Potential Ways Forward for Grayscale Bitcoin Trust

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An interesting saga is unfolding for Digital Currency Group and its Grayscale Bitcoin Trust with accusations of fraud coming from Gemini’s co-founder.

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Although it seems like an eternity, only two months have passed since Genesis announced its need for a billion dollar cash injection following the FTX and Alameda fallout. As the weeks passed without resolution, the details of the story became more public, piling up the fraud allegations against Digital Currency Group (DCG) that were announced by Gemini co-founder and chairman Cameron Winklevoss. Gemini is still trying to recover $900 million in assets from Genesis that were used to generate yield for their Earn clients.

Unresolved and only getting worse, the DCG and Genesis issues weigh heavily on the bitcoin market, as there are many necessary answers and various possible outcomes that have yet to come to fruition.

The bigger question is what will happen to the Grayscale Bitcoin Trust (GBTC) and how these issues will potentially impact the price of bitcoin. GBTC has been many’s preferred vehicle for gaining regulated exposure to bitcoin and it has also been fertile ground for speculative arbitrage strategies throughout previous swings from a premium to a discount to net worth inventory (NAV). An approved Bitcoin spot ETF in the US would likely have solved these issues, but that was still a long way off.

It’s easiest to start with GBTC shares on DCG’s balance sheet, which are estimated at around 9.67% of total supply. In the event that DCG needs to raise funds or head down the road to Chapter 11 bankruptcy, selling those shares is potentially an option. Selling in an already illiquid market puts further pressure on the historically low GBTC discount. DCG holds approximately 67 million shares in a market that trades less than 4 million shares per day. However, a more important factor is that, by law, DCG cannot sell more than 1% of outstanding shares each quarter. It would take them about 2.5 years of constant selling to sell their entire stake.

Another path, most likely, is for the GBTC, along with other grayscale trusts, to end up in the hands of a new sponsor and manager. Valkyrie once offered to do just that:

Giving investors the option to redeem shares at net asset value through a Regulation M filing request (although it is unclear whether a Regulation M request would be approved by the SEC). Reduced fees from 200 basis points to 75. Try to offer investors cash and spot bitcoin refunds.

The option for a new manager gives investors the ability to exit investments at NAV.

The GBTC product is still a cash cow for Grayscale and DCG, reaping a 2% management fee in perpetuity. Across all major trust products, Grayscale is raising more than $300 million this year on management fees alone. Rather than liquidating the entire trust in a worst-case scenario, many buyers will be willing to take over the management of the vehicle without a US spot bitcoin ETF being available in the market.

However, liquidation is not a non-zero possibility. In the event of insolvency or grayscale bankruptcy, voluntary liquidation could be pursued unless 50% of the shares vote to transfer to a new sponsor. There is an upside to DCG liquidating the trust as there is money to be made from closing their shares at net asset value, but this likely translates into selling bitcoins on the open market. No one wants to see 632,000 bitcoins, or about 3.3% of the current supply, become selling pressure in the market. In the unlikely scenario where the full liquidation of the trust is undertaken with USD cash returned to shareholders, one would assume that much of the sale would be absorbed by OTC deals with interested investors. At this stage, it is purely hypothetical.

New information is being revealed that has the potential to change the superstructure when it comes to the dynamic between Grayscale and shareholders of Grayscale products. We will continue to write about developments in the weeks to come.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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