A shot in the arm for the US crypto industry: BlackRock applies for a Bitcoin spot ETF - Published by The Paper Technology Edition

This is the article I published on the technology edition of The Paper on July 10.

Continue to track US encryption regulatory policies for everyone and contribute better content.

My Twitter: @curiousjoe5

iShares, a subsidiary of fund management giant BlackRock, submitted an application for a Bitcoin spot ETF to the SEC on June 15. Considering BlackRock's status in traditional finance and its almost undefeated ETF application record, iShares' Bitcoin spot ETF application was optimistically interpreted by many as a turning point for traditional funds to enter the crypto market in a big way.

Several other things worth paying attention to recently: the encryption bill has the opportunity to enter the voting stage in July; the issue of encryption companies relocating abroad; who is Promethium?

In early June, under the crackdown by the U.S. Securities and Exchange Commission (SEC), the U.S. crypto industry was in mourning. It seemed that there was no place for the crypto industry in the United States anymore, with funds flowing out and companies planning to relocate.

After mid-June, sentiment suddenly reversed, as iShares, a subsidiary of fund management giant BlackRock, submitted an application for a Bitcoin spot ETF (Exchange Traded Fund) to the SEC on June 15. Considering BlackRock's status in traditional finance (Tradfi) and its almost undefeated ETF application record, iShares' Bitcoin spot ETF application was optimistically interpreted by many as a turning point for traditional funds to enter encryption in a big way.

After BlackRock, many traditional large institutions such as Invesco and Wisdom Tree have entered the market and re-applied for Bitcoin spot ETFs. Due to the lack of public information, the entry of these traditional institutions has triggered widespread speculation and generated a variety of conspiracy theories. The most popular one is the "SEC clearing theory": the SEC's previous crackdown on Binance and Coinbase was the official helping BlackRock Capital to clear the market. First, the administrative power cleared the crypto capital in the market, and then the big capital occupied the market openly.

However, the other side of the optimism is that it has been a full decade since the first Bitcoin spot ETF application was submitted to the SEC, and no institution has been able to successfully obtain SEC approval during this period. Moreover, although BlackRock is applying for a Bitcoin spot ETF for the first time, many of the institutions that followed are "re-applying" and their previous applications have been rejected by the SEC.

In any case, most people expect that this time will be different, and many people think that these big capitals must have inside information that ordinary people don’t know.

To what extent can optimistic emotions truly turn into optimistic results? We need to sort it out in detail.

BlackRock’s Bitcoin Spot ETF

BlackRock is one of the world's largest asset management companies, managing assets of more than 10 trillion US dollars. Relying on strong capital, the company's CEO Larry Fink not only has a great influence in the business world, but also has considerable influence in politics. In particular, he has a certain voice in the Democratic Party and has a certain ability to influence Democratic policies.

BlackRock’s strength and its unexpected entry point added a lot of doubts to the incident.

First, why did BlackRock choose to enter the market when the SEC was “killing all parties”?

The "SEC clearing theory" is most likely just a conspiracy theory among the people. Considering BlackRock's status, its motives should be analyzed from both business and political perspectives.

First of all, these traditional capital institutions do not make decisions on impulse, they must have mature internal processes, and internal processes are often time-consuming, so BlackRock's application for Bitcoin spot ETF must have been brewing for a long time. Similarly, the application materials of other big capitals must have been prepared long ago, and they are just waiting for the right time. From this point of view, big capital has been coveting Bitcoin spot ETF for a long time, and Bitcoin has become one of their recognized asset allocation tools.

Secondly, BlackRock may be pursuing first-mover advantage. Being the first to issue a spot ETF is very beneficial to grabbing market share, which can be seen from Canada's experience in issuing a Bitcoin spot ETF. People have been looking forward to a legal investment channel for Bitcoin. Once this channel appears, a large number of customers will flock in, and the commission income will not be a small amount. BlackRock will not ignore this cake. Submitting an application in the midst of a market pessimism, no matter how high the probability of success is, the rewards of success are huge.

Thirdly, the SEC's crackdown has caused U.S. crypto capital to tend to move abroad. For example, the largest crypto venture capital company A16Z recently opened an office in the UK. BlackRock's application may be sending a certain message to the SEC, that is, everyone has been looking forward to the Bitcoin spot ETF for a long time, and the SEC's supervision is testing the patience of capital. If the tough regulatory style continues, big capital may leave the United States and choose overseas markets.

Finally, BlackRock's application will create political pressure on the SEC's supervision. Although many people in the Biden administration are not friendly to encryption, the Democratic Party is a complex group, and many people who understand encryption will worry about the international status of the United States in the field of encryption. From a horizontal perspective, Europe already has systematic legislation. Singapore, Dubai and other places are relatively flexible. Hong Kong, China, is actively embracing related industries. Although Japan’s supervision of encryption is strict but relatively effective, the bankruptcy of FTX at the end of last year caused Americans to be confused. A big loss, but FTX Japan did not cause significant customer losses under effective supervision. In contrast, U.S. crypto regulation is experiencing chaos, and financial bosses are losing face. This situation is unacceptable to them. BlackRock's application is also a statement from within the Democratic Party on supervision, calling for further clarity on supervision.

Second, all Bitcoin spot ETF applications in the past decade have been rejected by the SEC, why do people think BlackRock will be different?

First of all, the most mentioned thing is BlackRock's record of applying for ETFs. BlackRock has submitted 576 ETF applications, 575 of which were approved, and only one was not approved. The only time was a long time ago.

Then there is BlackRock’s near-unbroken record, which is tied to its status as a company that manages half of the assets in the United States and whose CEO, Fink, has as much political influence as SEC Chairman Gary Gensler.

Finally, from the perspective of actual impact, some people made a comparison with the gold market. Adam Cochran, a venture capital partner, mentioned on his own media: "BlackRock launched the gold ETF in 2005. BlackRock has promoted the narrative of giving gold a wider legitimacy in the investment portfolio through its advisory team. After nearly 20 years of efforts, young wealth managers and economists who have already occupied a place in central banks and sovereign wealth funds take it for granted that 'gold is a safe investment portfolio'." The gold ETF market had a market value of only US$1 trillion before BlackRock entered the market, but after BlackRock entered the market, the market gradually grew to US$13 trillion.

Third, how is BlackRock’s application document different from previous ones?

If you compare the application of Grayscale, a digital currency asset management company, last year, the SEC mentioned two points in its rejection. First, the SEC hopes that the applicant will have significant scale, and second, the SEC requires the applicant to have a "supervision sharing agreement." ". These two points were also mentioned in the June 2022 SEC document rejecting the Bitwise Bitcoin Spot ETF, requiring the exchange to achieve this by demonstrating "a comprehensive oversight sharing agreement with a regulated market of significant size for the underlying or reference Bitcoin assets." Require.

A surveillance sharing agreement is an agreement between a trading platform and a spot market, in BlackRock’s case between Nasdaq and Coinbase, that requires both parties to share information related to market transactions, clearing, and customer identities, and that there are no rules, laws, or practices that prevent the exchange of information.

Most current crypto exchanges are self-regulated, and many have committed violations such as misappropriation of customer funds, volume manipulation, and market manipulation, which is also widely criticized by regulators. The supervision sharing agreement requires the sharing of information on market trading activities, clearing activities, and customer identities, in order to reduce the possibility of exchanges manipulating the market.

Fourth, what are the prospects for approval?

If BlackRock and the SEC really have behind-the-scenes cooperation, then the prospects for approval must be optimistic, and all subsequent discussions will be in vain.

It is worth noting that if BlackRock's ETF is approved, the probability of other Bitcoin spot ETFs passing will also be greatly increased. This is because regulators, including the SEC, attach great importance to shaping a fair and just public image. If BlackRock's ETF is successfully approved, then other ETFs with similar application documents should also be approved. Otherwise, it will be a serious internal operation scandal for the SEC.

If there is no behind-the-scenes manipulation between BlackRock and the SEC, the prospects for the BlackRock ETF to be approved are not as optimistic as many people think. There are several unfavorable factors.

First, in addition to the two differences mentioned above, BlackRock's application documents are very similar to those of other large institutions. The SEC has mentioned that having a supervisory sharing agreement does not guarantee approval. Moreover, BlackRock's use of a highly similar document seems to express an attitude that the SEC's previous rejections are questionable, which may also put the SEC in a certain embarrassing situation. If it approves this time, it will undermine the legitimacy of the previous ruling.

Secondly, the supervision sharing agreement is an agreement between a trading platform and a spot trading market. In BlackRock's ETF application, the trading platform partner is Nasdaq, and the spot trading market partner is Coinbase. Interestingly, the first draft of BlackRock's ETF application materials did not state that the spot market partner was Coinbase. After that, the SEC returned the materials and asked BlackRock to clarify the name of the partner. BlackRock only mentioned the name of Coinbase in the subsequent revised materials. Coinbase has just been sued by the SEC and is in a legal battle with the SEC. BlackRock must be very clear about this, but there are very few compliant exchanges in the United States, and Coinbase and BlackRock are partners who reached an agreement a year ago, so BlackRock has limited options and has to choose Coinbase. The fact that Coinbase was not mentioned in the first draft also shows that BlackRock is not confident in this regard.

Finally, the SEC requires applicants to have a “significant scale” market. If you are being picky, Coinbase may not be able to meet the requirements. Because if you consider the overall transaction size of Bitcoin (including BTC/USD, BTC/USDT, BTC/USDC and other trading pairs), the trading volume on Coinbase lags far behind Binance, and it cannot be said to be a "significant scale" market. But if you only consider the Bitcoin and USD Cash (BTC/USD) trading pair, then Coinbase does count as a market of significant size. Therefore, the definition still needs to rely on the SEC's interpretation.

A few other things worth noting recently

First, the encryption bill has a chance to be put to the vote in July

The U.S. House of Representatives will hold a bill review on July 19. If an encryption bill passes the review, it will be the first encryption legislation to move out of the committee stage and enter the voting stage.

There are currently two bills that are possible, but the two bills are in different positions.

One is the stablecoin bill. In July 2022, the House Financial Services Committee was already vigorously promoting the stablecoin bill. At that time, driven by events such as the bankruptcy of Terra, stablecoins became a hot topic for a while. Stablecoin legislation has almost been introduced. But the midterm elections in November interrupted the relevant procedures. However, although the House of Representatives has changed from Democratic control to Republican control, the bipartisan support for the stablecoin bill has continued to the new Congress. In particular, local regulators in New York are more enthusiastic about stablecoin legislation. At the previous hearing, three local New York congressmen expressed support for stablecoin legislation. If the Biden administration puts stablecoin legislation into its field of vision, then its momentum to move forward will be sufficient.

The other is the Market Structure Act. This bill has less hope, mainly because it is still a Republican proposal and has not yet received clear support from the Democrats. However, the driving force behind this bill is Republican congressman Patrick McHenry, chairman of the Financial Services Committee. McHenry attaches great importance to this bill, so the momentum behind it should not be underestimated.

Second, the issue of relocation of crypto companies

A16Z, one of the largest venture capital funds in the crypto space, recently opened a new office in the United Kingdom, which caused some repercussions in Congress, with multiple lawmakers speaking about the issue at several hearings.

Why did Coinbase's opening of a UK office not attract the attention of regulators, while A16Z did? First, compared with ordinary crypto companies, A16Z represents big capital, which also comes with GDP and employment, and the outflow of capital is more likely to touch regulators. Second, there is a brotherly complex between the United States and the United Kingdom, that is, the relationship is close, but it is easy to be jealous of each other. The rise of the United Kingdom in some aspects is a rather dazzling thing for the United States, and the high-quality resources of the United States in the United Kingdom are something that the United States cannot accept.

All these will cause embarrassment for US regulation. After World War II, the United States is used to setting international rules, especially in the fields of finance and technology, where the United States is the rule maker. In contrast, in the current encryption field, US regulatory policies have been slow to come out. The current British Prime Minister is very friendly to encryption and hopes to build the UK into an encryption center. There are preferential policies for the encryption industry in many fields, so many American companies will choose the UK as a target for relocation.

Third, who is Promethium?

At a June hearing of the House Financial Services Committee on digital assets, a witness was from Promethium, the first and only SEC-approved special purpose broker dealer that can trade digital asset securities. During the hearing, the witness refuted others' assertions about the lack of regulatory policies in the United States, arguing that the SEC rules are complete and that ordinary crypto companies have a legal path to registration.

Since then, this Promethium company has aroused a lot of interest. The glaring questions include who is Promethium and why it is the only one that can register as a compliant enterprise.

After summarizing the existing information, it is found that the company has been established for several years and has raised a large amount of funds, but it has almost no actual business. Although it has been certified by the SEC and is a compliant digital asset trading platform, no transactions can be made on the platform. In a June 27 episode of the podcast unchained, which focuses on the crypto industry, the host invited Aaron Kaplan, co-CEO of Promethium, to debate with Rodrigo Seira, special consultant from Paradigm. When asked some specific questions, Kaplan often cannot justify himself. For example, when asked what digital assets can be traded on the Promethium platform, the host asked Aaron, "You mentioned before that Promethium can decide the trading category on its own, right?" Aaron then ambiguously answered without giving a clear answer. This is undoubtedly a sensitive issue. In theory, crypto assets other than Bitcoin have the problem of "undetermined identity" in the United States. The SEC insists that all crypto assets are securities, but there is no policy to implement this statement, so if everyone is strictly compliant, most digital currencies cannot be traded. According to Allen, the SEC gave Promethium the discretion to decide which assets can be traded. So the question is, why do they have such a wide range of discretion?

More conspiracy theories related to the SEC have emerged around Promethium, which undoubtedly have a huge negative impact on the credibility of SEC supervision.

(Author Curiousjoe is a cross-border researcher of international politics and cryptocurrency.)