Investment Thesis

BlackRock, Inc. (NYSE:BLK) offers a potentially asymmetric opportunity as its proposed Bitcoin ETF promises to open up the world of cryptocurrency to more mainstream investors. With the firm being one of the world’s largest asset managers, I believe they are positioned well to capitalize on this change in markets (particularly from the SEC). This could potentially bring trillions in investment dollars for the Bitcoin ETF and any potential follow-on crypto funds.

While BlackRock stock has trailed the market this year, BlackRock has demonstrated resilience and adaptability. Its diverse product offerings and historical prowess in creating low-cost, innovative ETFs position it well to pioneer a successful Bitcoin ETF. This move could not only augment its revenue stream significantly, owing to the management fees from a large-scale Bitcoin ETF but also solidify its role as a trailblazer in financial innovation.

The recent settlement between Binance and U.S. authorities, easing regulatory concerns around market manipulation in the crypto space, further sets the stage for BlackRock’s ETF approval. While regulatory hurdles remain a primary concern, BlackRock’s industry clout, compliance track record, and strategic partnerships in the cryptocurrency realm, like its collaboration with Coinbase Custody Trust Company, enhance its prospects for SEC approval. I think the stock is a buy.

Background

Despite the rest of the stock market nearing all-time highs with the S&P 500 up almost 20% year to date, BlackRock’s shares have been underperforming, remaining down from their all-time high. BlackRock’s recent earnings have been somewhat disappointing, with significant share price underperformance compared to the broader market.

I believe part of this can be attributed to the company’s largest ESG fund, the iShares ESG Aware MSCI USA ETF, which has experienced substantial asset outflows due to its underperformance compared to benchmarks like the S&P 500.

Market volatility and interest rate hikes have also affected BlackRock. While the company’s Q3 2023 results showed a beat on EPS and revenue, asset inflows are slowing. Management knows they need to make changes.

With these challenges, BlackRock has shown resilience by adapting to changing market conditions, such as benefiting from high interest rates to create demand for bond-alike products. Its diverse product offerings and ability to attract various types of investors have helped mitigate some market downturn impacts​​. I still strongly believe the long-term potential of the company remains strong, despite short-term uncertainties, thanks to its history of being a serial outperformer, largely due to its embrace of passive investments through low-cost ETFs​​​​​​.

Why the Recent Binance Settlement Opens the Door to a BlackRock Bitcoin ETF

The recent $4.3 billion settlement between Binance represents a significant turning point for the US cryptocurrency industry, potentially helping advance the approval of spot Bitcoin ETFs.

I believe this settlement has helped address the SEC’s concerns about market manipulation, which were a major hurdle in approving such ETFs. With this, the settlement with Binance (which has forced their founder to step down and hinder their ability to operate in the US) paves the way for the SEC to potentially approve BlackRock’s proposed spot Bitcoin ETF, a move that could mark a substantial step towards mainstream crypto adoption and benefit one of the world’s largest asset management firms​​​​​​​​​​.

In this process, representatives from BlackRock have had discussions with the SEC, presenting plans for either in-kind or in-cash redemption models for its iShares Bitcoin Trust. These models are crucial for the approval process, with in-kind redemptions offering tax efficiency by avoiding the need to sell securities, which could trigger capital gains taxes. Such a structure is viewed as the “cleanest” for issuers and investors. This engagement indicates that the SEC might be nearing a decision on BlackRock’s application, along with several other firms awaiting approval for their spot crypto ETFs​​​​​​.

Why a Bitcoin ETF is Such a Big Deal

The prospect of a Bitcoin ETF by BlackRock signifies a major shift in the investment landscape, akin to the advent of the first gold-backed ETFs. If BlackRock is able to gain entry into this space, I believe this will suggest a path toward mainstream cryptocurrency adoption, leveraging their substantial global influence in investment and advisory services (this will mean more Main Street retirement accounts could have Bitcoin in them). Their proposed Bitcoin ETF, aimed at directly tracking actual Bitcoin prices, presents a transparent and accessible investment avenue for both retail and institutional investors​​.

BlackRock’s extensive experience in developing innovative ETFs, including international and corporate bond ETFs, means they have the capability to successfully launch an innovative Bitcoin ETF. BlackRock is a household name in the asset management industry, so the potential benefits of such an ETF are considerable, including fostering institutional adoption, diversifying investment portfolios, and enhancing market stability and transparency.

Furthermore, this isn’t BlackRock’s first dive into the cryptocurrency space. BlackRock’s collaboration with Coinbase Custody Trust Company, which began in 2022, allows clients to buy cryptocurrency via the Aladdin platform and custody through the Coinbase Prime relationship. This partnership (in my opinion) will be seen as pivotal in ensuring market integrity and combating potential market manipulation​​ for an eventual Bitcoin ETF approval.

Long Run Revenue Potential from a BlackRock Bitcoin ETF

While the definite size of the ETF will be unknown for a while, there is large demand for an ETF to service Bitcoin in the asset management space. The global cryptocurrency market peaked at over $3 trillion in 2021. BlackRock currently sports 20% (in AUM) of the entire US stock market. Since BlackRock may become the first to launch a Bitcoin ETF if they were to launch (and scale) to a $1 trillion Bitcoin ETF (keep in mind again this is small compared to the overall stock market in the US which is $45 Trillion and we are assuming small overall portfolio allocations) the implications could be big. With a typical 0.30% management fee, the estimated annual revenue from this ETF would be approximately $3 billion. This significant potential revenue stream, of potentially $3 billion would be significant to the company given that total revenue for 2022 was $17.873 billion.

Why I Think They Can Get to $1 Trillion In AUM From A Bitcoin ETF

While $1 Trillion seems like a high estimate, I think we have to look at the presence and brand of BlackRock and how this affects retirement account asset allocations.

For reference, BlackRock is one of multiple asset managers in the US vying for the competitive space of managing stock & bond funds. If they get approved for a Bitcoin ETF, they would be the only firm involved.

Keep in mind that in a competitive market (US stock ETF asset management), the firm has about ~20% of the US stock market in its stock funds. So 20% in a competitive market makes it reasonable that they could reach 33% penetration in a market where they are one of the only SEC-approved Bitcoin ETFs.

While this 33% market share will not happen overnight, I think this could happen over the next two years.

Where the $1 Trillion will come from: Recent estimates show that there is over $36.7 Trillion in US retirement accounts as of November 2023. Most retirement accounts have no allocation to the cryptocurrency asset class as a whole due to the complications of buying crypto directly in an IRA or 401k (Fidelity goes in depth in this article). Current crypto ETFs use derivatives meaning the price action of the ETF may not mirror the underlying asset performance.

The proposed BlackRock ETF solves this by giving investors (and financial advisors) a vehicle that can be easily placed in a retirement account without any complications.

Already 90% of financial advisors receive inbound calls about cryptocurrency allocations into their clients’ retirement accounts. Once these financial advisors have an easy vehicle that can allocate to Crypto (starting with just the largest -Bitcoin) into a client’s retirement account, an allocation of just 2.73% of these retirement funds could generate $1 Trillion in capital for the Bitcoin ETF.

For reference, some historical measures have shown that a 2-10% portfolio allocation to Gold is optimal. Bitcoin (through an ETF) could have a lower-end allocation and hit the $1 Trillion mark while not appearing to be an overallocation in an investor’s account.

Keep in mind that this doesn’t include non-retirement account funds (normal brokerage account funds) or non-US funds that could use the BlackRock ETF as their way to invest from a global perspective.

Even with a $1 Trillion infusion, BlackRock adding any outside investment capital to the cryptocurrency market will likely cause a large upswing in prices. Bitcoin’s current market cap is around $853 billion. If Bitcoin hits the low-end optimal portfolio allocation levels that we’ve seen for Gold, the $1 Trillion infusion could have a strong upward pressure on prices given what the supply of Bitcoin is.

This is because the supply of Bitcoin is very inelastic (demand is positively elastic) due to the mechanics of the blockchain and the heavy presence of retail investors vs. institutional capital in the market right now. These investors have a lower propensity to sell (they believe Bitcoin could be worth multiples of what it is worth today). As such, when institutions like BlackRock add funds to the cryptocurrency market, this will likely create strong upside pressure resulting in overall market cap expansion.

Valuation

While the forward GAAP PE for BlackRock (20.93) is twice the industry average of 10.3, I think the company’s stock has more room to run.

BlackRock is unique in that they are a leader in the passive asset management industry. Their cash flows are more like a SaaS company than a typical financial institution. They have much lower credit/investment default risk than a traditional financial institution and their business model relies on making financial products that people want (centered around themes that are popular).

The potential Bitcoin ETF is another example of this. If global institutions were to allocate their crypto assets to one of the most trusted asset managers on the planet (BlackRock), we could see over $1 Trillion allocated to the ETF.

With a typical 0.3% management fee, this could unlock an incremental $3 billion in revenue for the asset manager. After applying the current forward price to sales multiple of 6.33, this would create an approx. $19 billion lift to their market cap. This implies about a 15% upside in market cap (and share price).

Keep in mind this bull case doesn’t factor in ETFs around other major cryptocurrencies, Ethereum (ETH) for example, or a recovery in the AUM of the fundamental business that BlackRock currently has. I think as equity prices remain higher we could see a strengthening of the underlying business (more on the ROA of this below), while an ETH ETF could be around the corner if they can earn the SEC’s trust.

What is BlackRock worth without the Bitcoin ETF?

Even without the Bitcoin ETF, BlackRock’s ROA (Return on Assets) for Total Assets stands at 4.54%, almost 4 times higher than the industry average. Since this business is about being an asset manager, its ability to operate with some of the industry’s lowest-fee products while having a much higher return on those assets it manages is powerful.

In my opinion, a company whose P/E ratio is twice the sector median but its ROA is almost 4 times the sector median is powerful. This tells me the stock still has room to run as passive ETF management trends continue to thrive and this robust business model continues to excel.

Risks

The biggest elephant in the room is the regulatory landscape. The U.S. Securities and Exchange Commission (SEC) has a history of cautiousness regarding cryptocurrency-related products. Despite BlackRock’s significant industry influence and expertise, the SEC’s approval of their Bitcoin ETF is not assured. There are some estimates that BlackRock will hear back in January.

Historically, the SEC has expressed concerns about market manipulation, fraud, and volatility in the cryptocurrency market. This is the core of the SEC’s reluctance to approve Bitcoin ETFs, which has shown in its rejection of similar proposals from other firms in the past. For instance, the SEC has previously rejected applications for Bitcoin ETFs from firms like Winklevoss Bitcoin Trust, citing concerns over fraud and manipulation in markets where the underlying asset is traded​​.

However, BlackRock is the world’s largest asset manager, with a well-established reputation and a history of compliance and innovation in financial products. Its reputation could very well be the thing that pushes it over the finish line in the approval process. The company’s extensive experience in developing and managing ETFs across various asset classes lends credibility and its partnership with Coinbase for asset custody shows they can handle a cryptocurrency-based ETF.

What If the ETF Does Not Get Approved?

While the ETF’s prospects look promising for BlackRock, it’s obviously not a guarantee. If the SEC decides to decline the approval of the ETF I still think BlackRock has upside. As I mentioned before, the firm has a ROA that is nearly 4 times higher than industry averages. I think this justifies the current EPS multiple.

Bottom Line

BlackRock’s potential entrance into the world of cryptocurrency with a Bitcoin ETF marks a turning point in blending traditional finance with cryptocurrency. Despite BlackRock facing market volatility and regulatory challenges, their solid market presence and ETF innovation expertise place it at the forefront of this emerging field and in potentially receiving SEC approval.

The launch of a BlackRock Bitcoin ETF could signal a major shift towards wider cryptocurrency acceptance and institutional investment, though it hinges on overcoming the SEC’s historical caution with crypto-related products. Success in this venture could significantly enhance BlackRock’s revenue, reshaping the crypto investment landscape and reinforcing its position as a leader in asset management after a series of ESG funds underperforming and its stock price relatively languishing this year. I think the stock is a buy.