The crypto industry is closer to another landmark after the U.S. Securities and Exchange Commission paved the way for the eventual launch of the first U.S. exchange-traded funds investing directly in the Ether token.

In a step deemed unlikely as recently as last week, the SEC signed off Thursday on a proposal by venues run by Cboe Global Markets Inc., Nasdaq and the New York Stock Exchange to list products tied to the second-biggest digital asset.

Fund managers still need a separate approval from the agency before they can launch products, for which the timeline is unclear. Assuming they get a green light, one key question is whether the Ether portfolios will generate anything like the demand stirred by the historic January debut of U.S. spot-Bitcoin ETFs.

The latter have amassed US$57 billion in assets, spurring issuers such as VanEck, ARK Investment Management, BlackRock Inc. and Fidelity Investments to jockey for first-mover advantage in the race to launch Ether vehicles.

In a note of caution, Lara Crigger of data provider VettaFi said she doubts Ether ETFs can attract the same scale of inflow as Bitcoin products. “Although Ether has more use cases, it’s a much smaller market than Bitcoin, with lower awareness and name recognition among the general investing public,” she said.

Ether retreat

Ether slid about three per cent to $3,640 as of 9:30 a.m. Friday in London, paring its advance this week on ETF fanfare to 18 per cent — still the digital coin’s best weekly performance since the start of 2023, according to data compiled by Bloomberg. Wider crypto markets, including market-leader Bitcoin, retreated too.

The Ether selloff in the past few hours is a typical buy-the-rumor, sell-the-fact reaction from speculators, said Alex Kuptsikevich, FxPro senior market analyst. Bitcoin also swooned after the U.S. ETFs for the token went live, a slide that proved temporary.

Last week, companies expected the SEC to reject the Cboe plan — and potentially others — by Thursday’s deadline. Additional SEC approval is still needed for the issuers. Backers hope eventual listings will woo money from retail and institutional investors who are reassured by the ETF wrapper.

The latest developments are a major milestone for crypto, said Rich Rosenblum, president of liquidity provider GSR Markets Ltd. Referring to the abrupt pivot toward approval, Rosenblum said “in the 12 years I’ve been trading this space, this is the most incredible thematic whipsaw I can remember.”

The SEC’s order echoed the one it issued in January clearing exchanges to list Bitcoin ETFs, including a lengthy discussion of correlations between the Ether spot market and futures tracking it that are hosted by CME Group Inc. in Chicago. How closely the two markets move is a crucial point for regulators who want CME surveillance systems to spot trading anomalies before they spiral.

Correlation study

Coinbase Global Inc. proffered a study showing correlations among spot and futures markets for Ether were about 85 per cent over one-minute intervals between March 2021 and January 2024, which it said was higher than the one cited in the Bitcoin review. The SEC said it replicated that and other studies and found they “provide empirical evidence that prices generally move in close (although not perfect) alignment” between the spot and CME Ether futures markets.

Beyond ETFs, the latest developments may have wider policy implications. SEC Chair Gary Gensler has been ambiguous on whether Ether is a security, and crypto enthusiasts are worried about the token — and potentially projects based on the Ethereum blockchain — falling under the agency’s tough and costly rules.

The Commodity Futures Trading Commission, the U.S. regulator with jurisdiction over derivatives, has signaled that it doesn’t view Ether as a security. The CFTC has for years allowed trading in CME Ether futures.

Lee Reiners, policy director of the Duke Financial Economics Center at Duke University, said that exchange bids to list the products were based on Ether being a commodity and not a security. An SEC decision to green light the plan bolsters the view that the SEC still considers Ether not to be a security, he said.

Chequered history

The digital-asset industry has been recovering over the past year or so from a 2022 market rout and a spate of scandals, such as the huge fraud at Sam Bankman-Fried’s collapsed FTX exchange and his subsequent jailing. Demand for U.S. Bitcoin ETFs helped drive the cryptocurrency to a record high in March.

Some of that rally is due to optimism that a U.S. crackdown may be waning. The Republican-led U.S. House this week advanced sweeping crypto legislation despite opposition from the White House and Gensler. The U.S. Senate isn’t expected to approve the measure but it garnered some Democratic support in the House. 

Asset managers have been making concessions to win SEC approval, notably on so-called staking — the process of earning rewards for blockchain maintenance. Fidelity said it will keep the Ether it buys as part of the ETF out of staking.

Staking is a key issue for Ether because it raises questions about whether the token should be treated as a security. Last year, the SEC in a lawsuit accused Coinbase of breaking its rules by offering staking services.

The agency under Gensler is skeptical of the crypto industry and reluctantly acquiesced to spot-Bitcoin ETFs in the wake of a court reversal in 2023.