Fundamentals Lean Bullish as Quantitative Tightening Enters the Picture

Key Takeaways

• Meeting minutes from the March FOMC meeting were released today. The Fed’s posture leaned decisively hawkish as they introduced the prospect of QT starting as early as May.
• Despite the resurgence of macro headwinds, the bullish trend upwards for realized cap continued this week, indicating renewed demand for bitcoin.
• We revisit our LFG model from last week and adjust inputs for LFG’s recent purchasing activity.
• Staked ETH continues to march higher as confidence in the merge grows. However, more encouragingly, fees appear to be on the rise again.
• Bottom Line: We still find ample reason to be constructive on asset prices in the immediate (relief rally) and long term (H2 and beyond). However, the FOMC minutes have reaffirmed our stance that we are likely not free of the turbulent waters of 1H 2022.

Weekly Recap

Cryptoassets held relatively steady over the preceding week, until Wednesday when the March FOMC meeting minutes were released. The comments could be generally characterized as hawkish. Equities and other risk assets sold off in response.

Such risk-off behavior is reflected in sector performance, as web3 alts sold off at a higher clip than currencies. Interestingly, smart contract platforms held up impressively compared to currencies, mainly due to a significant pullback in meme coins folded into the currency sector.

Macro Update

While we maintain that there is good reason to remain constructive on crypto prices in April, we would like to highlight the increasingly hawkish stance that Fed is taking. It appears that the urgency to temper inflation is climbing.

A couple of weeks ago, we presented the chart below, which displays rate hike expectations for 2022 over the preceding six months. We can see how quickly things escalated, starting in late 2021 and continuing through today. This monetary policy pivot was one of the primary variables driving risk assets downward in Q4 2021 and Q1 2022.

However, interestingly, we can see that despite a continued march higher for rate expectations, bitcoin (and other risk assets) has become less responsive to changes in investor expectations. Due to recent demand, as demonstrated by increases in Bitcoin’s realized cap, prices have trended upward over the past several weeks, in concert with rate expectations.

The effect of rate increase expectations on cryptoasset prices appears to be waning.

If BTC prices are less responsive to rate expectations, then why did BTC price fall following the delivery of the FOMC minutes on Wednesday?

In short, the Fed signaled that they would pull the second lever at their disposal to curb inflation – directly remove liquidity from the market through quantitative tightening. The Fed is now weighing the possibility of reducing its balance sheet by nearly $100 billion per month starting in May.

As we mentioned last week, despite reasons to be bullish in the immediate term (seasonality, LFG buy support, tame derivatives market), we do not think it is time to get completely comfortable. It is possible that the several weeks leading up to and following the initial trimming of the balance sheet could be turbulent for cryptoasset prices.

Bitcoin Inflows Continue To Climb

We have been observing changes in realized cap to get a feel for the level of organic inflows coming into the Bitcoin Network. Last week, we witnessed a giant uptick in realized cap, a good portion of which was likely driven by Do Kwon and Michael Saylor making large bulk purchases for their respective treasuries.

The bullish trend upwards for realized cap has continued this week, as realized cap increased by nearly $2 billion. Encouragingly, a portion of this increase occurred during a period in which prices were falling, meaning there was ample demand to buy the dip.

Flows into crypto financial products as aggregated by Coinshares also saw an enormous uptick in inflows in the prior two weeks, another indication of strengthening demand at current price levels.

Update on LFG Forecast

Last week, we dove into the Luna Foundation Guard and the buy support they have offered the market in their quest to put at least $3 billion of BTC into the Terra treasury. For more details on this, we invite you to read our note from last week.

Below is the model for projected buy support that we provided clients. We used simple, conservative assumptions that resulted in possible buy pressure lasting through April 11^th.

Fast forward to today, and we witnessed nearly a full week pass without a single bitcoin being purchased by LFG. Therefore, we needed to adjust our model accordingly.

On Wednesday, LFG resumed their purchases, making a $230 million investment in BTC. Unfortunately, macro headwinds quickly buffeted any potential momentum from these inflows.

Our revised forecast now demonstrates that LFG’s dry powder could reasonably be expected to last until 4/18, a week beyond the date forecasted in our last weekly note.

We think the major takeaways here are that:

1. Bitcoin’s price held up remarkably well in the absence of LFG purchases, which is constructive for bitcoin.
2. LFG is still sitting on over $1 billion in dry powder to make additional purchases. The buying support from LFG could last well into late April. We still think this is a sound reason to be constructive on BTC price in the immediate term.

We will continue to periodically review and update this forecast as time progresses.

Ethereum Revenue Rising

As recently noted, Ethereum has been rallying on the back of increased confidence in the prospects of a transition to a proof-of-stake network. The rapid uptick in ETH staked to the beacon chain is a testament to the fact that market participants are starting to gain confidence in the merge happening this year.

Below, we can see below that this trend is continuing into April.

The underlying fundamentals for the Ethereum network have been lackluster for the better part of this year. In fact, we can see a clear peak in fees in January followed by a steep downtrend as interest in high-priced NFTs fizzled across the crypto market.

However, fees have started to trend upwards again, appearing to bottom in mid-March. This is a promising sign for Ethereum as market prices moving based on fundamentals is always more reassuring than market prices moving based on speculation around a consequential software update.

Bottom Line: We still find ample reason to be constructive on asset prices in the immediate and long term. However, the FOMC minutes have reaffirmed our stance that we are likely not completely out of the turbulent waters of 1H 2022.