Reality Bites

Reality Bites

Summary

With all the headlines and negative price action in specific names, it is hard to believe that the S&P is just 7% off of its highs. Given the 7x volatility of BTC versus the US index and the high correlation between BTC and ETH, digital assets can continue to bleed if there is no Fed pivot. Pockets of outperformance can continue in defensive names as well as markets like Hong Kong A shares.

This week we saw profit taking across alt coins that had been holding up well, with Fantom, Near and Harmony down but still well in the green for the month, potentially making them vulnerable. VC, M&A and funds seem to be operating in a bubble, with mega deals such as Microsoft’s gaming acquisition, to a new multibillion dollar crypto fund by renowned digital asset investors, a16z. NFT sales volume also hit a new record this month at $5bn.

MACRO

Futures are pricing more than four interest rate hikes this year in the US. Jamie Dimon, CEO of JP Morgan, is calling for up to seven. Markets are also expecting the Fed to shrink - not just end expansion - of its $8.7 trillion balance sheet this year. 

Filings for jobless claims, a proxy for layoffs, rose sharply from near the lowest levels on record, to 286,000 to the week ended Jan. 15 signalling a slowdown.

US 2 yr Government Bond Yields shot up this week and are pricing in over four rate hikes 

Despite concerns around short term inflation trends, long term expectations remain well anchored as per the current 5 year 5 year inflation expectation rate of 2.07%

Long term inflation expectations have not blown out

Source: St Louis Fed

Germany's 10-year bond yield rose above 0% for the first time since May 2019, as inflation in the Euro Area drove expectations of tightening by the European Central Bank (10 basis points in September and another 10 bps in December). The bloc's central bank announced plans to end its pandemic emergency bond purchases in March.

German Bund Yields turned positive for the first time since 2019

Source: TradingEconomics

CHINA OUTLOOK IMPROVES

After a strong manufacturing rebound in the first half of 2021, the Chinese economy slowed in the second half in part due to regulatory crackdowns. It was encouraging to see Q4 GDP accelerating to +1.6% Q/Q, +4.0% Y/Y (ahead of consensus). December Industrial Production came in at +4.3% Y/Y versus +3.7% in the prior month. China data, on the margin, continues to improve. 

However, growth is still low in relative terms, especially as Xi Jinping may seek a third term as leader of the Communist Party later this year. The government there is expected to set a growth target of 5% minimum. Hence why, at the margin, the People’s Bank of China is lowering rates in the face of uncertainty around the pandemic and the property slump.

On Monday, authorities lowered rates on the one-year medium-term lending facility by 10 basis points to 3.70% for a second time in as many months. The authorities also cut the five-year loan prime rate, which is a benchmark for medium and long-term loans to 4.60% from 4.65%, including mortgages. The market rallied on the news. 

CRYPTO

The percentage of bitcoin in profit dropped precipitously from 90% to 70%, with the worst levels at 50% as seen during the bear market of 2018-2019 and in March of 2020. The sell off last week also saw under 40% of spent coins in profit, which tends to coincide with capitulation. Realized Losses remain high and rising as holders spend coins that were acquired in October and November of 2021.

Perpetual open interest measured in BTC remains high at over 240k which typically precedes large price pivots, with perps volume continuing to decline. Funding rates for both BTC and ETH turned negative as US markets sold off on Thursday.

Proving the resilience of the network, BTC hash rate achieved another milestone of over 200 mn THs hashes despite the temporary shutdown in Kazakhstan. The country represents about 20% of total capacity.

The percentage of entities in profit has dropped to under 70% but has been as low as 50%

Only 40% of coins transferred in profit, which is more in line with capitulation levels

Perpetual volumes have shown a steady decline

Compressed basis spread as per a muted market

Most collateral is now posted as cash rather than coin-margined, which is better in downturns

Some positive news! BTC hash rate made a new ATH to over 200 mn terrahash, despite Kazakhstan instability

CASH APP FINALLY INTEGRATES THE LIGHTNING NETWORK

Block, formerly known as Square, announced it is integrating the Lightning Network into Cash App in the US., a move first promised in 2019. The company said the feature should be available to all U.S. Cash App users, except in New York state. This will allow users to send bitcoin for free globally. It has taken three years to integrate the technology with the app.

USDC flipped USDT on Ethereum

 

A LOOK AT SPOT VOLUMES ON CEXES: FTX AND CRYPTO.COM GAINED SHARE

As expected, Binance has dominated the crypto market during the whole year with a share of volume around 40%. It recorded its highest peak in July with almost 46% of share against the other exchanges, while the lowest point has been in December with 38% share, respectively. 

Despite the fierce competition and a heavily skewed market toward Binance, a couple of exchanges have been able to gain market shares as of mid-2021, namely, FTX and Crypto.com. 

FTX had an increase in average monthly volume of almost 370% since the beginning of 2021 due to its new marketing strategy and high-end sports sponsorships. Crypto.com has been able to expand the trading volumes on its platform by deploying massive marketing campaigns, targeting high-end sports sponsorships as well. Crypto.com volume has grown more than 1300% against the other exchanges presented in the chart.

Huobi, Upbit, and Bithumb have lost market share during the second half of 2021, probably due to new regulations or crackdowns. Specifically, Huobi is the exchange that suffered the most with a decline in the trading activity of more than 60% against the other exchanges from the beginning of 2021.

Source: Nomics.com

Regulation

US WATCH

Gary Gensler, Chairman of the Securities and Exchange Commission (SEC). said that crypto exchanges can expect stricter scrutiny as the regulator looks into how to get them into the investor protection remit. He has said in the past he wants to protect individual investors against fraud and manipulation. Presumably, once this is achieved then a spot ETF could have a green light. 

The Fed also published its long-awaited stablecoin report, another priority area for US regulators. 

The Committee on Energy and Finance in the US Congress held a hearing on “Cleaning Up Cryptocurrencies: The Energy Impact of Blockchains”, as an EU market regulator called for a ban on proof of work mining.

INDIA WANTS GLOBAL COOPERATION

Indian Prime Minister Narendra Modi called for global cooperation to tackle the challenges posed by crypto at the Davos conference. He wants collective and synchronized action. India is in the midst of defining its own regulation on cryptocurrencies, with a draft bill which went from banning private digital assets to allowing them as assets but not as currency or means of payment.

ANOTHER CALL FOR A CRYPTO BAN IN RUSSIA

The Russian central bank once again called for a ban on the use and mining of cryptocurrencies, saying it is a threat to financial stability and sovereignty. They have legal status but cannot be used as a means of payment. Mining is a very important activity in Russia as it is the world’s third largest bitcoin miner and could actually benefit from the instability in Kazakhstan.

The central bank wants to ban banks from crypto activities and also a ban on exchanges. Russians transact $5bn in digital assets per annum. They won’t go the China route of banning ownership, though.

SINGAPORE, SPAIN AND UK TIGHTEN UP CRYPTO REGS

The Monetary Authority of Singapore (MAS) has issued guidelines signalling that crypto providers operating within the country will not be allowed to promote their services to the general public or downplay the risks.This means no ads or promotions will be allowed except via social media, websites and apps of the companies involved and no use of influencers.

Spain is placing restrictions on influencers' promotion of crypto in an apparent first for the European Union. Influencers and their sponsors will be required to notify authorities in advance of posts promoting crypto. They will also have to warn of its risks.

In the UK, the FCA is acting to address concerns about the ease and speed with which people can make high-risk investments by proposing a significant strengthening of its rules on how high-risk financial products are marketed.  The FCA’s draft rules include proposed restrictions on the marketing of crypto assets, in preparation for bringing the promotion of these investments under the FCA’s remit. 

Under the proposal, the FCA would ensure firms that approve and communicate financial marketing have relevant expertise and understanding of the investments being offered, improve risk warnings on ads and ban incentives to invest. Those looking to make certain high-risk investments would also be asked more robust questions about their knowledge and investment experience. Only those classed as restricted, high net worth or sophisticated investors would be able to respond to crypto financial promotions.

The FCA is inviting feedback on its proposals by 23 March 2022. It intends to confirm its final rules in summer 2022. 

DeFi/ NFTs /Metaverse

BATTLE FOR THE METAVERSE 

Microsoft Corp. is to buy video game giant Activision Blizzard for a $75 billion deal as an entry into the metaverse. With this acquisition, Microsoft is getting heavy hitting games and users in its largest deal ever, more than twice what it paid for Linked In. 

Activision had been struggling over the last few months with the quality of its games and internal scandals and lawsuits, while Microsoft was on the hunt for popular games such as Call of Duty. Microsoft has invested 40% more in data center capex over the last six years than Meta has, and the cloud computing capacity will come in handy in building out metaverses. 

Microsoft took advantage of Activision’s recent price weakness to acquire it

WALMART TO SELL GOODS ON THE METAVERSE

Walmart filed seven trademarks at the end of December that signal its plan to make and sell virtual goods in the metaverse as well.

FIRST META PROJECT ON CARDANO

Gaming application Pavia launched on Cardano last week, becoming the first-ever metaverse project on the blockchain. 100,000 land parcels were issued on Pavia, each being minted as an NFT. Over 60% of these parcels were pre-sold in October and November 2021, with the remaining set to go on sale in the first quarter of 2022.

Pavia’s native token is also an in-game currency, 25% of which was airdropped to NFT landholders. There are over 8k landholders but they cannot yet develop content on their parcels. The plots go as high as $45k each.

NEW ETHEREUM ROLE PLAYING GAME

Illuvium is an upcoming fantasy role-playing game developed on the Ethereum blockchain by a decentralized autonomous organization (DAO). The game was announced a year ago and is a decentralized, NFT collection and auto battler game. Players explore and capture beasts called Illuvials and are collected as NFTs, which are used to fight others to win ETH.

OPENSEA BUYS A DEFI START UP AS IT LOOKS TO IMPROVE OPS NFT marketplace

OpenSea confirmed its acquisition of Dharma Labs, a defi start up. Terms were not disclosed but the objective is to make the user experience easier and better.

January has seen record NFT sales volumes

SOLANA NFT INVESTMENT

Metaplex, a company that allows users to build their own Solana-based NFT marketplaces, has raised a $46 million led by Multicoin Capital and Jump Crypto. They will scale operations and provide grants to support creators. The total market cap of the Solana market has exceeded $1bn, still small versus Ethereum.

Investment Tracker

$4.5 BN A16Z CRYPTO FUND

In addition to the $75 bn Microsoft acquisition of Activision (ex-cash), the news of a new crypto fund by Andreesen Horowitz (a16z) was the highlight of the week. The  firm is very active in digital assets and seeks to raise $4.5 bn after raising over $2bn for its Crypto Fund III last June, the largest at the time. Paradigm raised $2.5 bn since then.

MORE CHIPS, PLEASE

Intel is to invest $20 bn in new chip making capacity in Ohio as demand for digital products expands and the world faces a chip shortage. Samsung has also made chip manufacturing a priority, with a budget of over $200 bn over three years for overall capex. The US Senate also proposed $52 bn in funding to support research and production but it has yet to pass the House.

ANIMOCA DOUBLES ITS VALUATION

Animoca Brands, the NFT and metaverse investment firm, raised almost $360 million at a valuation of $5.5 billion, twice the valuation of last October, when they raised $65 mn. The round was led by Liberty City Ventures, and included Winklevoss Capital and Soros Fund Management.

NEW CRYPTO UNICORN

Crypto asset software and data provider Lukka closed its $110 million Series E, valuing it at over $1.3 billion, for growth and international expansion. It was led by London alternative hedge fund Marshall Wace. The firm is now valued at $1.3 bn.

ANOTHER EXCHANGE RAMPS UP ITS VC FUNDING

Singapore exchange Crypto.com has increased the amount of its venture arm fund by $500 million, playing catch up with Coinbase, FTX and Binance. They started with $200 mn in March of 2021 focused on Web 3 apps and platforms. They tend to do seed rounds and Series A. It makes sense for exchanges to invest in their ecosystem, as it creates a virtuous loop and future business for them.

GERMAN CRYPTO EXCHANGE TO BUY A BANK

As digital assets platforms build out plans to become one stop shops, they will increasingly look to acquire traditional operations. This week, leading exchange BitMEX announced it would acquire the German bank Bankhaus von der Heydt, subject to regulatory approval. The exchange wants to strengthen its position in Europe and also has global plans.

PRIVACY PAYS

Privacy-focused blockchain Secret Network secured $400M, as part of Shockwave, a growth initiative aimed at establishing Secret Network as a pillar and data privacy hub for Web3. Quentin Tarantino’s NFTs were launched on Secret Network this week.

ISRAELI STARTUPS

Global venture capital fund Entree Capital raised $300 million for two new Israel-focused funds that aim to invest in early-stage Israeli startups.

MIDDLE EAST GOES DEEPER INTO CRYPTO

Bahrain-based crypto exchange Rain Financial has raised $110 million in a Series B funding round co-led by Paradigm and Kleiner Perkins. They will seek more licenses and build out the technology and team. 

NEW P2E FUND

Crypto investment firm Mechanism Capital is launching a $100 million fund called Mechanism Play focused on the play-to-earn gaming industry., including partnering with studios to develop new games.b They already invest in other areas such as DeFi, analytics, infrastructure and NFTs.

NEW UK VC FUND

London-based venture capital firm Blossom Capital, a generalist investor, will launch a $432 million fund for European startups seeking Series A capital, with a third allocated to crypto firms.

CRYPTO FUND OF FUNDS

As the number of crypto funds explodes, fund of funds have become interesting, too. A former Fidelity Digital Funds executive is launching one called Dual Worlds focused on digital assets, to back venture and hedge funds. Michael ZInaman is looking to raise between $50-100 mn.

Tom Brady's NFT platform Autograph raised $170M in a series B round led by Andreessen Horowitz and Kleiner Perkins.

Until next week!

Disclaimer: The views expressed in this newsletter are my own and not intended as financial advice or a recommendation, but only for informational purposes. You should carry out your own independent research or consult a financial adviser if you are unsure. Please also be advised that I hold investments in some of the assets mentioned in this report, including digital assets, equities and ETFs.

Martha Reyes Jan 25, 2022

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