The outlook for other altcoin exchange-traded funds (ETFs) in the United States may depend on political changes following the country's upcoming 2024 presidential election.
This comes despite the US Securities and Exchange Commission (SEC) giving fund managers the green light to list spot Ethereum ETFs on May 23.
While SEC Chairman Gary Gensler admitted “it will take time” until an Ethereum ETF is launched, speculation about the next crypto ETF has already begun and Solana is a strong candidate.
Despite much enthusiasm for cryptocurrency ETFs, Ophelia Snyder, co-founder and president of 21.co, sponsor and sub-adviser to ARK Invest's Ethereum spot ETF, advises against getting too carried away. Expectations for new altcoin ETFs.
“It is unlikely that ETH approval will lead to a major wave of approvals.”
However, as Bitcoin and Ethereum spot ETFs have demonstrated, high demand from institutional investors for altcoin ETFs may force ETF issuers to submit applications.
In an April report, CoinShares – an alternative asset manager specializing in digital assets, found that hedge funds and asset managers had significantly increased their altcoin holdings, especially Solana.
Crypto investments in January (black) vs. April (blue) | Source: CoinShares
Snyder highlighted significant interest in 21.co's Solana exchange-traded product (ETP) on European exchanges, saying it manages nearly $990 million in assets.
The SEC has not shown any signs of accepting other cryptocurrencies for US ETFs. Approving spot Ethereum ETFs has been an uncomfortable one for the commission.
So it may be even harder for the SEC to approve altcoin ETFs. However, a number of different factors can change that.
The US election could be a catalyst for the approval of an altcoin ETF
Spot Bitcoin, Ethereum and altcoin ETFs exist worldwide. However, US regulators are more restrictive. Snyder commented that foreign altcoin ETFs are not important to the SEC, as “US regulators tend not to rely on foreign regulators.”
Bloomberg ETF analyst Eric Balchunas explains that the SEC follows a specific timeline for approving ETFs. If this continues, it could take years for another altcoin ETF to receive the green light from the agency.
A key element that allowed the SEC to investigate market integrity was the use of Chicago Mercantile Exchange (CME) data to compare correlations with spot prices on spot exchanges such as Coinbase and Kraken.
“The analysis used a 32-month sample, claiming significant ownership of assets on CME,” explained Joshua de Vos, head of research at crypto data firm CCData.
With current US regulatory administrators, Balchunas mentioned they “will likely follow a similar process” where the cryptocurrency must have an active futures trading on CME to track price behavior.
There are no Altcoin futures ETFs approved in the US other than the Ethereum futures ETF, suggesting a long wait before the US market has a spot Altcoin ETF. However, Balchunas said, “there is one big variable here, which is the upcoming election.”
The approaching US election on November 5, 2024 could be crucial for the future of altcoin ETFs, as cryptocurrency regulation in the country is becoming a political topic. Donald Trump introduced himself as a pro-crypto candidate in response to President Joe Biden's somewhat anti-crypto stance.
The results could completely change the direction of altcoin ETFs. Balchunas notes:
“In my opinion, if Trump wins, we could look at other coins for the ETF.”
Balchunas added that if Trump wins, he can “bring more freedom to crypto and support it with everything” as he pledged. In that case, Balchunas said Trump could appoint “a new SEC commissioner who has no regard” for the process the SEC has followed over the past few years, in which having futures data is an important part of the spot ETF approval process.
Additionally, Balchunas believes that Trump's victory could prompt ETF issuers to register a slew of new crypto ETFs:
“If Trump wins, I think people will try all kinds of ETFs.”
On the other hand, Balchunas believes that “if Democrats stay in power, an altcoin ETF is unlikely,” even if Biden removes Gensler and appoints another Democrat as SEC chairman.
The outlook for an altcoin ETF in the United States appears to be highly correlated with the outcome of the approaching Presidential election, and the likelihood of an altcoin ETF in 2024 is very low as the elected President will be inaugurated in January 2025.
In addition to the upcoming U.S. elections, there are typically a few specific requirements that must be met to get an ETF approved: It must offer healthy levels of liquidity, decentralization, resistance to price manipulation, and Accurate classification from regulatory agencies where possible. Are altcoins ready to meet these conditions?
Price manipulation in the altcoin market
The market capitalization of Bitcoin and ETH is significantly larger than that of other altcoins. As Balchunas observed, this is a concern for ETFs, because “the smaller the market, the greater the opportunity for price manipulation.”
As it stands, “the altcoin market is prone to manipulation because the market is still very young,” CCData's de Vos concluded.
However, price manipulation may not be as big of an obstacle as some think.
De Vos noted that spot Bitcoin ETFs have been rejected multiple times in the past due to concerns about market manipulation before the SEC finally “reluctantly approved.” Balchunas says that ETFs can handle some price manipulation:
“Just because there is a little bit of price manipulation or a lot of price volatility doesn't mean you can't have an ETF.”
For example, several active ETFs have GameStop as their largest holding, and while there has certainly been manipulation of GameStop stock prices, these ETFs are still active.
Could an ETF be coming to low-liquidity cryptocurrencies?
Another problem is that the altcoin market lacks liquidity due to lower volumes than Bitcoin or ETH.
According to Sebastian Heine, director of risk and compliance for institutional staking partner Northstake, an altcoin needs a large market capitalization and significant daily trading volume to justify its status as an ETF.
However, Balchunas explains how ETFs can exist without much liquidity. He notes the existence of junk bond ETFs where “the largest ones don't even trade on a daily basis.” Therefore, if junk bond ETFs exist, why not altcoin ETFs?
While illiquid ETFs may still exist, this factor will cause problems.
Balchunas explains that the main problem in a market with low liquidity is the presence of spreads and discounts. This is not beneficial for the ETF as it may quote a price different from the actual asset. At this point, market makers can help avoid such arbitrage gaps.
Alexis Sirkia, founder and former CEO of market maker GSR, said market makers will not have any difficulty securing liquidity in the most mature altcoin markets, for example like Solana.
Additionally, the emergence of an ETF will “attract market makers from other markets, leading to an overall improvement in liquidity and markets.”
In the case of altcoins with smaller markets, lower liquidity metrics will not be enough for a single ETF. Therefore, multiple altcoins combined could also be an option.
Justin d’Anethan, head of business development at market maker Keyrock, believes they will have to bundle multiple altcoins to have a sustainable ETF. According to him, there could be an “Ethereum layer 2 ETF or maybe even a memecoin ETF” in the future.
However, investors do not seem to favor baskets of altcoins. Snyder said 21.co discovered “more demand for single asset trackers” than the altcoin baskets on offer. Additionally, she explained an ETF with multiple altcoins is unlikely as ETF packages in the United States would likely require “additional regulation.”
Is there a possibility of a Solana ETF?
Snyder said that Solana is a top candidate for the next altcoin ETF, as it has the highest market capitalization compared to other altcoins. However, Solana has problems with centralization.
De Vos explained the scoring metrics used for their Cryptocurrency ESG Benchmark index that evaluated decentralization metrics, including the percentage of coins in the top 10 Solana wallets, the Nakamoto coefficient, and type of management system.
Source: CCData
Solana did not make the top 10 in CCData's rankings for decentralization.
De Vos said the top 10 Solana holders hold 7.29% of the supply and play an essential role in price action.
The high concentration of assets in a small number of wallets is not just a problem for Solana, it is a common problem for altcoins. Data from CCData shows that the top 10 wallets own 5.58% of XRP, 4.88% of XLM, and 3.9% of LINK.
Investment analysis firm Blockcircle CEO Basel Ismail said that enterprise validators on Solana receive the most support from a small group. So if they collude, it is possible to manipulate the network.
Ismail also noted that Solana has previously experienced a number of outages that caused trading to pause without any indication of when the blockchain would return. According to him, this issue must be resolved before any ETF can be considered.
If current regulators do not change after the upcoming election, the Solana ETF spot will face significant hurdles. The SEC has directly deemed Solana a security, “which makes it very difficult for spot ETFs to be approved until there is clarity on their treatment,” de Vos said.
Solana has the market capitalization and volume to justify an ETF, but – like other altcoins – it may need to improve its fundamentals to pass current regulatory requirements. US and become a viable ETF option.
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