Brian Armstrong, CEO of Coinbase Global Inc., speaks during the Messari Mainnet Summit in New York on Thursday, September. 21, 2023.
Michael Nagle | Bloomberg | Getty Images
Now that the SEC has approved the creation of Bitcoin Exchange Traded Funds, Coinbase the crypto market position is about to change dramatically.
In the coming weeks Coinbase will help dominate some of the biggest names in asset management including Black stone, Franklin Templeton and WisdomTree, into the digital asset ecosystem as their management partner of choice. This means that Coinbase will be the central point of asset storage and custody for these firms.
While escrow revenues represent a major growth opportunity for Coinbase in the near term, some industry analysts worry that the company’s core transaction business is at risk due to the myriad of ways investors will be able to access bitcoin. Instead of having to go to an asset exchange like Kraken, Binance or Coinbase, they will be able to invest in digital currency using the same mechanism they already use to buy stocks and bond ETFs.
In a Dec. 4 report, Bernstein analysts predicted that in less than five years, 10% of the global supply of the world’s largest cryptocurrency, or roughly $300 billion, will be managed by ETFs. The firm called it “the largest pipeline ever built between traditional financial markets and crypto financial markets.”
In 2023, Coinbase stock was one of the top performers in the tech industry, soaring nearly 400%. Much of that rally was tied to Bitcoin, which rose 150%. But part of the outperformance against bitcoin was due to excitement that the new ETFs would bring more interest to the crypto and benefit Coinbase.
“ETFs should expand the pie and bring new people and institutions into the crypto economy,” Coinbase COO Emilie Choi said on the company’s latest earnings call in November. “They should add credibility to the market and we should see increased market liquidity and stability as we have seen in other asset classes such as gold.”
Since June 15, the day BlackRock — with its $9 trillion in assets under management — filed for a so-called spot bitcoin ETF and named Coinbase its crypto-custodian, the stock has risen from around $54 to more than $170 at the close . year.
JPMorgan analysts wrote in a November report that Coinbase will be a key beneficiary of the coming ETF boom, given the immediate increase in custody fees from asset managers.
“We estimate that returns from bitcoin custody and tracking will more than offset the decline in bitcoin trading volume as assets migrate to ETFs,” the analysts said.
As 2023 begins, some of the momentum on Wall Street has faded, with stocks down 14% since the calendar turned. According to Mizuho analysts, more pain could be coming.
“With the hype surrounding Bitcoin ETFs likely to peak in the coming weeks, COIN bulls may experience a rude awakening when they realize how minimal the impact on earnings is,” Mizuho wrote in a Jan. 4 note.
Analysts at Mizuho have the equivalent of a sell rating on the stock and were bearish during last year’s rally, ending 2023 with a price target of $54, by far the lowest among analysts tracked by FactSet.
Nearly half of Coinbase’s revenue comes from the fees it charges for transactions, meaning the company needs people to continue using the exchange to buy and trade bitcoins and other digital currencies.
In the third quarter of 2023, total transaction revenues accounted for 46% of net revenues. However, Coinbase is diversifying into new businesses. In 2022, transactions accounted for nearly 75% of revenue.
More than one-quarter of Coinbase’s revenue in the third quarter came from interest income on the exchange’s stablecoin reserves, including Circle’s USDC coins pegged to the US dollar. Stablecoin revenue has more than doubled over the previous year mainly due to rising interest rates.
“A few years ago, our business at Coinbase was 95% trading fees, and by the time it went public, we had made a big effort to start diversifying our revenue,” CEO Brian Armstrong he told CNBC in a recent interview. “What’s great is that we now have multiple streams of income — some of them grow in a high interest rate environment, some of them grow in a low interest rate environment.”
Still, transaction fees remain a key source of the exchange’s revenue. And unlike a trading platform Robin Hoodwhich allows investment in a wide range of asset types, Coinbase does not allow ETF trading.
“Spot bitcoin ETFs appear poised to take volume away from crypto exchanges,” said Bryan Armour, director of passive strategies research for North America at Morningstar.
JPMorgan expects new account growth to slow as “newbie crypto investors get their initial exposure and possibly their final exposure through ETFs rather than Coinbase,” adding that many of these new traders will never move beyond bitcoin, “so they’ll never need Coinbase’s services . .”
Mizuho sees custodial fee income as relatively modest given how far investors have pushed the stock up. The firm predicts that the ETF’s approval could generate as little as $25 million to $30 million in annual custody fees and an additional $200 million to $210 million in new revenue “if incremental bitcoin inflows generate additional instant trading opportunities.”
With a collective gain of up to $240 million in additional annual revenue, “this represents only a mid-to-high single-digit percentage increase from the current 2024 consensus,” Mizuho analysts wrote. They said they “do not believe that the stock’s nearly 400% surge in anticipation of ETF approval justifies our reasonable estimate of the ETF’s true contribution to returns.”
A Coinbase spokesperson told CNBC in an emailed statement that in addition to custodial fees, the company will make money by providing services such as agency trading, matching and settlement, and financing to ETF issuers.
“The platform believes that spot ETFs will be a positive catalyst for the entire crypto space, adding credibility, increasing liquidity and bringing new participants and institutions into the crypto economy,” the spokesperson said, echoing previous comments from Coinbase executives.
Competition could also create price pressure.
ARK, Invesco, Fidelity, WisdomTree and Valkyrie offer trades that include trading without fees for a period of time. Others choose discounted fees.
Coinbase’s transaction fee varies, maxing out at 0.6% for transactions up to $10,000. In the company’s most recent quarterly earnings call, Choi said Coinbase has no plans to lower transaction fees to be more competitive with other platforms where ETFs trade at significantly lower prices.
Transaction fees on Coinbase also differ between the Pro platform and the retail app, where fees are higher. For retail transactions up to $1,000, the fee ranges from 1.5% to 3%.
However, JPMorgan analysts said that greater efficiency and transparency in equity markets, along with lower execution costs, could drive more cryptocurrency trading into ETFs over time, which could ultimately “push Coinbase to lower commissions and tighten trading spreads, thereby has reversed the multiple quarters of growth we’ve seen in Coinbase’s retail capture.”
Still, Coinbase has its believers among crypto enthusiasts like Nic Carter, a partner at Castle Island Ventures.
“They are the essential infrastructure in terms of custody, trading and oversight for most ETF designs,” Carter said. “While it might affect their fees on the margin, I think there are still winners here.”
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