Sophia’s Thoughts On The New Ethereum ETF Hype
We just witnessed the historic approval of spot Bitcoin ETFs in the US. Now, the approval of a new spot ETF is taking over the conversation. What will a spot Ethereum ETF mean for the crypto market?
These are Sophia's Thoughts:
Ethereum has enjoyed a large run recently, driven in part by the expectation that the SEC will approve a spot ETF later this year.
Chances are high that all spot Ethereum ETFs may get approved by May, according to several experts.
But a key question remains unanswered: is Ethereum a security or a commodity? The SEC may decide to push a decision on this through the courts, delaying the approval of spot Ethereum ETFs.
Sophia has been bullish on Ethereum lately, largely driven by an assessment that the spot ETF hype will provide a lift for the valuation of the coin.
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🤨 ETFs once again?
Last month, the Securities and Exchange Commission (SEC) finally approved the first spot Bitcoin ETFs in the US. The market had expected that this would occur. Investors built up a hype around Bitcoin that lifted much of the crypto market to new heights in 2023.
The approval of spot Bitcoin ETFs ultimately had a mixed impact on Bitcoin. Initially after the approval on January 10, Bitcoin dumped from USD 47,000 to USD 39,000 over the span of 14 days. Many thought this was the dreaded sell-the-news effect. But the drop turned out to be mostly due to a rebalancing of assets across spot Bitcoin ETFs and some new liquidations at FTX. Bitcoin slowly recovered and peaked above USD 50,000 two days ago for the first time since 2021.
But before we reached this new high, the conversation last week quickly moved on to another coin: Ethereum. The SEC last week delayed a decision on the applications by Invesco and Galaxy Digital to run spot Ethereum ETFs in the US. Then, Franklin Templeton entered the race to run spot Ethereum ETFs in the US by filing its own application with the SEC. In total, there are now 9 applicants seeking approval from the SEC to run spot Ethereum ETFs in the US.
The first final deadline for the SEC to make a decision on these ETH ETF applicants is on May 23. Will the SEC approve spot Ethereum ETFs by then? Let’s dive in.
👨🎓 What the experts are saying
In a sign that investors may have learned their lesson from the run surrounding the spot Bitcoin ETF, there appears to be consensus among experts that the SEC may wait until the last possible moment to make a decision about spot Ethereum ETFs.
Some experts think we will see all spot Ethereum ETFs approved around the first final deadline in May. But many think that the SEC might end up rejecting the applications while it battles out one important issue in court: is Ethereum a security or not?
Last year, Ripple won a legal battle against the SEC in a landmark judicial decision that established that tokens are not always securities. But the SEC has maintained that Ethereum is different. The main reason the SEC views Ethereum as a security is that it is based on what is known as proof-of-stake.
Most crypto networks have a common way of functioning. There are transactions that need to be validated and recorded into the blockchain. The validation is done by validators, who get compensated when they truthfully validate transactions. Many crypto networks, like Bitcoin and Ripple, only reward their validators if they are successful at validating. But Ethereum is different. In order to be selected as a validator on the Ethereum network and possibly earn the validation reward, network participants have to commit a large amount of Ethereum to the network through something known as staking. The more Ethereum a participant has staked, the more likely it is that they will be chosen as the validator and earn rewards. The Ethereum that is staked cannot easily be withdrawn as it is used to support the network’s operations. So, as compensation for locking up ETH over long periods of time, network participants earn a yield on their staked Ethereum even if they do not end up being chosen as validators.
The yield on staked Ethereum is currently about 3.5%. But on average it fluctuates between 4 and 6% and can easily reach above 8%. Because earning a yield on staked Ethereum is similar to what occurs when you invest in bonds or savings accounts that pay interests, the SEC may view the staking component of Ethereum as defining a security. SEC Chair Gary Gensler suggested this might be an issue for spot crypto ETFs in a comment he made when spot Bitcoin ETFs got approved.
“Importantly, today’s Commission action is cabined to ETPs holding one non-security commodity, bitcoin. It should in no way signal the Commission’s willingness to approve listing standards for crypto asset securities,”
🔐 Does it matter if it’s a security?
In principle, whether Ethereum is a security or not does not matter for whether there can be an ETF that tracks the spot price of Ethereum. After all, the SEC has already approved ETFs on equities and bonds, all of which are considered securities.
But the uncertainty about whether Ethereum will be treated as a security or a commodity by the SEC makes it hard for ETF operators to plan and come up with proposals on how to implement their spot Ethereum ETFs. For Bitcoin, the different spot ETF operators rely heavily on existing crypto players for key parts of their operations. For example, BlackRock listed Coinbase as the custodian of its Bitcoin when it announced that it would seek approval to run a spot Bitcoin ETF last year in July. Indeed, Coinbase has been picked as custodian by 9 out of 12 spot Bitcoin ETF operators. But Coinbase is currently engaged in a legal battle of its own after the SEC filed a lawsuit against the crypto exchange alleging that it violated securities law for offering staking services to its customers. The question of whether the ability to stake defines a security is at the heart of the current legal fights of the SEC against several crypto players.
It is unlikely that the SEC will come to an agreement with the crypto world on how to view staking before the first final deadline for approval of spot Ethereum ETFs. So the SEC can do one of two things. The first option is to deny the application by VanEck. In that case, VanEck is more likely than not to appeal the decision. This will likely lead to a long legal fight that the SEC will very likely lose given the precedent set by Grayscale last year. The SEC had originally rejected the conversion of the Grayscale Bitcoin Trust into an ETF in 2022. Grayscale appealed the decision and won last year in August. The main argument in that case is likely to also apply in the Ethereum case. The SEC has already approved Ethereum futures ETF that are essentially indistinguishable from a spot ETF. So, a rejection in May means a prolonged legal fight that will see the SEC expanding its losing streak against crypto. It would ultimately lead to the approval of spot Ethereum ETFs nonetheless, though much later. This is not likely to be a good outcome for the SEC.
The second option is to approve the VanEck application. In this case, the SEC is likely to approve all 9 applications to run spot Ethereum ETFs, similar to how it approved all spot Bitcoin ETF applications in January. A positive decision in May may suggest to market players that the questions about being a security are not critical for the SEC when it comes to Ethereum. This could empower Coinbase and other crypto exchanges currently battling the SEC in court. It would make the SEC look inconsistent, which is also not a good outcome for the SEC.
All in one, the SEC is in a bind here. And its reputation in the crypto community is likely to continue to take a hit regardless of what decision it makes about spot Ethereum ETFs in May.
🧠 Sophia’s intelligence for Ethereum
Sophia, our AI crypto intelligence bot, has been tracking Ethereum. And, in that process, Sophia has been almost consistently bullish on Ethereum since January 1.
One key driver of Sophia’s positive assessment is the fact that Ethereum is getting a large lift from investor sentiment. Social chatter about Ethereum has been very positive recently. This has provided a boost for Ethereum’s valuation, according to Sophia’s proprietary AI valuation metrics. In contrast, Ethereum appears to be fairly priced based on its fundamentals. So there does not seem to be any headwind from fundamentals when it comes to the new sentiment-driven hype surrounding the approval of spot Ethereum ETFs.
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