In-Kind Creation
Creating new fund shares by delivering the underlying asset itself to the fund, instead of delivering cash.
An authorized participant hands the fund a basket containing the required amount of the asset and receives a block of newly issued shares, and the reverse happens on redemption. Because the fund never has to trade, the cost of buying or selling stays with the authorized participant rather than being spread across existing shareholders, and in equity funds the mechanism also avoids realizing capital gains inside the fund. For digital assets the mechanism requires the authorized participant to be able to receive, hold, and transfer the coins, which raises custody and broker-dealer questions that cash creation avoids. In-kind and cash creation can coexist, and the choice is set out in the product's registration documents.
In practice
In an in-kind redemption, the authorized participant returns a creation unit of shares and receives the corresponding quantity of the asset transferred out of the trust's custody wallets.
The common misunderstanding
That in-kind creation is something ordinary investors can use, when the mechanism is wholesale and only firms with an authorized participant agreement can transact directly with the fund.