US court questions SEC’s rejection of Grayscale’s bitcoin fund proposal

By Hannah Lang

WASHINGTON (Reuters) – U.S. federal appellate court judges questioned on Tuesday whether the U.S. Securities and Exchange Commission (SEC) was correct to reject Grayscale Investment’s application for a spot bitcoin exchange-traded fund, since the agency had previously approved bitcoin futures products.

The SEC rejected Grayscale Investment LLC’s application to convert its flagship spot Grayscale Bitcoin Trust (GBTC) into an exchange-traded fund (ETF) last June, arguing the proposal did not meet anti-fraud and investor protection standards.

A panel of judges in the District of Columbia Court of Appeals in Washington pressed the SEC on Grayscale’s argument that, because the regulator previously approved certain surveillance agreements to prevent fraud in bitcoin futures-based ETFs, the same setup should also be satisfactory for Grayscale’s spot fund, since both spot and futures funds rely on bitcoin’s price.

Bitcoin futures ETFs track bitcoin futures contracts, or agreements to purchase or sell bitcoin at a certain price on a specified date. A spot bitcoin ETF would track bitcoin’s underlying market price. Proponents say a spot bitcoin ETF would give investors exposure to bitcoin without directly buying it.

“It seems like it’s fine for an agency to say okay, we need some more information, but it seems there’s quite a bit of information here on how these markets work together, and the SEC has not offered any explanation… that the petitioners here are wrong,” said Judge Neomi Rao.

Grayscale’s lead counsel Donald Verrilli Jr., an Obama-era U.S. solicitor general, told the court that a spot bitcoin ETF would “better protect investors” because it would give them the benefit of oversight on the basis of the surveillance agreements set up with the Chicago Mercantile Exchange, where bitcoin futures trade.

Emily True Parise, senior litigation counsel for the SEC, argued the regulator lacks data to determine whether those surveillance agreements could also pick up potential fraud and manipulation in the spot markets.

“The evidence is just mixed at this point. It’s bi-directional sometimes,” she said, noting that bitcoin futures have only been trading since 2017.

The case comes as the crypto industry has increasingly been at odds with the SEC over the regulator’s crackdown on digital asset products, including those that offer investors returns on certain digital tokens.

The case’s outcome could either vindicate the SEC’s posture or pave the way for other companies to offer spot bitcoin exchange-traded funds (ETFs) if the judges rule in favor of Grayscale.

Other would-be issuers of spot bitcoin ETFs that the SEC rejected include FMR LLC’s Fidelity, SkyBridge Capital and Valkyrie Investments Inc.

Valkyrie’s chief investment officer, Steven McClurg, said in a statement that his company does not believe a spot bitcoin ETF will be approved within the next year. A Fidelity spokesperson said the company looks forward to constructive dialogue with the SEC. A representative for Skybridge declined to comment.

Grayscale’s chief executive officer, Michael Sonnenshein, has said he expects a final ruling in the case this fall, and that he anticipates the court will rule in Grayscale’s favor. He told Reuters in January that Grayscale would appeal the case if the court backed the SEC’s decision to reject its bitcoin ETF proposal.

Grayscale Bitcoin Trust, launched in 2013, has $14 billion in assets under management, according to Grayscale’s website. The GBTC discount to bitcoin is hovering around 45%, having come under pressure after crypto exchange FTX collapsed in November.

(Reporting by Hannah Lang in Washington; editing by Jonathan Oatis, Louise Heavens and Josie Kao)