at least two bank­rupt coun­ter­par­ties (Block­Fi and 3AC) are now 0,” Selkis said on Twit­ter. “Delays in pur­su­ing a Reg M pro­gram hurt share­hold­ers while enrich­ing DCG/Grayscale.”


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