Digital Assets Weekly: March 6th, 2020
Summary
Market Analysis:
- Crypto markets rebounded modestly this week and remain the best performing asset class YTD.
Portfolio Strategy:
- Crypto Emerging Markets are influenced by broader financial conditions but its idiosyncratic drivers and macro market cycle mater most long term.
Winners & Losers
- Winner: Tron’s founder Justin Sun who executed a hostel takeover of Steem’s decentralized social media network.
- Loser: Bitmex after the FCA issued a notice that the firm has been operating in the U.K. without permission.
Weekly Rant:
- Ripple CEO saying Proof of Work (PoW) is a ‘Massive Waste’ of Energy makes me cringe.
Financing Activity:
- Arweave raised $8.3M for its permanent internet content storage service.
- AlphaPoint raised $5.6M for its crypto infrastructure business.
Recent Research:
- Tom Lee: Tom’s Take on Crypto: Bitcoin Proving to Be a Macro Hedge
- Robert Sluymer: Crypto Technical Analysis: Pullbacks from 50-62% retracement resistance beginning to bottom
- Ken Xuan: Crypto Quant: Crypto Benchmark Indices Performance and Review
Market Analysis
Bitcoin rose modestly by 4.5% on the week, partially recovering last week’s losses and bringing its year to date return to 27.6%. Stocks and other risk assets squeaked out incremental gains, while gold and treasuries rallied by 5.6% and 2.3%, respectively.
Favorable crypto regulatory developments in India and South Korea, alongside a slightly stabilizing, but still trepid broader market environment following prior week’s turmoil contributed to Bitcoin’s weekly gains.
The largest crypto asset brought most others in to the green with it. The large cap 10 outperformers were BSV (+14.5%), XTZ (+13.8%) and BNB (+13.3%), while the relative underperformers were XRP (+3.5%), LTC (+4.5%), and LTC (+5.0%).
Other notable gainers were HBAR (+63.4%), KNC (+43.2%), and BTG (+40.9%), while other notable laggards were SNX (-18.3%), MKR (+1.7%) and OKB (-0.6%).
Daily returns over the week were largely choppy and mixed, with gains to most large caps coming Monday and on Thursday and Friday following the Feds interest rate cut.
Portfolio Strategy
The burning question given the current state of global markets: what mental model should investors be using to think about how crypto prices might behave if the US and global economy flourishes or goes into a recession?
Bitcoin’s outperformance on the year reinforces our view that its capable of acting as a macro hedge. But crypto is not neatly a risk-on or risk-off asset. Its capable of acting as a hedge and an emerging growth investment due to its own idiosyncratic value drivers.
Investors should not think about crypto as a new currency or even a new asset class, but rather as a new region of global, internet-based, self-sovereign emerging market economies (more here in later weeks).
Crypto emerging markets (Crypto EM’s) consist of more than ‘currencies’, they have all types of economic assets ranging across commodities (BTC), currencies (IOTA), equity (MKR), debt (DAI), derivatives (sBTC), real estate (MANA), products (BAT), services (EOS) and others (more on digital assets vs. crypto assets and crypto asset types later weeks).
Today, Crypto EM’s export three main types of products to the rest of the world:
- Monetary Commodities: Digital Gold/Silver/Copper: BTC/LTC/ETH (Risk-off),
- Financial Services: Payments/Exchanges/Borrowing: ETH/KNC/MKR (Risk-on),
- Internet Software & Services: Cloud/Applications/Services: ETH/STEEM/FIL (Secular)
Many crypto assets encompass all three. This mixed economic make up is one reason crypto and Bitcoin has historically beat to its own drum with low correlations to other assets. Now, like any fledgling economy or developing industry, as the Crypto EM’s have grown larger and more interconnected to the world economy, they will inevitably feel ripples from wider financial market movements.
IF the world experiences another financial crisis (big IF), I’d expect the crypto economy to react analogous to the following:
- Bearish for crypto EM offset by bullish for crypto monetary commodities (analogy: a crisis negatively impacts all EM but large gold producing countries get a GDP boost)
- Bearish for financial risk taking offset by bullish for crypto as global frictionless financial system for capital movement (analogy: capital flight buying another currency to get to the dollar to get to treasuries)
- Bearish for demand offset by bullish secular disruption trend (analogy: FANGs taking share during and after the financial crisis)
The combination gives you a mixed bag, but one that’s possibly biased to the positive, in the long run. And, if global markets continue on, continuing on, then its crypto business as usual. But, while both shockwaves and tail winds will be felt, they are not as important as crypto’s macro market cycles.
Crypto economies, like all economies, are subject to macroeconomic boom and bust business cycles. These cycles are the predominate drivers of overall economic activity, asset prices and market valuations within the entire Crypto EM Sector. These macro cycles have largely been driven by the monetary environment (valuation) of the first and largest crypto asset, Bitcoin. Deciphering the stage and timing of Bitcoin’s cycle is key.
Bitcoin has gone through at least three macro-economic market cycles that have resulted in boom, bust, bubbles, recessions and depressions, since its inception.
The chart above of Bitcoin’s Price and its Price / Cumulative Mining Revenue Ratio (P/CMR) should look familiar from last week. But this time, it’s been adjusted on a per coin basis (i.e. book value per share vs market cap to book value), and you’ll see the major price cycles shaded in blue. The shaded areas mark ranges of time around where Bitcoin’s P/CMR valuation persisted above its lifetime historical average of 9.5x. Bitcoin cycles have similarly impacted all other crypto asset valuations historically as well.
The P/CMR ratio I invented in Dec 17 (lucky timing) has been the most effective I’ve seen during my 5+ years in crypto (half its life-that’s a long time!) at navigating macro market cycles (more in later weeks).
There are other metrics that I’ve found useful as well over the years. The Market Value / Realized Value Ratio (Mkt Cap / RV) is one of them. It was developed in Oct 18 and works similarly to the Mkt Cap / CMR ratio but offers a modification that calculates the realized value by adjusting for the last time a coin was moved.
The Mkt Cap / RV Ratio paints a similar story about current macro market valuation levels. Its been included in this week’s comp sheet below. We’ll be discussing some of the more subtle nuances of what each valuation approach tells us in upcoming weeks.
Crypto markets are in the 2nd or 3rd innings of a prolonged recovery. Right now, crypto markets are not dirt cheap, but they’re not expensive either and we see three potential catalysts on the horizon: 1) elections, 2) geopolitical risks, and 3) the halvening.
If you’re a long-term fundamental investor (1-3+ year time horizon), looking to accumulate a meaningful portfolio allocation, we believe taking advantage of pull backs below historical valuation multiples puts the odds in your favor. The goal of investing is not to avoid risk, but to take the right amounts and types of risks at the right times.
Winners & Losers
Winner: Tron’s founder Justin Sun executed an effective hostel take over of the decentralized Steem social media network. He has effectively accomplished (for now at least) what Carl Icon has been seeking to do to Twitter. This move is an excellent example of how global crypto Decentralized Autonomous Companies (DAC’s) may be governed in the future. It will be interesting to see how it plays out with the community. Some members may fork the network, effectively launching a new competing social media DAC, and trying to steal its employees and users by convincing them to switch.
Loser: Bitmex is the loser this week as the Financial Conduct Authority (FCA) issued a warning to citizens claiming that the firm may have been providing financial services or products in the UK without authorization. This notice highlights one of the major risks we see in the crypto market, which is the possibility that some offshore exchanges might face regulatory crackdowns from U.S., U.K. or other jurisdictions, which might cause a market wide liquidity shock. While most exchanges have vastly improved compliance since the 2017 ICO boom, this notice serves as a reminder that the largest crypto exchanges are being watched by regulators.
Weekly Rant
Ripple CEO Brad Garlinghouse saying Bitcoin and Ethereum Proof of Work (PoW) is a ‘Massive Waste’ of Energy makes me cringe. Why? Two reasons:
- The argument that crypto mining is bad for the environment isn’t true, and
- The most successful cryptocurrencies targeting the money store of value use-case have been PoW assets
Research shows that ~74.1% of bitcoin mining is powered by renewable energy. Most of the energy used for mining comes from excess capacity that cannot be stored and would otherwise go wasted. As a practical example, A New York Power Plant Is Mining $50K Worth of Bitcoin a Day with their excess capacity instead of wasting it. The rise of renewable energy technology only furthers this trend. Wind and solar energy is often available in areas are too far from the grid to be usable and I predict crypto mining will one day be a way to monetize that capacity.
PoW coins account for over 80% of the total crypto market cap. That percentage rises to over 85% once stable coins and equity like exchange tokens are removed. Even if you remove BTC, PoW Alts are still near 60% of the remaining others. Our analysis of the data suggests this is no accident and shows that cumulative mining costs have proven to hold a strong relationship with long term crypto market value.
It’s true that not all crypto assets need to be PoW networks to solve their intended use case. In fact, those that are not seeking to be pure currencies, and are instead more economically akin to equity in distributed companies, are probably better off otherwise. Which camp XRP falls in is still playing out.
Financing Activity
Arweave – The London based permanent internet content storage company closed a $8.3M financing led by a16z, Union Square Ventures, and Coinbase Ventures. Read more.
AlphaPoint – The New York based crypto infrastructure provider raised $5.6M in financing from undisclosed investors. Read more.
Recent Research
Check out Fundstrat’s recent crypto research if you missed it by clicking below or visiting the crypto section of the FS Insight website.
- Tom Lee: Tom’s Take on Crypto: Bitcoin Proving to Be a Macro Hedge
- Robert Sluymer: Crypto Technical Analysis: Pullbacks from 50-62% retracement resistance beginning to bottom
- Ken Xuan: Crypto Quant: Crypto Benchmark Indices Performance and Review
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