Strange case of shades of gray and the big Bitcoin discount

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Anyone who watched TV during 2022 saw the ubiquitous TV commercials for Grayscale, which manages the world’s largest Bitcoin investment fund. These ads touted Bitcoin as “the future” and should be part of a retiree’s portfolio.

But investors in Grayscale Bitcoin Trust (GBTC) face both a problem and an opportunity.

The problem? GBTC trades at a 46 percent discount to its underlying holdings, as of February 24. This means that the value per share of the fund is 46 percent less than the Bitcoins in the fund’s portfolio. No doubt the ongoing legal issues facing Digital Currency Group (DCG), the parent company of Grayscale, are a factor in the steep discount.

The possibility is that if the fund were to trade up to its net asset value – and that’s a giant “if” – investors would realize a gain of 84 percent.

Non-traded funds such as real estate investment trusts (REITs) and business development companies that are priced below asset value are not a new phenomenon. There can be factors such as supply and demand and the quality of the underlying asset that can drive this spread. But a discount of up to 50 percent? That’s almost unheard of, and it amounts to about $7 billion in captured value.

The simple explanation for such a large spread is that investors are worried about the challenges of DCG, a kind of cryptocurrency conglomerate. DCG is backed by none other than SoftBank, which appears to have had its hand in a number of failed or failed startups. DCG owns Grayscale, crypto news outlet CoinDesk, Bitcoin Miner Foundry, a small London-based crypto exchange called Luno, and crypto brokerage and lending giant Genesis Capital. The latest company, Genesis Capital, is currently under Chapter 11 bankruptcy protection, after its lending arm imploded following last year’s crypto rout and FTX’s collapse.

DCG has sold its stakes in various investment companies run by Grayscale, according to regulatory filings. Despite GBTC and its Ether-focused funds trading below their asset values, DCG presumably needed to raise money by any means necessary to support Genesis during bankruptcy. The Financial Times also reported that DCG retained investment bank Lazard to explore a sale of CoinDesk.

A competitor has also targeted greyscale. Osprey Funds, which also runs several crypto-focused investment funds, sued Grayscale in January for posting misleading marketing statements to gain market share.

“Grayscale has made materially false and misleading statements in its advertising and promotion … that making its Bitcoin asset management services access to a Bitcoin ETF was a foregone conclusion, knowing that access was never likely to occur,” the complaint said. filed in Connecticut Superior Court, claims.

It is clear that these financial and competitive difficulties at parent company DCG are not lost on GBTC investors contributing to the giant discount.

Let’s examine the last point of the Osprey complaint, as it is a major factor in GBTC trading below fair value.

GBTC is not an Exchange Traded Fund (ETF). It also has actual Bitcoins. There are Bitcoin-focused ETFs, such as the ProShares Bitcoin Strategy Fund, but all invest in Bitcoin futures, not Bitcoin itself. Futures are regulated by the Commodities and Futures Trading Commission (CFTC) in the USA.

Grayscale (and many other asset managers) have been trying to convert their GBTC fund into an ETF for years, without success. The US Securities and Exchange Commission (SEC) has rejected every single application so far. The SEC claims that, unlike futures, spot Bitcoin is unregulated and the market is ripe with manipulation and potential fraud.

For grays, the best way to eliminate this huge discount is to convert to an ETF. And it sued the SEC to force its hand, with oral arguments set to begin in Washington, DC, in early March. If successful, it could be a path to unlocking the estimated $7 billion.

Meanwhile, institutional and activist investors are hovering in shades of gray.

A group of investors, called RedeemGBTC, wants the fund manager to reduce the 2 percent management fee, which is calculated on the underlying Bitcoin holdings, not the discounted share price, which inflates the fees Grayscale earns.

Hedge fund Fir Tree filed a lawsuit against Grayscale in December, alleging mismanagement and serious conflicts of interest. The Fund believes that Grayscale and DCG have very little incentive to act in the best interests of investors because they earn lucrative fees that are not affected by the discount to fair value.

Will the $7 billion value ever be unlocked and returned to shareholders? Or will Grayscale be remembered as another high-profile failed crypto venture?

Views expressed in this article are the opinions of the author and do not necessarily reflect the views of the Epoch Times.