GDLC: Crypto's Deep Value Play

Summary I've consistently viewed the Grayscale Digital Large Cap Fund (GDLC) as a poorly constructed product for diversified digital asset exposure. Despite this, GDLC's significant Bitcoin and Ethereum weighting, along with its large NAV discount, presents interesting arbitrage opportunities. Value in cryptocurrencies is subjective, and while risks exist, the current discount makes GDLC an attractive play. It's been about six months since I last covered the Grayscale Digital Large Cap Fund ( GDLC ) for Seeking Alpha. This is a fund that I've written about on this website a handful of times going back the last two years. GDLC: Where's The Diversification? (August 2022) Grayscale Digital Large Cap: A Potential Arbitrage Opportunity (June 2023) Grayscale Digital Large Cap Fund: Achievement Unlocked (December 2023) GDLC: Too Cheap To Ignore Again (March 2024) To briefly summarize my view of GDLC, I've generally felt that it's a poorly constructed product based purely on the objective of offering investors diversified exposure to digital assets. However, given the fund's large weighting to Bitcoin ( BTC-USD ) and Ethereum ( ETH-USD ) coupled with the large discount to Net Asset Value, I've felt that GDLC has been an interesting arbitrage play at times over the last two years. I'm covering the fund again now because I feel the fund has once again become too cheap relative to NAV. Fund Details And Holdings Inception: 2/01/2018 Expense Ratio: 2.5% AUM: $475 million GDLC is one of the older crypto funds in the industry. Like most of the other Grayscale funds, the major knock on this product for years has been the exorbitantly high expense ratio of 2.5%. Originally, the fund offered investors exposure to 10 different crypto assets. More recently, that number has rarely been above 5 or 6 coins with large weightings to BTC and ETH. Here's the holdings profile as of 9/17/24: Asset Asset price Holdings per Share Val per Share Adjusted Val % of Fund Bitcoin $59,901 0.00037497 $22.46 $20.44 75.8% Ethereum $2,303 0.00228513 $5.26 $5.21 17.8% Solana ( SOL-USD ) $129.4 0.00878822 $1.14 $0.00 3.8% Ripple ( XRP-USD ) $0.57 1.05774541 $0.61 $0.00 2.0% Avalanche ( AVAX-USD ) $23.26 0.0074882 $0.17 $0.00 0.6% Source: Grayscale, as of 9/17/24 In March, the Ethereum accounted for 22.4% of the fund weighting. With the exception of Ripple, Bitcoin is the only asset in this fund that has seen weighting go up over the last 6 months. As Bitcoin continues to dominate both ETH and the rest of the crypto market, GDLC is quickly becoming a much less diversified product. Which, again, has always been my major critique. NAV Discount & 'Fair Value' Theories When I covered the fund back in March, GDLC shares traded at a 37% discount to net asset value. As of market close 9/17/24, GDLC shares had a NAV of $29.92 per share against a market value of $18.17 - implying a 39% discount to net asset value. GDLC NAV vs Market (Grayscale) 39% is certainly not the largest discount we've ever seen in GLDC shares, but it does perhaps offer a signal about the current sentiment in the market, in my opinion. With the caveat that this discount could certainly go lower, I'd like to make my case for why I don't think it should. To begin, we now have spot Ethereum ETFs approved in the United States. That was not the case when I last covered GDLC in March. Grayscale's Ethereum Trust ( ETHE ) has since converted to a spot ETF as well. Readers familiar with my work here may recall the method I've used for building 'fair value' estimates for GDLC. Typically, I'll adjust the GDLC share value by writing down the small altcoin positions to zero and rerating the BTC and ETH value with the NAV rates from ETHE and the Grayscale Bitcoin Trust ETF ( GBTC ). ETHE and GBTC are now spot ETFs trading at NAV. So if we utilize that strategy again, we get a drastically different expected value for GDLC: Asset Asset price Holdings/Share $ Val/Share Adjusted Val % of Fund BTC $59,901 0.00037497 $22.46 $22.46 75.8% ETH $2,303 0.00228513 $5.26 $5.26 17.8% SOL $129.4 0.00878822 $1.14 $0.00 3.8% XRP $0.57 1.05774541 $0.61 $0.00 2.0% AVAX $23.26 0.0074882 $0.17 $0.00 0.6% Share Value $29.64 $27.72 Source: Grayscale, author's calculations At $27.72 adjusted per share, GDLC is trading at a 34% discount to 'fair value' if we assume the altcoins are worthless. Frankly, it's difficult for me to accept that BTC and ETH managed by Grayscale could trade at such a large discount in one product while those same assets trade at NAV in much larger AUM Grayscale products. I don't believe a 2.5% fee justifies this discount. But for the sake of argument, let's make another assumption. ETH ETFs have been sort of a colossal failure as net flow into the products has been negative. So even though the dynamic that has impacted that negative net flow has been Grayscale fee flight, let's just make the bold assumption that the market now also has a problem with Ethereum as an investment idea as well. Taking that view, even if we write down the $5.26 worth of ETH in GDLC shares, the Bitcoin alone in GDLC is worth $22.46 per share. Thus, even if one is a 'maxi' who thinks every other cryptocurrency is going to zero, buying GLDC at $18.17 per share with Bitcoin in the $59-60k range is like buying Bitcoin at a 19% discount. I don't think that's a bad opportunity. Insider Moves Related Party Shares Q2-23 1,213,437 Q1-24 1,054,987 Q2-24 1,055,487 YoY -13.0% Source: Grayscale, 10-Qs One detail pertaining to GDLC that has emerged since my last article is a 13% decline in related party shares held since Q2-23. These sales were first seen in the Q1-24 10-Q. Related parties are considered to be directors and certain employees of DCG, Genesis, Grayscale, and Grayscale Securities. As of the latest 10-Q, related parties own 6.7% of the outstanding GDLC shares. There was a small 1,000 share increase from Q1-24 to Q2-24. Additional Risks Value is often very subjective. Such is certainly the case in the realm of cryptocurrencies and digital assets. Just because the market currently values Bitcoin near $60,000, it doesn't mean everyone else has to agree. Where I would argue GDLC is too cheap relative to the assets in the fund, others may argue GDLC is too expensive relative to the intrinsic value of the assets in the fund. Which is to say, there is no guarantee any of this stuff will continue to have a bid. GDLC Daily vs Crypto Fear & Greed (TrendSpider) It's also worth noting that during the depths of "crypto winter" in Q4-22, GDLC's NAV discount was greater than 50%. At that time, the crypto fear and greed index was near current fear readings in the high 20s and low 30s. That index was well off the single digit lows from the Terra collapse that May. My view on this is that GDLC's discount rate may be a sentiment indicator that we shouldn't ignore. Taking it one step further and briefly touching on technicals, there is a 50 and 200 DMA 'death cross' looming. Final Thoughts Taking all of this into consideration, I'm still of the view that GDLC is a buy at a 39% discount. To be sure, that discount could get more intense. Furthermore, the discount may foretell danger in the crypto market. But for speculative capital, I still think GDLC is an interesting opportunity. As I showed in the article, you could write down everything but the Bitcoin and still make the case GDLC is underpriced. I wouldn't personally get overexposed to any one investment idea, and that goes doubly for crypto-proxy arbitrage plays like GDLC. Finally, I see no imminent catalyst that turns around the NAV rate. This trade is purely a speculation with no guarantee of success. It's possible the NAV discount shrinks while the fund shares also decline in value if there is significant sell pressure in the crypto market. All that said, I'm long GDLC.