"That’s Our Two Satoshis"  — Arca’s Guide for Investing in a Digital Assets Bull Market

Jeff Dorman, CFA
Aug 17, 2020
Thats Our 2 Satoshis LogoWhat happened this week in the Digital Assets markets?
Week-over-Week Price Changes (as of Sunday, 8/16/20)
Bloomberg Galaxy Crypto Index
S&P 500
Gold (XAU)
Oil (Brent)
Source: TradingView, CNBC, Bloomberg
Societal Value Favored Over Shareholder Value; Bitcoin Favored Over Cash
Since introducing the concept of the four types of digital assets, we have spent a disproportionate amount of time educating investors on the three least well known categories (protocols/platforms, asset-backed tokens, and pass-thru securities). We don’t intentionally gloss over “Money/Cryptocurrencies”, but we spend much less time on it simply because it’s the least interesting bucket from an investing standpoint (Bitcoin plus a handful of what we consider to be inferior competitors). However, corporate finance departments around the globe are about to make cryptocurrencies much more interesting in the coming months and following years.
Before we dive into Bitcoin, let’s review one of Arca’s mid-year predictions:
Less than 2 months later, we’re beginning to see several examples of increasing societal value, though we were wrong about this hurting shareholder value. RBC recently found that 40% of S&P 500 companies discussed diversity, equality and inclusion during second quarter earnings calls, up from 4% in the first quarter, and 6% during the same quarter a year ago. That is a very large and encouraging jump. Perhaps more encouraging, shareholders are rewarding the companies that are doing the right thing. According to Bloomberg:

“Companies that responded to the pandemic by hiring staff rather than shedding workers saw an average 18% increase in their share price relative to their peers in the first six months of the year; those that offered financial help to employees did about 5% better. And the stock prices of companies that closed stores and laid off people trailed those of their peers by 10% or more.”

Doing the right thing has never felt so good. And corporate finance departments are always paying attention to what their competitors are doing, and what drives their stock prices higher. With that in mind, a small business intelligence company, Microstrategy, announced last week that it purchased 21,454 Bitcoin as part of its capital allocation strategy (~$250 million). The purchase was done in an effort to “maximize long-term value for shareholders”, and the CEO went on to explain the investment thesis:
“This investment reflects our belief that Bitcoin, as the world’s most widely-adopted crypto, is a dependable store of value and an attractive investment asset with more long-term appreciation potential than holding cash.”
MSTR stock jumped 20% following the announcement last week, most likely leading to long weekends for junior employees at corporate finance departments around the world as they furiously research Bitcoin. Remember back in 2017 when companies would go out of their way to mention “blockchain” on earnings calls even with no knowledge or intention of how to actually use blockchain, simply because the market was rewarding companies for being ahead of the technology curve? Get ready for Bitcoin redux.
Source: Bloomberg
In a twist of fantastic irony, just as some corporate Treasurers turn to Bitcoin to protect against inflation, the US Treasury department is now begging people to use the analog coins that they have made worthless due to inflation. Poetry.
Of course, every corporate Treasury department has different views and goals, and it’s certainly not our place to opine on whether or not this is a smart investment strategy for Microstrategy or others. However, aside from the investment potential of Bitcoin, it is worth pointing out another advantage of this strategy that was largely ignored by the media’s coverage. Lost in all of the discussions about investment gains is the utility of Bitcoin (and other cryptocurrencies).
Owning cash on the balance sheet is actually quite onerous. Corporations with high cash balances and international operations are required to keep multiple global checking accounts, all of which operate with different banking hours. When sending this cash, these banks usually charge companies expensive wire fees, which also tend to have delayed settlement (not to mention weekends being a complete dead end). Plus, corporate Treasurers must try to earn a yield on their float, which often means parking this cash in various money markets or other yield bearing instruments. Whereas owning just Bitcoin or ArCoin on a company’s balance sheet can reduce their reliance on third parties, lower transaction costs, potentially increase yield, and increase payment flexibility. The stock market may not be rewarding companies for pursuing this angle yet, but we expect this to be a nice byproduct of a corporate finance department entering the digital world.
Digital Assets are Looking a Little “2016-2017”-ish
We will never use the term “alt season”, as the term “altcoin” by itself makes little sense, and to proclaim fast growth in digital asset prices as a “season” implies a forgone conclusion. That said, there are certainly more digital assets than usual experiencing double (and sometimes triple) digit weekly moves, prompting digital asset investors to get overly excited.
Of digital assets with over $25 million in market capitalization, 47 rose more than 20% week-over-week, and 6 moved by more than 100%, compared with only 16 digital assets that fell by over 10% w-o-w.   Some prices are spiking so fast for no reason that they’re beginning to look like… well… the US equity market. At one point during the week, one of our portfolio team members said, “I'm on the phone with a friend who just said ‘I've been buying Orchid (OXT) lately just because it's the smallest market cap token by a wide margin on Coinbase.’” Naturally, OXT rose by almost 300% later that week.
This is the type of “analysis” that fuels digital assets naysayers. And of course, not every investor in this space invests in such a loose fashion, as there are plenty of real, value-accruing tokens that have moved up in similar fashion this year prior to the euphoria, and for much more valid reasons. That said, this type of loose investing is not uncommon in other markets either. I told this Orchid story to a prominent debt/equity hedge fund manager and, without skipping a beat, he responded, “We’ve made investments with plenty of worse theses than that.” This is not to suggest that funds don’t do proper due diligence on their investments, but it is to remind everyone that not all investments are created equal. A small “call option”-like trade based on relative value or market psychology is commonplace during a bull market. In fact, Sterne Agee (now part of Stifel Nicholas), built an entire business model around writing 1-page investment reports on new High Yield bond issues just to give CYA insurance to funds who could point to “research-based investing” when all they were really doing was buying hot deals and flipping them back to Sterne Agee for a “risk-free” 2-3 pts of profit. There’s nothing wrong with a little euphoria, so long as risk management takes precedence over chasing profits.
Arca senior trader, Sasha Fleyshman, created a little ad-hoc internal rulebook on how to survive a market like this, channeling lessons learned from 2016/2017.
  • Balance the need/want to sell when your price target hits with the desire to hold, because tokens are likely to move much higher than your price targets.
  • Your upside/downside targets will never be right. Widen the standard deviation of expectations.
  • Don't chase investments that you don't believe in; there are thousands of investment opportunities but only a handful that will pass investment committee.
  • If you chase something that you DO believe in and it doesn't work, sell and move on. A good company may not be a good investment in this environment if you’re forced to pay higher multiples and prices.
  • Turn off your computer, play with your kids/dog/videogames. Watch the NBA playoffs. A 24/7 trading environment with massive price swings can be mentally taxing. Don’t let it eat you alive.
  • Never look back if you take profits.
  • Enjoy it. This is temporary, and it will end at some point. This is not the new normal -- every investment environment is different, and this particular environment is not built for the long run. That said, nobody knows when it will end, and there may be a lot of gains to be made until it does. But be ready to hop off the merry go round at a moment’s notice.
For those new to this space, these are exciting times.   Like equity markets, there will be just as many naysayers as there are happy and profitable investors. The key, as always, is disciplined risk management.
Notable Movers and Shakers
The last few weeks in the market have been quite riveting - entire sectors are being revalued, infrastructure is developing at a rapid pace, and if you dare to sleep you may just miss the newest product to hit the scene. Two things are beginning to take hold this week: there is a lot of ‘gish gallop’ being used to try to discredit the price movements, and there is a certain degree of apophasis among market participants. Both of these are normal during a market frenzy; everything is moving so fast and the Herculean task of being on top of each individual project and news piece leaves many frustrated. This week we focus on two very different events that we deem notable (acknowledging that there are many more as of late):
  • Numeraire (NMR) was tapped to be the next beneficiary of the “Coinbase listing” event on Wednesday, just months after Numerai closed a $3M round. The token was previously only available on relatively illiquid exchanges, so this liquidity event is particularly notable: NMR finished the week up 162%. Early this morning, Binance followed suit, which sent the token up another 30%. This has become a theme as of late, as VC-backed projects with little exchange liquidity are catching the eye(s) of exchanges. There is nothing to suggest that this trend will dissipate in the near future, especially as centralized exchanges (CeFi) look to claw back the slice of the pie decentralized finance (DeFi) stole away in the last few months.
  • Chiliz (CHZ) CEO Alexandre Dreyfus announced via Twitter on Tuesday that four new Fan Token Offerings (FTOs) will be offered on August 25th. Their previous FTO for FC Barcelona in June sold out in under two hours, with the website crashing due to large inbound demand. Also announced last week was Socios app being approved by Apple, launching a Visa card to ‘empower and reward’ sports fans, and a live Keynote happening this Tuesday. Chiliz seems to be hitting their stride right, as sports are starting to come back, and the market reflects that: CHZ finished the week up 41%.
What We’re Reading this Week
MicroStrategy, a Nasdaq-listed business intelligence company, purchased 21,454 Bitcoin as part of its capital allocation strategy (~$250 million). The purchase was done in an effort to “maximize long-term value for shareholders”. The CEO went on to explain the investment thesis: “This investment reflects our belief that Bitcoin, as the world’s most widely-adopted crypto, is a dependable store of value and an attractive investment asset with more long-term appreciation potential than holding cash.” We don’t believe this will be the last public company to announce such a bold plan during uncertain economic times.
In a speech last week, Governor Lael Brainard announced the Federal Reserve is building an experimental digital dollar to better understand digital currencies. Brainard stressed that the Fed does not have the power to issue a digital currency and doing so would require a “separate policy process”. At this point, the Fed’s goal is to research and comprehend the implications of a digital dollar to prepare for when it is time to issue one. The Fed’s primary concern is maintaining the US Dollar as the world reserve currency as other countries race to develop their own central bank digital currencies.
Last week, Facebook announced a new group, Facebook Financial or F2 for short, which will be pursuing the social media giant’s payments and commerce opportunities. The group will be responsible for Facebook Pay, the initiative to offer payments within all of Facebook’s messaging apps, and Novi, the digital wallet project to house the Libra cryptocurrency. Overall, Facebook plans to better integrate all of its applications across Facebook, Instagram, and WhatsApp in an effort to drive purchases directly through its app and increase advertising revenue in the process. Such an integration could drive usage of all payment types including traditional fiat, the Libra currency and even Bitcoin.
South Korea Is Going ‘Blockchain Everything’
South Korea has long been on the cutting edge of new technologies but this week two developments are putting it lightyears ahead in the blockchain sector. One of the biggest commercial banks, in conjunction with the state backed highway operator, is incorporating blockchain-based toll payments on the country’s highways. Toll payments will happen through the bank’s mobile app reducing credit card and cash payments, which have been on the decline since the Covid-19 outbreak began. In addition, over 1 million South Koreans have now opted to forgo a physical driver’s license in exchange for a blockchain-powered digital version. The project was launched a few months ago by the National Police Agency and the Korea Road Traffic Authority. Both developments represent giant strides in implementing blockchain technology into citizens' everyday life.

And That’s Our Two Satoshis! 
Thanks for reading everyone!   
Questions or comments, just let us know.  

The Arca Portfolio Management Team
Jeff Dorman, CFA - Chief Investment Officer
Katie Talati - Head of Research
Hassan Bassiri, CFA - PM / Analyst
Sasha Fleyshman -  Trader  
Wes Hansen -  Head of Trading & Operations
Alex Woodward- Analyst
To learn more or talk to us about investing in digital assets and cryptocurrency
call us now at (424) 289-8068.




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