Hong Kong Crypto Assets Spot ETF Launch: The Paradox of Scale and Volume

Recently, the Hong Kong Securities and Futures Commission officially announced the approved list of virtual asset Spot ETFs, which includes Bitcoin and Ethereum Spot ETF products under Huaxia (Hong Kong), Harvest International, and Bosera International. These 6 ETF products were officially listed for trading on the Hong Kong Stock Exchange at the end of April.

In the initial subscription phase, these Hong Kong Spot ETFs achieved a considerable scale. Data shows that the total net value of the 3 Bitcoin ETFs reached $248 million, while the total net value of the 3 Ethereum ETFs was $45 million, totaling nearly $300 million. In contrast, the total net value of US Bitcoin Spot ETF products (excluding the grayscale GBTC converted from trust to ETF) was only $130 million on the first day.

However, in terms of first-day trading volume, the performance of Hong Kong's crypto ETFs is far behind similar products in the United States. Data shows that the six Hong Kong crypto ETFs had a trading volume of only $12.7 million on their first day, in stark contrast to the $4.66 billion trading volume of U.S. ETFs on their debut.

The huge difference between the initial scale and the first day's trading volume has attracted the market's attention. To understand the potential scale of Hong Kong's Crypto Assets Spot ETF and its impact on the crypto market, we need to analyze it from the perspective of supply and demand.

In terms of demand: Funding sources are constrained, and the trading volume is relatively low.

Hong Kong's Crypto Assets ETF still has strict restrictions on investor qualifications, prohibiting investors from mainland China from participating in trading. Taking a certain brokerage as an example, it requires that account holders must be non-mainland and non-U.S. residents. The market's expectation for mainland funds to participate in trading through the southbound Hong Kong stock connect is unlikely to be realized in the short term.

In terms of fees, Hong Kong's encryption ETFs do not have an advantage compared to US ETFs, making them less attractive to institutional investors with a long-term holding strategy. Data shows that the management fee rate of major Bitcoin Spot ETFs in the US is around 0.25%, while the combined rate of three Bitcoin ETFs in Hong Kong is higher, with the lowest reaching 0.85%. Even with short-term management fee reductions, they still lack fee rate advantages.

In the future, the demand for Hong Kong Crypto Assets ETF may mainly come from two aspects:

1. Retail investors in Hong Kong. For retail investors with a Hong Kong identity card, the threshold for purchasing Hong Kong crypto ETFs is lower, and there is no need to meet the qualifications of professional investors.

2. Traditional investors interested in Ethereum. The Hong Kong Ethereum Spot ETF is the world's first, which may attract those who wish to invest in Ethereum but find it difficult to hold coins directly.

Supply Aspect: The Physical Redemption Mechanism Enhances Initial Scale

An important difference between the Hong Kong Crypto Assets Spot ETF and the US Bitcoin Spot ETF is that, in addition to cash creation and redemption, there is also a physical creation and redemption method. This means that investors can directly use Crypto Assets (Bitcoin or Ethereum) to subscribe for or redeem ETF shares.

The physical redemption mechanism brings two main impacts:

1. Coin holders can directly subscribe to ETF shares using their coins, providing a flexible asset management method for large coin holders.

2. For the encryption market, physical purchases will not bring incremental capital inflows, but merely represent the transfer of crypto assets between different accounts.

According to public communication from a certain institution, the first batch of physical subscription ETF shares may exceed 50%. This explains why the initial fundraising scale of the Hong Kong Crypto Assets ETF reached nearly 300 million USD, but it also means that these shares may convert into sell orders in subsequent secondary market transactions.

Pay attention to the premium and discount rate to seize investment opportunities

Given the complex supply and demand situation of Hong Kong's crypto spot ETF, the premium and discount rate in the public market may be a better observation indicator. The premium and discount reflect the balance of power between supply and demand in on-site trading.

If the ETF appears at a discount, it indicates stronger selling intent, which may lead to capital outflows and have a negative impact on the Crypto Assets market. Conversely, if a premium occurs, it indicates stronger buying interest, which may bring in subscription demand and have a positive impact on the Crypto Assets market.

The trading data from the first day shows that, except for a few products, most Hong Kong crypto ETFs are in a positive premium state, reaching a maximum of 0.33%. This indicates that the selling pressure on the first day was relatively restrained, while buying pressure was relatively strong. If the positive premium can be maintained, it may attract more investors to subscribe, especially those who hold coins, potentially pushing the scale of Hong Kong crypto spot ETFs to exceed 500 million USD. Conversely, if it turns into a negative premium, caution should be exercised regarding ETF share redemptions and cryptocurrency sell-offs caused by arbitrage trading.

Long-term Value of Hong Kong Crypto ETF

In the medium to long term, the physical creation and redemption mechanism of Hong Kong's crypto ETFs provides a new channel for the conversion of Crypto Assets and traditional financial assets. By converting Crypto Assets into ETF shares through physical subscriptions, investors can obtain assets that have pricing and liquidity from traditional financial markets. This allows Crypto Assets to serve as proof of assets in traditional financial markets, enabling various leveraged operations such as collateralized lending and the creation of structured products, further bridging the gap between Crypto Assets and traditional finance.

From a more macro and long-term perspective, Hong Kong's approval of Bitcoin and Ethereum Spot ETFs is an important milestone in the development of the global Crypto Assets market. This policy will have a long-term impact on the financial landscape of the Chinese community and is an important step in the further legalization of encryption in the global financial system.