Recap of price performance; A pattern emerges in BTC & ETH dominance; Market structure remains unchanged and ripe for an institutional nudge; Takeaway: Buy BTC and ETH into any near-term weakness; Alpha Opportunity; Metaverse Summer

Recap of price performance

First, let’s quickly recap what we observed the past week for BTC and ETH. Some observations:

1. Below (Exhibit 1) is the 7-day chart featuring the price action of BTC and ETH. Bitcoin surpassed the $48,000 – level, Ethereum traded above $3,300, and the total crypto market cap reached $2.0 trillion for the first time since the industry drawdown in May.

2. Last week we highlighted the fact that BTC traded above its 200-day SMA. We note that it has retested this indicator a couple of times over the past week and currently sits just below this level. We will keep an eye on this over the next few weeks but do want our subscribers to be aware that it is entirely normal for the spot price to straddle this indicator before breaking out (Exhibit 2).

3. Bitcoin broke its all-time high in Realized Cap on Tuesday which currently sits around $380 billion, surpassing its previous record set in May. Realized cap values each separate “coin” in the supply at the price at which it was last moved. Another way to think of realized cap is the overall cost basis of the Bitcoin network (Exhibit 3).

Exhibit 1

Below we see a chart that features Bitcoin’s price and its 200-day SMA (smoothed line). We will pay close attention to this relationship over the coming week. Recall Tom Lee’s Bitcoin Rule #3: Buy BTC above its 200-day moving average. In our view, an ability for BTC to hold the 200-day SMA would be the first domino to fall in a move towards a rally through the end of this year. Below we discuss why we think it is probable that we see this come to fruition and a possible method to gain some additional alpha.

Exhibit 2

Exhibit 3

A Pattern Emerges in BTC & ETH Dominance

Over the past few weeks, we have seen BTC dominance drop from 48% to 44% and ETH dominance fall slightly from 20% to 18.5%. Zooming out, we notice a mid-cycle trend forming in which active market participants are moving from BTC and ETH and into other alternative coins. We can only speculate, but we think that these funds likely belong to long-term crypto natives that have timed local market floors and are looking to use their proceeds to test out some riskier altcoins with theoretically higher “crypto beta.” We expect this cycle to repeat until leverage enters the market in a more sustained fashion. Watch for both BTC and ETH dominance to bounce off their local lows over the next week and start to march higher as this estranged capital returns.

See below for a chart representing this recent pattern in BTC dominance. The upwards arrows indicate relative market share appreciation of Bitcoin and the downwards arrows represent a flow of capital into other alternative coins.

Exhibit 4

The chart below takes this observation a step further and combines Bitcoin and Ethereum market dominance. The inverse representation of the combined market dominance is represented by the light blue line below. This pattern is consistent with the inflows and consequential weekly price increases of emerging NFT and Layer 1 assets such as Solana (+60%), Avalanche (+40%), and Terra (+40%) (Source: CoinMarketCap).

Exhibit 5

Market structure remains unchanged and ripe for an institutional nudge

For a few weeks now, we have been beating the same “supply crunch” drum, and based on net exchange flows, the movement of BTC off exchanges is continuing well into the dog days of summer. Again, to reiterate what this means for investors – the effects of moderate liquidations are amplified as the number of liquid coins on exchanges is limited.

Below is a chart that articulates this pattern of negative exchange flows.

Exhibit 6

We have also periodically alluded to the fact that retail investors are the ones behind the steering wheel of the nearly month-long run-up in BTC price. The chart below helps us to (1) gain some additional comfort behind this premise and (2) hypothesize that those stacking their treasure in this recent rally are predominantly long-term HODLers. The chart below provides a visual representation of the number of BTC held in specified size-based categories of wallets. We can see that the smaller-sized wallets (blue and green lines), normally indicative of retail investors, have steadily climbed since the BTC market bottom in July, while the larger wallets (red line) have decreased their holdings over the same time period.

Exhibit 7

The chart below reinforces the idea that long-term retail crypto natives are driving this most recent run as HODLer Net Position Change turned green during Bitcoin’s pullback on Monday and Tuesday. As the name would suggest, this metric measures the relative change in the monthly position of long-term holders.

Exhibit 8

Further, we can see that investors have yet to get out over their skis on Bitcoin trades. Below we observe that the perpetual futures funding rate for BTC is still relatively low compared to the recent bullish price action. The average funding rate is set by exchanges for perpetual futures contracts. When the rate is positive, long positions are paying short positions to take the other side of a trade. Conversely, when the rate is negative, short positions are paying long positions. When there are substantial increases in price, we often observe concurrent run-ups in the funding rate since investors start to chase long positions. Based on the chart below, we can see that while funding rates are positive, things are not remotely overheated when juxtaposed to recent price action.

Exhibit 9

Takeaway: Buy BTC and ETH into any near-term weakness’

Last week, we alluded to trepidation in traditional markets largely driven by a fear of a slower reopening, compounded by a case of the summer doldrums. This is evidenced by several metrics including volumes and trading patterns, but something that stood out to us was the amount of cash that corporations are currently hoarding on their balance sheets. According to the WSJ, “cash and short-term investments on corporate balance sheets globally are at an all-time high of $6.84 trillion, according to data from S&P Global, extrapolated from second-quarter earnings reports. That is 45% higher than the average in the five years preceding the pandemic and a 2.6% increase from the previous quarter.”

Exhibit 10

We continue to think that the economy is positioned a little too defensively against Delta fears, and based on data compiled by our Macro team, we have every reason to bet on a risk-on, cash-rich rally into the end of the year. For corporations and traditional investors, BTC and ETH are still risk-on assets, and therefore we think a turning of sentiments will be beneficial for the crypto asset class.

Alpha Opportunity

This opportunity will require some patience, but we believe there is some potential alpha in the current Bitcoin and Ethereum Grayscale products, especially if you are part of an institution or must gain exposure to crypto through traditional equity products.

Below we can observe that the discounts on both the Bitcoin (GBTC) and Ethereum (ETHE) Grayscale Trusts have established significant discounts to Net Asset Value (NAV). As far as we can tell, this can simply be attributed to low volume trading during the doldrums of summer as well as defensively positioned institutions that are waiting for more clarity on the near-term prospects of a peak in Delta variant cases.

There is often a disconnect between the price at which Grayscale products trade and the price at which the underlying assets trade. Grayscale has even engaged in significant buybacks to resolve the discount to NAV, but to no avail. Therefore, it may take some time for this gap to close (hence the “patience requirement”). However, should our thesis materialize, and we hit our price targets of $100,000 for BTC and $10,000 for ETH, this may be a good place to find some incremental returns, as a compression of the current discounts back to NAV would result in an additional 15.31% return on BTC and 12.87% on ETH.

Exhibit 11

Exhibit 12

Metaverse Summer

Two weeks ago in our newsletter, we highlighted an emerging theme on our radar – The Metaverse. For those who missed last week’s publication, the Metaverse is an open virtual economy characterized by ownership rights and social interactions built on the blockchain. The movie Ready Player One is a good representation of what the Metaverse could develop into. Since last week’s newsletter, Metaverse-related digital assets have continued to outperform BTC, ETH, and even the popular Decentralized Finance or “DeFi” sector by a substantial margin. In fact, since June 20th (the first day of Summer) Metaverse is up 242% while BTC, ETH, and DeFi have posted 43%, 61%, and 69% gains respectively – leading us to declare Summer 2021 “Metaverse Summer”. Similarly, DeFi’s strong performance last summer led many to declare it “DeFi Summer”.

Exhibit 13

To analyze the Metaverse’s outperformance we leverage The Metaverse Index (MVI) – a decentralized organization (DAO) created index tracking the top Metaverse digital assets. It includes 16 assets that we bucket into 3 themes – Gaming, Content, and NFTs. Last week we covered Gaming in the Metaverse – where players truly own their in-game collectibles allowing them to exchange for real-world fiat currencies. This has led many folks to play Metaverse games as an additional source of income. On Axie Infinity, the most popular Metaverse game, players are making on average $1,200 per month.

The second Metaverse themes we are tracking is Content – which includes next-generation digital content creation and distribution. Think Spotify/YouTube decentralized on the blockchain. For these decentralized content platforms to succeed they will ultimately need to attract creators and artists away from the incumbent legacy platforms. In analyzing this dynamic we’ve focused on two main factors – one pulling creators onto decentralized content platforms and a second pushing them away from legacy content platforms.

We expect more lucrative content monetization strategies to pull creators onto decentralized content platforms by removing many of the middlemen and gatekeepers in the incumbent system. This is most observable in the music industry where record labels, distributors, streaming platforms, and other participants all take a cut of revenues – leaving little left over for the artists themselves. In fact, it is estimated that while the music industry generates $43 billion of annual revenues – only 12% ends up with the artists¹. The decentralized music streaming platform Audius (included in MVI) is solving this by developing a platform where artists can interact and engage directly with their fans – thus removing the need for many of the industry’s gatekeepers.

As of today, Audius boasts over 5 million monthly active users which we expect to grow given their recent announcement that they will be partnering with TikTok. The partnership allows artists to share their music from Audius onto TikTok in one click – enabling TikTok’s 680 million users to incorporate the tracks into their own video content – opening an entirely new distribution mechanism for artists. Interestingly, many of the most popular songs are now first going viral on TikTok before garnering mainstream sentiment. Arizona Zervas’ “Roxanne” is a prime example of this. After releasing the track in October 2019, it quickly went viral on TikTok – driving a 2,472% increase in the artist’s Spotify monthly listeners². In total, the song has amassed over a billion streams on Spotify to date. While the effects of TikTok-driven virality can be observed on Spotify and other streaming platforms, Audius is the first platform to integrate directly with TikTok.

Exhibit 14

We also expect legacy platforms to push creators off their platforms as popular ad-based monetization strategies utilized by YouTube and others fail creators. Censorship has also become popular, forcing many creators off incumbent platforms and onto others. Issues with ad-based monetization first arose in 2016 when YouTube shifted its focus towards family-friendly content that advertisers were more comfortable purchasing ads on. This shift decreased or eliminated ad revenues for many individual creators and was quickly termed “The YouTube Adpocalypse.” Since then, many creators have sought out alternative monetization like subscription-based strategies popularized by Patreon and Substack. If Audius’ success in the music industry is any indication, we could expect similarly decentralized platforms to emerge catering towards video and written content creators.

Having now covered Gaming and Content in the Metaverse, in next week’s newsletter we discuss the third Metaverse theme – NFTs.

1: Audius Whitepaper. 2: Rolling Stone.