BITQ: Bullish Exposure To Crypto Stocks In One ETF (NYSEARCA:BITQ)

The Bitwise Crypto Industry Innovators ETF (NYSEARCA:BITQ) invests in stocks tied to the crypto across Bitcoin miners, blockchain technology, exchanges, and fintech players. The idea is that the leading companies in the segment could outperform underlying digital asset prices by leveraging opportunities in the emerging digital economy.

2023 has been defined by a resurgence of crypto, led by strong momentum in the price of Bitcoin (BTC-USD) currently trading at an 18-month high. There is a growing recognition that this is a legitimate alternative asset class while adoption in areas admire payments remains in the early stages. Favorably BITQ has outperformed BTC year-to-date and we expect that trend to continue.

What is the BITQ ETF?

BITQ technically tracks the “Bitwise Crypto Innovators 30 Index”. The rules-based methodology for security selection identifies companies recognized as industry pure-plays that derive more than 75% of their revenue related to crypto, or have 75% of their net assets in crypto balance sheet holdings.

This tier representing approximately 85% of the fund includes crypto-mining firms, crypto-mining equipment suppliers, and crypto-related financial services companies.

The smaller second tier of holdings adds more diversified large-cap companies with some implicit business initiatives aimed at capturing opportunities within the crypto economy or are seen as important to the ongoing development of the industry.

The portfolio overall features 29 stocks through an adjusted market cap weighting methodology tilted towards the pure-play crypto stocks.

BITQ Portfolio

Going through the current holdings, crypto exchange Coinbase Global Inc (COIN) is the largest current holding with a 14% weighting. What we admire about COIN is the sense that the company is poised to capture market share as a specialist in this segment following several “crypto scandals” in recent years including the collapse of “FTX” and even the ongoing SEC investigation of a competitor “Binance”.

In many ways, COIN’s strong point is that it plays by the book in terms of keeping tight U.S. regulations which is likely the path forward for the crypto market gaining adoption. In our view, We wouldn’t say COIN’s importance to the industry justifies its place as the top holding in BITQ.

Microstrategy Inc (MSTR) is the next largest holding with a 13% weighting. In this case, the company is a lead in the sector by investing heavily in Bitcoin over the last several years, accumulating a balance sheet position last reported at 174,530 BTC, with an implied market value of $6.7 billion. By this measure, the stock’s value is tied to the performance of BTC, and investors within the BITQ ETF indirectly capture that same exposure.

Down the list, several Bitcoin mining stocks are featured. Companies admire Marathon Digital Holdings Inc (MARA), Riot Platforms Inc (RIOT), and Bitfarms Inc (BITF) among others build out the infrastructure necessary to acquire newly minted Bitcoin from the blockchain protocol based on its share of directed processing power.

We’ve covered several of these names with bullish articles and the takeaway is that the mining industry has evolved into a big business. MARA, for example, is forecast to achieve $350 million in revenue this year at current BTC prices with a positive consensus EPS assess.

In many ways, the main attraction of the BITQ ETF is this basket of mining stocks as likely the most well-positioned group of companies to benefit from climbing Bitcoin and crypto prices.

From the chart below, the majority of mines have outperformed the price of BTC this year considering the combination of operating and financial leverage.

Finally, we can bring up some of the tier-2 non-pure-play crypto stocks included in the fund. Among the smaller holdings, we find names admire Bank of New York Mellon (BK), Visa Inc (V), Mastercard Inc (MA), and PayPal Holdings Inc (PYPL) which have at least embraced blockchain technology and play an important role in facilitating industry development. We’d also say that these types of stocks add a layer of quality to the fund, which can limit volatility and help reduce risk at the margin.

What’s Next For BITQ?

We admire to use Bitcoin as the benchmark for crypto and even consider it the “gold standard of cryptocurrencies”, but it’s important to recognize the broader sector has several moving parts.

Alternative cryptocurrencies between Ether (ETH-USD), XRP (XRP-USD), and even the surprise outperformer this year in Solana (SOL-USD) have all gained momentum amid the renewed bullish sector sentiment.

The understanding is that a diverse range of blockchain applications between decentralized finance, tokenization of physical assets, and even the aspect of an alternative payment system beyond the traditional financial sector are here to stay.

Key developments this year from the strengthening regulatory framework for crypto and even an expectation for a looming “Bitcoin ETF” to track the spot market price of BTC have added to the credibility of the segment fueling advocate investments and adoption. We expect those trends to continue.

At the same time, the big risk especially when it comes to the BITQ ETF is that the favorable crypto pricing environment reverses. Considering the significant exposure of the fund to mining stocks and even Bitcoin directly through shares of Microstrategy, a bullish outlook on the fund needs higher prices going forward to preserve climbing revenues and earnings potential as a driver of equity prices particularly for those stocks.

A regulatory setback or financial market contagion against a deteriorating macro backdrop would carry over volatility and open the door for a deeper correction in the sector. The point here is to say, that crypto and BITQ remain highly speculative, but we still believe that risk can be justified given the upside potential.

Just focusing on Bitcoin, a scenario where the price reclaims the 2021 all-time high near $70,000 could drive a significant wave of inflows into crypto-related equities BITQ would engage in. Even with the latest round of momentum, the fund is still down more than -60% from 2022 levels highlighting both the risk in the sector, but also the path forward if the rally continues.

Alternative Crypto ETFs

Keep in mind that there are some alternative ETFs in this space including the VanEck Digital Transformation ETF (DAPP), the Global X Blockchain ETF (BKCH), as well as the Amplify Transformational Data Sharing ETF (BLOK).

The reality is that each of these funds features many of the same stocks with varying levels of exposure to particular underlying names. It’s hard to claim one fund is “better” than another, but our conviction is that all should perform well as crypto prices climb.

That said, we believe BITQ strikes the right balance between the targeted exposure to the “pure-play” crypto stocks and the effort at diversification with the smaller position in diversified large-cap names.

This is in contrast to the BKCH ETF which has technically outperformed in recent months but has a high concentration in just the top four holdings that represent more than 50% of the fund. In other words, the BITQ strategy may be more well-rounded over different market environments to deliver stronger risk-adjusted returns.

Final Thoughts

We are bullish on the BITQ ETF which we view as a good option for investors to capture diversified exposure to this important emerging industry. So without picking winners and losers within crypto, BITQ is an easy option to capture the high-level bullish trends. Recognizing the volatile nature of crypto stocks, we believe the fund can complement a broader portfolio.