Leveraged Bitcoin ETFs: Risky Bets or High Rewards?

Investors are pouring hundreds of millions of dollars into exchange-traded funds (ETFs) that offer double-leveraged exposure to Bitcoin’s price volatility. They are setting themselves up for a letdown. If you’re seeking a more risk-on BTC bet, avoiding these funds and considering exploring crypto futures exchanges instead is advisable.

Over $100 million poured into leveraged BTC ETFs in the past week following a significant BTC selloff, fueling optimism for a potential substantial price recovery. The funds now have over $1.4 billion in total assets, and more are joining the mix. Rex Shares recently introduced two new ETFs that aim to provide investors with double the exposure to Bitcoin’s price volatility.

Investors who are looking to maximize their gains from BTC’s volatility while keeping their initial investment low are attracted to leveraged BTC ETFs. These funds do not hold BTC. Instead, they utilize derivatives to amplify their exposure to BTC price movements. According to calculations, a 2x leveraged BTC position is expected to yield a $2 return for every $1 increase in BTC’s spot price.

It can be quite complex in practice. Like a quantitative analyst, leveraged ETFs often fail to deliver maximum returns due to a combination of high management fees and an inefficient investment strategy. Similarly, closely related inverse ETFs, like ProShares Short Bitcoin Strategy ETF (BITI), can take bearish short positions on BTC.

Keeping a 2x leverage target consistently requires leveraged ETFs to frequently adjust their holdings. The outcome is essentially a trading strategy of buying high and selling low, which can severely hinder performance. In volatile market conditions, leveraged ETFs underperform comparable strategies by over 20%, according to a study conducted by GSR Markets.

In some extreme situations, leveraged ETFs in highly volatile markets have plummeted close to zero. During the period from 2015 to 2023, the 3x Leveraged Biotech ETF (LABU) experienced a significant decline of approximately 96%. Interestingly, this decline occurred despite the underlying S&P Biotech index recording a modest gain of around 9.5% over the same time frame.

Advertisement Banner

Adding to the frustration, investors frequently incur significant costs for this privilege. The widely used leveraged BTC ETF, Volatility Shares’ 2x Bitcoin Strategy ETF (BITX), has management fees of 1.85%. Spot BTC ETFs, in contrast, typically have a fee of around 0.2%.

Leveraged Bitcoin ETFs: Nano Contracts

For the majority of investors, spot BTC ETFs like Franklin Templeton Digital Holdings Trust (EZBC), VanEck Bitcoin Trust (HODL), and iShares Bitcoin Trust (IBIT) provide ample BTC exposure. For traders looking to maximize potential gains, crypto futures exchanges are the ideal choice.

Trading crypto futures has become incredibly convenient. In 2022, the Coinbase Derivatives Exchange was introduced in the United States, offering crypto futures contracts to Coinbase’s large user base in America. These contracts include the retail-friendly nano Bitcoin and nano Ether options.

In 2021, the Chicago Mercantile Exchange (CME) introduced Micro Bitcoin Futures, a product that closely resembles the one you mentioned. Additional choices are increasing on smaller exchanges. (It is important to conduct thorough research before choosing an exchange to avoid financial losses. 

Standardized futures contracts acquire or sell an asset at a later date. Public exchange-traded ETFs are more flexible and cost-effective than leveraged ones. Coinbase traders may take micro Bitcoin bets with up to 4x leverage, making $4 for every $1 spot price gain, in increments of 1/100th of a Bitcoin with as little as $130 in initial money. Unlike leveraged BTC ETFs, traders may not need to rebalance. Thus, keeping a 2x leveraged nano Bitcoin contract until expiration may equal 2x BTC price exposure. Not so with leveraged ETFs.

Futures trading is complicated and risky. First, futures are not “set and forget.” Most contracts expire monthly, therefore rollovers are necessary. They’re also futures, so they represent market expectations of BTC’s spot price by the end of the month. However, futures are one of the only regulated products available to individual investors with a thrilling return profile that attracted many to crypto. If crypto spot market volatility isn’t enough, futures may be preferable.