Connecting the Dots
Episode 58 - Prepare for an Explosion of Liquidity
Welcome to the new subscribers that have joined us over the last week. The aim of this newsletter is to help you navigate the world of crypto. There’s an incredible amount of information out there so we try to distil it into the things you MUST know each week, covering both macro and crypto.
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Onto the newsletter. Here’s what you’re getting this week:
Macro Update: Central bank watching once again, Chinese authorities to shore up the economy and the window for “normalisation” of policy is small and is closing in quickly on the Fed.
Crypto Native News: Figure Technologies looks to issue regulated interest-bearing stablecoin, Sygnum raises $40m
Institutional News: The BIS launches 6 new projects in its Innovation hub, the Bank of England releases a response to its digital pound consultation paper, the SEC says just a bitcoin ETF for now and FINMA approves a tokenised securities and digital assets trading platform
Charts of the Week: Bitcoin Sharpe Ration remains high and correlation to the S&P drops, annualised interest on the federal debt now exceeds $1tn.
Top Jobs in Crypto: Featuring LSEG, Fracas Web3 Studio, Moneturn, Ledger, XBTO and Blockdaemon
Macro Update
This is where we connect the dots between macro and crypto.
Prepare for an Explosion of Liquidity
Equities continued to make new record highs this week, with US data painting a “goldilocks” view of the economy. US Q4 GDP coming in at 3.3% Vs a consensus of 2%, whilst core PCE on the quarter came in at 2% in line with the Fed’s target. Core PCE YoY meanwhile came in below consensus at 2.9% with the 6 and 3 month annualized rates at 1.9% and 1.5% respectively.
The Fed now risks undershooting its inflation target of 2%, something we have been suggesting was likely, as the lagged impact of the previous tightening starts to hit more forcefully in 2024. Indeed, we believe there is a risk of deflation this year and maintain our view that the Fed will make its first rate cut in March, a probability the market now has priced less than 50%. As inflation comes lower, real rates become ever more restrictive and the Fed has plenty of cover to start cutting.
Having that cover is important as the Fed is aware of the potential liquidity issues building below the surface and the need to act pre-emptively. US debt has hit an inflection point and is spiralling out of control. Annualized interest costs are now at $1trn 🤯.
Janet Yellen will announce the quarterly refinancing plans this coming week and we expect her to again skew the bond issuance towards T-bills, to continue to drain the RRP, which fell another $55bn this week to now stand at $570bn. Once that hits zero, pressure will build on front end rates (as the system runs out of cash to take down the bill supply) risking a potential funding rate squeeze as yields explode higher. We have been warning about this since November and suggested that the Fed will have to either cut rates, or end QT and probably a mix of both in order to keep yields anchored and help fund the US deficit. The QT taper we therefore expect to be announced at this week’s FOMC and a March rate cut kept very much on the table. Some form of QE will follow as the Fed is the US debt “buyer of last resort.”
Adding to the complications are the banks which continue to sit on HUGE unrealized losses from their bond holdings (if only they’d been buying Bitcoin in 2020 instead of zero yielding government bonds!) The Fed announced on Wednesday that the Bank Term Funding Program (BTFP) will end on March 11th. This program was put in place during the regional bank crisis last year and allows banks to borrow money against their bond holdings, but with the bonds marked at “par” and not the real mark to market value of those bonds, which is substantially lower.
Now, we don’t share the concerns expressed by Arthur Hayes for an immediate bond blow up post the March 11th deadline. These loans are for 1 year, so the repayment schedule will be spread out over the year and not be a “big bang” event. Deposit outflows have also stabilised, so there’s not the same level of urgency for regional banks to find the liquidity to meet the outflows. Of course, that could quickly change if confidence in the regional banks liquidity and solvency starts to wobble. However, if front end rates come lower and bonds rally, then the pressure on the bank balance sheets should start to alleviate. For the Fed to end the BTFP, they must be planning on engineering a lower rate regime.
Meanwhile, China has stepped up efforts to shore up the economy and stabilise the stock market, with a proposed $2trn Yuan ($280bn) package, mobilising funds from off-shore accounts of state-owned enterprises as part of a stabilisation fund to buy shares on-shore. This was followed up with a 50bp reserve ratio rate cut, a move that will inject circa $140n into the banking system.
Whilst all the focus has been on the net BTC ETF flows, China has been a strong, additional headwind to Bitcoin over the past couple of weeks. With a slowing, deflationary economy, sprawling property crisis and stocks getting hit hard, China is battling underlying currency weakness and capital outflows. It’s important however that China stabilise the currency and deter capital flight to maintain a “veil of stability.” With restrictions on the capital account, Bitcoin is one conduit for capital to leave China and therefore China is highly incentivised to keep a lid on Bitcoin and drive it lower. Domestic currency weakness has frequently coincided with Bitcoin under performance.
It was interesting therefore that following the rate cut, the Yuan rallied as the “portfolio effect” of reversing capital outflows outweighed the interest rate divergence vis-a-vis the US. Should this dynamic persist, it typically drives broader USD weakness and is a positive tailwind for Bitcoin.
As we head into this week’s FOMC decision, the key takeaway from this piece is that Fed policy is about so much more than simply the economy. It’s integral to the financial system plumbing and the need to maintain sufficient liquidity to artificially inflate the assets which are the collateral underpinning the entire system.
The window for “normalisation” of policy is small and is closing in quickly on the Fed. We’ve caught back up with the debt can that was kicked down the road in 2020/21 and the Fed needs to keep yields suppressed which will eventually require US debt to be taken back onto the balance sheet. Between the Fed and China, this market is unprepared for the explosion of liquidity that’s set to be unleashed in 2024.
Native News
Key news from the crypto native space this week.
Financial technology company Figure Technologies is seeking approval from US regulators to introduce an interest-bearing stablecoin. According to a draft registration statement submitted to the SEC, Figure wants to register the token under the category of “face amount certificates”, a sort of fixed income security, and make the stablecoin available to U.S. retail and institutional investors. stablecoins are typically pegged to the U.S. dollar but Figures token by contrast, would be redeemable at 1% certificate, rather than $1, and interest would accrue daily and be paid monthly to the user.
Sygnum, a crypto banking group based in Switzerland, closed a $40 million round this week, which valued the firm at $900 million. Mathias Imbach, Sygnum’s co-founder and CEO, said in a press release on Thursday “Closing a successful funding round in this macro environment with such strong partners is exciting, and we are thankful for our investors’ trust in us,” “Our strategy to build trust via regulation and good governance has guided us throughout all market cycles.” The company says it plans to use the proceeds to expand its offerings into new markets in Europe and Asia.
Institutional Corner
Top stories from the big institutions
The Bank for International Settlements (BIS) announced six new projects as part of its 2024 Innovation Hub work program. These included projects involving cyber security, fighting financial crime, central bank digital currencies (CBDCs) and green finance. The Bank for International Settlements (BIS) Innovation Hub intends to launch a blockchain-based tokenisation project and further develop its central bank digital currency (CBDC) privacy testing program. One of the BIS's new initiatives is called Project Promissa, which represents a collaboration involving the BIS, the Swiss National Bank, and the World Bank. Its objective is to develop a proof-of-concept for a platform designed to facilitate digital tokenized promissory notes. Another announcement from the BIS Innovation Hub is that its Hong Kong Centre is set to continue with Project Aurum, which is studying the privacy of payments in retail CBDCs. Read more details from the BIS HERE.
This week, the Bank of England released a response to the Bank of England and HM Treasury Consultation Paper − The digital pound: A new form of money for households and businesses? As part of the Summary, the Consultation Paper set out that the Bank and HM Treasury judged it likely that a digital pound would be needed in the future, and so further preparatory work was justified. The Bank and HM Treasury received over 50,000 responses to the consultation, demonstrating widespread interest in a digital pound and engagement with the proposals. Many respondents to the Consultation Paper raised concerns about the implications of such a digital pound for access to cash, users’ privacy, and control of their money. Recognising the critical importance of building the public’s trust in a digital pound, this Consultation Response seeks to assure respondents of the steps the Bank and HM Treasury are taking to put in place safeguards in the design of a digital pound before any decision is made. Read full details from the Bank of England HERE.
Securities and Exchange Commission (SEC) Chair Gary Gensler said on Wednesday that the agency's move to approve several spot bitcoin exchange-traded products earlier this month was limited to just bitcoin ETF. There has been much talk of Ethereum ETF’s to come in the coming months. Speaking on the Subject Gensler said "As I said two weeks ago, that which we did with regard to bitcoin exchange traded products is cabined to this one commodity non-security and shouldn't be read to be anything other than that," Gensler also said there is now better disclosure for investors when it comes to the bitcoin funds. "In that light, there's also better disclosure," "They're listed on stock exchanges now rather than trading in over the counter markets. There were 10 or 11 that went live at the same time that brought a certain amount of competition. You've seen some competition that investors benefited from lower fees."
The Swiss Financial Market Supervisory Authority, known as FINMA, has approved a retail trading platform, enabling retail users to trade tokenised securities and digital assets. Taurus, a digital asset infrastructure for banks and institutions, is now extending its TDX trading platform to retail investors. Yann Insola, TDX Head of Product said “Private markets 2.0 shall be digitised, so that buying a private security becomes as easy as buying a book on Amazon.”
Charts of the Week
Because charts are just as important as macro.
Bitcoin continues to hold up as an aspiring asset class. Based on weekly returns, its Sharpe Ratio continues to be at the top of the pack (left), while its correlation to the S&P 500 continues to be moderate (right). Hat tip to Jurrien Timmer for the chart.
Annualised interest on the federal debt now exceeds $1 trillion and is projected to breach $3 trillion, annualised rate, by Q4 2030. Hat tip to EJ Antoni for the chart.
Top Jobs in Crypto
Well, we all want to work in Crypto don’t we. Here’s a bit of help on your job search!
Senior Blockchain Engineering Lead at LSEG
Web3, NFT and Crypto Market Manager at Fracas Web3 Studio
Crypto Content Editor at Moneturn
Customer Success Specialist at Ledger
Intern/Grad - Sales Development Representative at Blockdaemon
DISCLAIMER: The content in this newsletter is not financial advice. This newsletter is strictly educational and is not investment advice or a recommendation to buy or sell any assets or to make any financial decisions. Crypto markets are volatile, please be careful and do your own research.