Blockchain is a relatively new technology. However, companies operating in this industry are well established. Examples include companies like IBM, Amazon.com, and SAP. Companies that want to bet and invest in this technology prefer to invest in stocks of regulated companies. ETFs or Exchange-Traded Funds own stocks in companies operating in the blockchain industry.
This tutorial explains about blockchain ETFs, which are blockchain-based assets and securities. We will not only discuss what ETFs are, how they operate, why you should consider them as an investment option, their similarities and differences with other investment options, but will also offer tips and a list for those willing to invest in these products.
What Is A Blockchain ETF?
An ETF is an investment fund, security, or product that is based on an underlying asset that has some value. For instance, a blockchain ETF specializes in investing in blockchain assets like stocks of companies in blockchain, virtual currencies, or crypto trading activity just to name a few. However, a blockchain ETF does not necessarily invest in companies dealing with crypto like Bitcoin.
When a person buys into an ETF, they are buying into the assets. This means that they will get some right to profit from the growth of the underlying assets according to the value of their investment in the fund. They do not own the underlying assets, like would have happened in owning stocks.
Investors, therefore, share the benefit of the growth of the fund in terms of regular profits in terms of dividends. ETFs are also traded in the regular ETF markets, in the same way, individuals can sell or buy stocks in the stock markets.
As it is clear, the prices of stocks of these companies are affected by factors beyond blockchain although they can be affected by the technology and the hype or other things around blockchain.
Blockchain ETFs differ from bitcoin ETFs or Ethereum ETFs in many ways. Blockchain ETFs are based on the underlying value of blockchain technology while cryptocurrency ETFs are based on the value of underlying cryptocurrencies like Bitcoin and ETH.
In other words, a Blockchain ETF would track stocks of companies investing in blockchain technology while a Bitcoin ETF would track the price of Bitcoin in the market. The latter would, for instance, happen through Cboe and CME Bitcoin futures. The ETF tracks the price through ownership of the futures contracts.
Further, while blockchain is a wide area, cryptocurrency is a single application of blockchain.
While regulation is clear about the legality of blockchain ETFs, some regulators still ban Bitcoin and crypto ETFs due to liquidity and valuation problems. Blockchain ETFs are less volatile than Bitcoin ETFs.
How Do Blockchain ETFs Work?
There are so many benefits of investing in ETFs besides being able to gain benefit from developments in the growth of blockchain technology.
For instance, BLCN ETF tracks the performance of the Reality Shares Nasdaq Blockchain Economy Index. The index is itself constituted by stocks of companies involved in the research, development, support, and utilization of blockchain technology and associated businesses.
When a company is regarded as a potential for inclusion in the index, a certain score called “Blockchain Score” is assigned to its stock based on several factors relating to how the business is contributing to the blockchain ecosystem, its blockchain products and impact on an economy, expenditures in research and development, as well as its results and innovations.
All the top 50 to top 100 companies with high ranking scores are included in the index. Rebalancing happens every six months where new blockchain scores may be assessed.
At the end of the day, the fund uses the index to track the returns of each of the stocks in the index but concerning all the company’s “contribution” to the blockchain economy. The idea here is to track the blockchain economy value and growth in that value as reflected by top-performing companies included in the index.
Of course, through the indexing of performance over a wide range of factors relating to blockchain, the companies included in the index are taken as the best contributors to blockchain but this is not always a true reflection of the situation.
Since the fund collects investment from the investors into the fund, it uses the indexing to determine the best stocks to buy concerning the blockchain economy. The growth in the fund or the profits resulting from the speculation and sale of the stocks are then shared with the investors proportionately to the value of their investment.
The profits are shared in the form of yearly dividends. Bitcoin ETFs may share profits in terms of monthly dividends.
Differences And Similarities Between ETFs And Other Assets
Similarities:
- Like stocks, ETFs are regulated as financial products by financial bodies and agencies in different countries.
- ETFs, concerning stocks, can be traded on regular exchanges that deal with ETFs.
- Ownership of ETF shares means that an individual will share in the profit due to the growth of the fund, in the same way as stocks.
Differences:
- Compared to owning the underlying assets without the ETF option, ETFs are more preferable because they enable tracking of the basket of assets rather than the value of a single asset.
- Compared to asset ownership and trading without ETFs, ETFs offer a more accessible option since it is more convenient, quicker, and easier to trade than the individual underlying assets.
- Unlike Exchange Traded Notes or ETNS, which are structured as senior debt notes, ETFs represent a stake in an underlying commodity. While ETNs are unsecured, ETFs are secured by the stocks and bonds and assets they track.
Comparison Of Blockchain ETFs & Stocks and Securities
| Blockchain ETFs | Stocks and Securities |
|---|---|
| Flexibility is limited to a few companies in the basket. | Stocks are more flexible as they allow you to invest in companies of your choice; ETFs are limited. |
| Easier management of more than one company’s stock because of the basket. | Harder to manage more than a couple of stocks at a go. |
| Only traded in exchanges. | More straightforward to invest in stocks than ETFs – easy to trade stocks than ETFs that are only traded on exchanges. |
| Liquidity of ETFs depends on which companies are indexed; but generally lesser liquid because a few are invested in ETFs and blockchain. | Stocks are generally more liquid than ETFs but this depends on the quality of basket with the ETF. |
| ETFs more diversified as a single investment with many companies. Even further diversification if you invest in two or more ETFs | Limited diversity unless if you are investing in more than a couple of stocks. |
| Lesser risks than stocks | Stocks are better for more risk-averse traders |
Comparison Of Blockchain ETFs And Mutual Funds
| ETFs | Mutual funds | |
|---|---|---|
| Similarities | ||
| 1) | Both represent a mixture of different assets or basket | |
| Differences | ||
| 1) | ETFs are usually passively managed with the allocation of assets based on the market index of the socks. | Funds are actively managed with manager making decisions on how to allocate assets to the funds. |
| 2) | ETFs can be traded like stocks in the exchange markets. | Mutual funds only purchased at the end of each trading day based on the calculated price. |
| 3) | Passive management lowers the fees and expense ratios | Mutual funds tend to have higher fees, higher expense ratios than ETFs mainly because of the active management. |
| 4) | Trading is between persons/investors and there is no limit to the number of shares that can be traded. | Mutual funds are either open-ended where trading is between the fund with no limit to the number of shares available and the investor or close-ended where the fund sells a set limit of shares. |
Best Blockchain ETFs
The performance of ETFs is judged based on the dividend yield, daily volume, and profitability. This is explained in the below table.
| Name of ETF | Performance Stats | Description |
|---|---|---|
| Innovation Shares NextGen Protocol ETF (KOIN) | Yearly performance: 29.8%. YTD: -8.36% Annual dividend yield: 1.55% Expense ratio: 0.95% Avg. daily volume (3 months): 4056 Assets under management: $9.1 million |
KOIN invests in tech stocks across developed markets globally. Follows a blended strategy, to invest in growth and value Top three of its holdings: Intel Corp Microsoft, Salesforce.com |
| Reality Shares Nasdaq NextGen Economy ETF (BLCN) | Yearly performance: 28%. YTD: -7.93% Annual dividend yield: 1.39% Expense ratio: 0.68% Avg. daily volume: 15,139 Assets under management: $66.7 million |
Issued by Reality Shares company. Invests in tech stocks globally Follows a blended strategy, to invest in growth and value Top three of its holdings: Advanced Micro Devices Inc (AMD), Fujitsu, Microsoft |
| First Trust Indxx Innovative Transaction & Process EFT (legr) | Yearly performance: 22.7%. YTD: -17.36% Annual dividend yield: 1.97% Expense ratio: 0.65% Avg. daily volume (3 months): 2087 Assets under management: $46.4 million |
Issued by LEGR company. Invests in tech stocks globally. Follows a blended strategy, to invest in growth and value Top three of its holdings: Advanced Micro Devices Inc (AMD), Fujitsu, NVIDIA |
| Block (Amplify Transformational Data Sharing ETF) | Yearly performance: 22.7%. YTD: -6.45% Avg. daily volume: 32,987 Assets under management: $81.5 million |
Asset Class: Equity |
| (GFIN) Goldman Sachs Motif Finance Reimagined ETF | YTD: -12.85% Average Volume: 4,719 Assets under management: $18.53 million |
Asset Class: Equity |
| (BKC) REX BKCM ETF | YTD: 10.58% Average Volume: 1889 Assets under management: $5.22 million |
Asset Class: Equity |
| (BKCH) AdvisorShares Sabretooth ETF | YTD: n/a Average Volume: 3177 Assets under management: $1.29 million |
Asset Class: Equity |
#1) Qualities of a good ETF: Tips to Select the Best ETFs
High return on investment is the top priority when selecting an ETF although this is affected by many other underlying factors.
These are enlisted below:
- Large average return in terms of dividends paid on average in the last three months if eying short term returns.
- Huge yearly returns and Year To Date(YTD) on returns may also be preferable for those eying mid-term and 5 or so years return on investment for those eying returns in the long term.
- Certainty versus the risk of investment: Although blockchain is a risky investment, most companies listed on ETFs indexes are very predictable. Some are more predictable than others.
- The large volume of assets under management and huge daily volumes may be testimonies of the period of operation by the ETF, trust by investors among other things.
- The expense ratio, which is the percentage of the fund’s average net assets, is calculated annually. It is disclosed in the fund’s prospectus and shareholder reports which includes operational costs such as administrative, distribution, management, and other costs; and directly reduce returns to shareholders. Hence, you should select a fund with a low expense ratio.
- Low management fees, and low entry barriers such as capital requirements and verifications.
#2) Why invest in an ETF? Benefits and Opportunities
#3) Risks and disadvantages of investing in ETFs
Virtually every investment carries some risks and ETFs, like blockchain investment itself has some risks as shown in below image:
Conclusion
The popularity of blockchain ETFs is due to the big bet on the blockchain technology. There are so many benefits to expect from investing in a blockchain ETF. You get to diversify your investments outside of ordinary assets and opportunities such as stocks and bonds. Many also prefer to bet on newer technologies with the growth potential they present in their early adopter stages.
Although these kinds of investment funds and products are less volatile and less risky than Bitcoin ETFs, there are some risks related to them such as the probability of failure and low performance due to the low adoption of the technology.
To reduce risks related to investing in blockchain ETFs, ensure to opt for the one with high returns on average, higher YTD, and higher dividend payouts. Good blockchain ETFs have low management fees and lower barriers of entry. Those with a history of expense ratio are also preferable as there are those with a large volume of assets under management and high daily volumes.
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