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Dec 12, 2017

S3 Analytics: Do BitCoins Smell Like Tulips to You?

If all the talk of Bitcoins makes you think of a beautiful field of Dutch tulips swaying in the wind then you might be looking for alternative ways to gain exposure to the asset without buying or selling the actual coin or trading futures contracts. There are stocks that will give investors exposure to either Bitcoin directly or the blockchain in general. Short sellers have begun to use these stocks as a Bitcoin short proxy instead of outright or futures Bitcoin trading.

Bitcoin futures trading did not start out with the big bang that was initially expected with just over $75 million of futures contracts trading hands. Long sellers dipped their toes into the water while short sellers primarily looked at the trading activity from the comfort of their cabanas. The several reasons that shorts shied away from trading: thin trading volumes would hinder short exit strategies; short sellers rarely “fight the tape” and prefer not to try and accumulate short exposure in rallies; several brokers were only facilitating long futures buying and not short futures selling; some brokers are waiting several trading days before transacting and settling any Bitcoin futures trades; and the cash settlement of the contract hindered arbitrage trading.

While there are many small and micro-cap stocks that fall into the Bitcoin and blockchain category, most of them have relatively small trading volumes and negligible stock borrow availability which precludes short sellers from adding them to their portfolios. These names excluded them from my analysis. 
• NVDA: High performance processors used to mine Bitcoin
• IBM: Enterprise blockchain systems
• AMD: High performance processors used to mine Bitcoin
• GS: Will clear Bitcoin futures for its clients
• SQ: Retail and e-commerce Bitcoin payment transactions and Bitcoin purchasing/selling capabilities
• CME: Launching Bitcoin Futures
• MS: Morgan Stanley just bought an 11.4% stake in Overstock.com to gain Bitcoin exposure.
• SHOP: Cloud based e-commerce Bitcoin payment processing
• CBOE: Launching Bitcoin Futures
• OSTK: Recent ICO for its subsidiary TZERO, a blockchain Bitcoin based general ledger system for capital markets transactions.
• BR: Blockchain technology for financial applications
• GBTC: Bitcoin based investment trust
• PRELF/HIVE CN: Crypto-currency mining firm
• RIOT: Crypto-currency and blockchain businesses and technology
• MGTI: Cyber security technology and Bitcoin miner
• MARA: IP licensing company that acquired bit-miner Global Bit Ventures, very active trading volumes

Short sellers, in an effort to diversify their short Bitcoin exposure, have used these stocks to gain trading liquidity and to fold alpha and beta bets into their Bitcoin bets. They can get outright short Bitcoin exposure by shorting GBTC, PRELF, MGTI and MARA; short both the financial sector and Bitcoin by shorting GS and MS; short the chip sector and Bitcoin by shorting NVDA and AMD; short e-commerce and IT services by shorting IBM, RIOT, OSTK, SQ and SHOP; and finally short financial infrastructure and Bitcoin by shorting CME and CBOE.

One interesting short target in my list is internet retailer OSTK which has created a completely unrelated business line compared when to its primary business model. OSTK’s foray into the cryptocurrency and blockchain sector through its subsidy, Medici Ventures, has created a blockchain-based capital markets exchange tZERO. tZERO will offer “cryptographically secure distributed ledgers” which will service capital markets transactions. Patrick Byrne, the CEO of Overstock.com and tZERO, has long had an adversarial relationship with short sellers, including a law suit that accused several prime brokers of “a massive, illegal stock market manipulation scheme”. The creation of tZERO may be a way for Byrne to move the listing of OSTK to his own exchange from the Nasdaq and ensure there are no more “shenanigans” involved in shorting his stock.

The SEC has received several applications for new Bitcoin based ETFs in the past week to join the existing GBTC trust. Both VanEck and REX will be creating long Bitcoin ETFs and REX will also be creating a short Bitcoin ETF.  Short sellers will now have several avenues to accumulate short Bitcoin exposure, what was once a one-way market has turned into a multi-lane expressway going both north and south.

Want deeper insight into the above analysis? Contact: 
Ihor Dusaniwsky
Managing Director Predictive Analytics, S3 Partners, LLC
The information herein (some of which has been obtained from third party sources without verification) is believed by S3 Partners, LLC ('S3 Partners') to be reliable and accurate. Neither S3 Partners nor any of its affiliates makes any representation as to the accuracy or completeness of the information herein or accepts liability arising from its use. Prior to making any decisions based on the information herein, you should determine, without reliance upon S3 Partners, the economic risks and merits, as well as the legal, tax, accounting and investment consequences, of such decision.

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