Welcome to the very first 2022 edition of Crypto:Decrypted. I’d like to say we have a nice, boring, quiet January but that certainly seems to not be the case. From the Fed to Wall Street to Main Street – it’s been loud, interesting and in some cases downright frightening. Let’s jump in.
The Fed or “We’ve Seen this Movie Before”
So, the main story (and probably not unfamiliar to anyone reading this) is that all financial markets have been in a state of disarray. Capital markets get adversely affected when they think the Fed is hawkish – that is increase interest rates or change the balance sheet expansion policy. Interest rates are growing with a possible four hikes this year alone. This will make it harder to borrow and use money. Markets don’t like that. Simultaneously, there is serious sabre rattling about Quantitative Tightening (QT). QT is the opposite of Quantitative Easing, where more and more money is injected into the system, generally in the form of the government buying bonds and securities. The increase in the money supply encourages lending, lowers interest rates, and results in economic growth. It was designed to an answer to the pandemic and in 2021 resulted in almost 40% of all American dollars in circulation being printed. In the case of QT it’s the opposite. Money is being pulled out of the system, generally in the form the government slowing and/or stopping the purchase of bonds and securities. So, unpacking this, the Fed is dumping its interests, which creates a glut of supply on the market which drives prices down. Markets don’t like that. When one combines rising rates with QT, markets really don’t like that. And, sure enough, all markets have been reacting in a significant pullback. This includes the crypto markets.
“But isn’t crypto supposed to be uncorrelated to all other markets?” Sort of. The point in this is that yes, Bitcoin has more and more “risk off” days, where it is non-correlated to traditional markets every year. But it’s not completely uncorrelated. We saw in 2020 that bitcoin traded like a safe-haven asset about 53 days that year. (A Safe Haven asset is one that does well in an environment when fear/volatility is high. Risk assets like stocks go down and the safe-haven assets go up.) We’re seeing this today on January 25th, where the VIX index (volatility index) is up, the S&P 500 (stocks, risk assets are down) and bitcoin is up.
We also saw this prior in March 2020 when everything crashed at the start of the pandemic, and we’re seeing it again now (hopefully) toward the end of the pandemic. To quote my partner Jake Ryan, “in a deflationary market all assets correlate to 1.” What we do believe is that we are still in a long-term crypto bull run and, historically, crypto has recovered faster than all other asset classes. More on that in a bit.
With regards to the Fed’s current monetary policy there are a few scenarios as we see it. The first is that the Fed backs off and doesn’t do all of this simultaneously, which will result in relief to the markets. The second is that the Fed does NOT back off and we see further negative response. Historically, however, with prolonged negative response in the financial markets the Fed will relax its stance and the markets will recover. You would think this would impel the actions not to be taken in the first place. It’s like putting a hand on a hot stove… “Maybe it won’t burn me this time”. Well, this is gonna hurt a little. But we think only for a little.
The Horriffic Bullbearen
Someone, somewhere and, for seemingly no reason one holiday season thought it would be a good idea to stuff a whole (little) chicken inside of a whole duck and put that whole monstrosity inside a whole turkey. It’s called a Turducken, and it’s as frightening as it sounds. I’d like to butcher this analogy and propose that we’re now eating a Bullbearen which would, of course, be a little bear stuffed into a bull.
If you read my missives then you know that in the world of crypto specifically, I have been noting that we are in a long-term bull cycle, driven by reduced supply replenishment and significant value in the bitcoin network accompanied by general growing adoption across multiple sectors. However crypto is not immune to macro events noted above and, as a correlate, there’s a TON of fear in the markets. So, we have a little bear or, at the very least, a short-term sideways market. I say short term because once actions are taken on the macro level, resulting in uncertainty being removed from the system, markets will adjust and crypto traditionally bounces back the fastest. When we combine that with all of the incredibly amazing positive news in the world of Crypto, we remain bullish for 2022, even if the other markets just tank. We, like many others, see a real possibility of $100K bitcoin this year. I’ll end this section quoting the amazing Mike Novogratz, “We’ve entered the buy zone.”
Now for Some Good News
We see this period as short term. It’s like watching the middle 15 minutes of an M. Night Shyamalan movie. Whatever you think is going on probably isn’t really how it will turn out in the end. No, we don’t think Crypto is crashing to the floor, any more than we were in May and June of this year where we had a monstrous pullback of 50%. This is crypto and is also why there is so much upside. What’s important to remember is that this is a technological revolution that is going to shape us for decades.
On the production front Square, the global payments company, changed its name to “Block”. While this would seem like a really bad dad-joke fostered by Jack Dorsey, it points to (just as Facebook changing to Meta) the long-term vision that industry giants are seeing. As a correlate, Block announced that they were going to get into bitcoin mining and as such become the first major financial player to jump into the world of mining. Meanwhile Intel announced it was going to get into the game as well, with a more efficient mining chip. Both of these announcements are major moves in support of the long-term future of Bitcoin and, importantly, will also start the inevitable process of making mining more “green.”
While all this is happening the smart money seems to be digging in for the long haul, with projected 75% of all bitcoin in circulation being in an illiquid state. This is defined as bitcoin being moved into a wallet with no history of spending and would suggest that those that those investors subscribe to the bullish future we also anticipate.
When is a Dollar not a Dollar?
Perhaps, when we have runaway inflation. That would be now. In December, the CPI rose 7.0%, its biggest 12-month increase since June 1982, and nobody likes the fact that as the buying power of a dollar is now worth 93 cents as compared to this time last year. Knowing inflation was coming was one of the drivers that moved many marquis investors to crypto last year, and now bitcoin is preferred by many over the traditional hedge against inflation which is, of course, gold.
Last year bitcoin outperformed all other major asset classes including gold, which is an encouraging signal. Of course, crypto is volatile so one needs to be prepared for that, and this is why we encourage that one uses a wide-angle-lens when looking at these markets. There’s a reason for all of that BTC illiquidity.
Et Tu, Russia?
It is worth noting last Friday that Russia outlined a ban on Crypto. Will this sting a little? Sure. Russia is a major player. Overall, however, let’s look back again on May/June this year when China outlawed crypto. We had a pullback then another run. Crypto is a worldwide phenomenon. It’s important to remember that. Simultaneously, the Ukraine is considering following El Salvador’s lead in making bitcoin legal tender in the country. (I’m not going to touch the pending Russia/Ukraine conflict.)
My point here is that while some countries move to ban, others move to embrace, and I predict we’ll see many countries embrace bitcoin this year. In a perfect crypto world of course, we’d prefer not to see bans on crypto by any country. But in the big scheme we argue, as we’ve done in the past, that there is no putting this genie back in the bottle.
Elsewhere in the Cryptoverse
NFTs are reaching a frothy, level. In 2017 ICOs were the big boom-to-bust poster child. This year is seems that NFTs will follow suit. It’s not that NFTs lack value intrinsically – the technology is amazing and demonstrates actual digital ownership of a digital object. It’s going to be paramount in the world of Metaverse. Unfortunately, however, not everything that is digitally unique is a Mona Lisa and and right now everyone and their kid-brother (literally) is minting NFTs. They aren’t all going to be priceless works of art.
Meanwhile, more platforms are growing in market share. At the beginning of 2021 Ethereum held nearly 100% of all DeFi applications. At the end of the year, according to Bloomberg they now hold only 70%. That’s a massive drop-off which means that the platform wars are heating up and alternatives are gaining ground. This is going to be a seminal year for Ethereum as they absolutely, positively without-a-doubt must fix their speed and cost problems. Those upgrades will continue this year but will extend through 2023 for full sharding which will have a huge impact on scaling issues. 2023 is a year away. That’s a lot of time for other players to continue to get market share.
In Closing
Macro events affect markets. All markets. That’s why they are called Macro events. It’s important to keep these temporal moments in perspective and keep looking at the bigger picture. I know that I beat this drum a lot but it’s a drum worth beating.
Blockchain technology is here to stay, and crypto is the capitalized component of this technology. It will remain volatile. It will have evangelists. It will have naysayers. Ultimately, though, it will continue to have a bigger and bigger footprint and more and more adoption. So, perhaps don’t just look at the big picture, look at the whole picture, enjoy the Bullbearen, and be sure to hang on.
Until next month take care, be safe, and I’ll be sure to keep Decrypting:Crypto for you!