Ethereum's $9 billion head start with Grayscale is at risk as major investors launch ETFs.

• Crypto firm Grayscale is facing a new challenge with the launch of the first-ever spot ether exchange-traded funds in the U.S. markets.
• Over $9 billion worth of ether is held in trust by Grayscale, which has been established for many years.
• Reduced fees have attracted a number of larger financial firms to the market, prompting competition.

For crypto firm Grayscale, it's deja vu in the ETF market.

On Tuesday, the first exchange-traded funds (ETFs) in the U.S. began investing directly in ether, the cryptocurrency used in the Ethereum network, allowing investors to purchase the cryptocurrency in a similar way to stock and bond index funds.

Grayscale, a unit of Digital Currency Group, has converted its trust holding over $9 billion worth of ether into an ETF. The firm will offer two ETFs.

ETFs are gaining popularity, and Grayscale will face competition from large financial firms such as Fidelity Investments, Franklin Templeton, and Invesco, which have already launched their own spot ether ETFs.

In January, when ETFs were approved, many investors left Grayscale's products for cheaper alternatives due to the same thing happening.

On Tuesday, spot ether ETFs experienced over $1 billion in volume on their first day of trading, with analysts estimating net sales of $104 million.

At the time of publication, the Grayscale Ethereum Trust (ETHE) experienced redemptions of $485 million as money poured into new offerings. JPMorgan attributed the outflow to investors likely switching to cheaper alternatives or using the ETF conversion to capitalize on increased liquidity versus the previous trust structure. Day two trading was not yet available.

Grayscale is facing challenges in the bitcoin ETF market due to intense competition.

Grayscale started trading shares in its bitcoin trust (GBTC) as a closed-end fund in 2015, which was described by Morningstar's Bryan Armour as "something of a monopoly." In the first seven months of trading after converting from a trust to an ETF, the company experienced outflows of approximately $18.7 billion, mainly due to its management fee of 1.5%, which is significantly higher than that of its competitors.

In May, Grayscale was surpassed by BlackRock in assets with its iShares bitcoin ETF, which has a fee of 0.25% after waiver.

Grayscale is offering ETHE, an ethereum fund that charges a 2.5% fee, which is 10 times higher than the second-highest fee among newly listed funds. Additionally, Grayscale has spun off 10% of its assets to create a mini-ether ETF called the Grayscale Ethereum Mini Trust (ETH), which has a lower fee of 0.15%.

Many issuers are temporarily suspending fees for a period of up to one year.

David LaValle, the global head of ETFs at Grayscale, stated in a CNBC interview that ETHE is a reliable and efficient way for investors to obtain exposure to Ethereum as a regulated U.S. security.

Grayscale's ethereum trust has had an annual return of 61% since it became publicly quoted in June 2019, according to LaValle. Additionally, the mini ether ETF was launched with the lowest top-line expense ratio. Between its two products, Grayscale has the highest and lowest management fees.

LaValle stated that the $1 billion of volume on day one represents the many industry participants who are committed to contributing to the success of the Ethereum ETP ecosystem and supporting investors.

Rough year for Grayscale

Grayscale CEO Peter Mintzberg will be responsible for figuring out how to navigate the new world of ETFs, as he was appointed to the position just a few days before BlackRock overtook Grayscale's bitcoin ETF in assets.

Grayscale Investments was led by Michael Sonnenshein for a decade before he was replaced by Mintzberg, who traveled the world for the job, attending conferences such as the World Economic Forum in Davos and flagship crypto events.

Grayscale, during Sonnenshein's tenure, ran the world's largest crypto fund, with more than $43 billion in assets under management at its peak. It was considered by many to be the crown jewel in Silbert's crypto empire, giving it substantial pricing power in the business of running a crypto trust.

Grayscale emerged victorious in its legal battle with the SEC over its application to convert GBTC into a spot bitcoin ETF, marking a landmark moment for the crypto sector. This victory paved the way for the broad approval of spot bitcoin ETFs and helped cement crypto as a legitimate asset class.

Grayscale's competitive advantage is less clear than ever, despite Sonneshein's contribution to the firm's legal path. The press release announcing his resignation in May stated that he was leaving to pursue other interests. His LinkedIn profile lists him as a former CEO of Grayscale and an advisor at several companies. Sonnenshein did not respond to a request for comment.

Grayscale's finance chief Edward McGee is currently serving as interim CEO, replacing Silbert who resigned as chairman in December and was replaced by Mark Shifke, DCG's finance chief. Mintzberg officially takes over as CEO in mid-August.

The 2022 crypto meltdown severely impacted DCG, causing its lending business Genesis to file for bankruptcy after being charged by the SEC for selling unregistered securities. In May, Genesis settled with New York Attorney General Letitia James for $2 billion to repay defrauded investors.

Despite facing difficulties, Grayscale is experiencing growth due to the crypto market's recent surge. Bitcoin's price has quadrupled since the end of 2022, and GBTC has achieved an even greater increase, jumping more than seven times. Ethereum has also nearly tripled during this period.

In the first quarter, DCG's revenue grew by 51% compared to the previous year, and the company claims to have fully repaid its debt. Its only outstanding obligation is to Genesis.

Grayscale announced in a press release on Tuesday that the maturation of the crypto asset class is driving client demand.

WATCH: CNBC's full interview with Michael Sonnenshein, Grayscale's former CEO