What happened this week in the Crypto markets?
Price is a bad indicator of growth
Over the past 10 years, we’ve become pretty accustomed to the “Bad news is good news” narrative in stocks. With a US government shutdown, an unknown reversal of Brexit, and a slew of negative economic data causing recession risks to rise, it should seem natural that stocks gained for a fourth straight week. Of course, the crypto markets don’t have Central Banks and unlimited leverage to prop up markets. And without the luxury of this moral hazard, the constant barrage of negative news since November continues to weigh on crypto assets. As the size of the overall market shrinks further (now under $120 billion in total market cap), liquidity is drying up across all digital assets not named Bitcoin, with bid/ask widening and market makers disappearing.
But price is a bad indicator of growth. When we offer our two Satoshis each week, we do our best to stay rationale and keep things in perspective. Using just about any measure of “success” other than recent price, crypto is succeeding.
- As an asset class, crypto is approaching a near-zero correlation with other risk assets, giving investors a viable option to improve the Sharpe Ratios of an otherwise balanced portfolio. Systemic risks to the global financial system are real and rising, and crypto operates outside of the traditional interconnected banking system.
- Over longer time horizons, crypto prices are up… quite meaningfully (up 7.7X from 2 years ago; up 19.7X from 3 years ago; up 32.6X from 4 years ago).
- Bad projects and bad token structures are being weeded out; while new projects with better teams and better investor protections are launching.
- Talent continues to flow into the ecosystem, with 429 crypto startups recruiting on AngelList and a slew of Wall Street veterans joining established crypto finance teams.
So the question isn’t “how big can this market get?”… it’s well documented that the real money hasn’t flown into crypto yet. The question is, “what is the next catalyst that will drive adoption of crypto projects, and thus, cause meaningful price appreciation to continue?” That’s a difficult question to answer right now, largely because many crypto projects seem so far away from mass adoption. So many projects rely on other projects, and when none of them are complete, it can seem like a circular exercise. It’s the equivalent of Uber trying to launch its service at the same time that cars were being built — it would have been quite difficult to realize the potential of Uber before the car was invented, but that’s exactly what is being done in crypto right now. Many protocols, projects and apps need a lot of other things to be completed before their own vision can be realized. And that’s not a bad thing; it just makes it harder to analyze.
Bad news actually can be good news in crypto
So with this backdrop, what can we ascertain about price? Well, bad news actually IS becoming good news, but not because of the moral hazard that equity markets rely on. Bad news is just baked in at this point, leaving nothing but upside when the bad news is sorted out.
Two examples from last week illustrate this point:
1. The Ethereum (ETH) “pre-announcement”
Last week, the long anticipated Constantinople hard fork, which included multiple upgrades to scale the Ethereum network (for a more technical breakdown read here), was once again postponed. While the price of ETH crashed 6% immediately upon the news, ETH actually rallied back and ended the week unchanged. While this was a setback, the Ethereum Foundation and the core developer community did a pretty good job of flagging the problem, being transparent about what happened, and coming up with a plan for next steps. Transparency always wins when managing expectations, and in our opinion, that’s why the price of ETH didn’t fall that much. There is so much negativity baked into failing or underperforming projects that a little bit of proactiveness goes a long way and prolongs the optionality of a positive event. This is similar to the negative pre-announcements that have become commonplace with public companies. Get the bad news out of the way, take your hit and watch everyone lower estimates/expectations, and then outperform when it’s time to actually report. Ethereum may be following this same public relations playbook.
2. Bad apps are now the good apps
Augur (REP) is one of the crypto projects that has delivered a real working app, instead of just promising to build something in the future. Of course, the problem with launching a live product is that you are now valued on actual production rather than hype, and by all objective measures, Augur does not have a lot of users. But REP tokens jumped over 100% in price last week following the announcement that a large VC firm invested in the tokens, on the heels of the launch of Veil, a 3rd party user interface designed to make Augur and other decentralized applications easier to use. Out of thousands of crypto projects, there are only a handful of apps that are even usable at this point, and the prices of these tokens have performed incredibly poorly over the past 12 months as the apps fail to gain real traction (REP, STEEM, ZRX, BAT to name a few). But history is filled with bad first impressions. LinkedIn was notoriously hard to use when it first launched. Even though the idea of LinkedIn made all the sense in the world, it took years and a lot of capital to improve the UI and UX before adoption really increased. In fact, studies have shown that good UI/UX has resulted in meaningful outperformance for the stocks of technology companies.
Using ETH and REP as examples, it seems there is a secular shift happening. With crypto falling out of favor in the past 12 months, those projects that have yet to launch may be losing the benefit of the doubt, while those that have launched, albeit underwhelmingly, may be back in favor. With a little focus on usability, these “oldies but goodies” could be what drives the next phase of adoption.
Only a select few have enough recognition to buy Uber before the car is built — but that’s the analysis that needs to be done right now.
Notable Movers and Shakers
This past week was quite volatile, but the magnitude of the moves proved to be much lower than previous weeks (trading in roughly a 5% intra-week range). Last Sunday crypto prices generically fell 5–10%, then rallied Monday, sold off Tuesday, rallied Friday, and sold off again on Sunday. The market is actually proving quite resilient despite a fair amount of negative news.
- Ethereum (ETH) fell a quick 6% after a security firm published a report concerning a security flaw in the new Constantinople upgrade. The Ethereum developers’ fast response time and decision to delay the hard fork kept the bloodshed to a minimum, and ETH ultimately ended unchanged week-over-week.
- Decentralized prediction market Augur (REP) shot up 116% last week on the heels of Veil’s launch. Veil is a technology platform built on top of Augur, 0x and Ethereum that is designed to bring prediction markets to the mainstream. User experience (UX) is one of the most important aspects that needs to be developed in crypto right now to encourage adoption.
- Steem (STEEM), the blockchain that underpins the content app Steemit.com, rose 42% last week. Interestingly, the token barely fell late last year following layoffs, and reports show that the site has lost 20 million visitors in the past six months. This jump in price may have been in response to the move in REP tokens — as the market is giving apps that actually exist more benefit of the doubt than apps that have yet to launch.
- Hot off Tron’s (TRX) 33% run up ahead of its annual niTRON conference, the smart contract protocol is ramping up efforts behind another project: BTT. BTT is the new token for BitTorrent, the decentralized file-sharing platform that Tron purchased last year. There’s been some controversy around the new token but its sale starts on January 28 and will be held through Binance.
- Rchain (RHOC) has been steadily declining in price since reports surfaced around the holidays that the project had grossly mismanaged their ICO proceeds. The token recovered last week and is up 38%, but still down 30% since December 20, 2018 (the day bankruptcy rumors began).
What We’re Reading this Week
HSBC announced this week that it had settled $250 billion in transactions using digital ledger technology. The firm reported that they have been testing the use of the system over the last year for internal transfers. Transfers comprised of foreign exchange transactions and reduced “significant inefficiencies”. We expect to see more announcements like these as firms look to harness DLT to reduce friction and administrative overhead within massive organizations.
As we enter day 30 of the government shutdown, it’s important to discuss how this seemingly political move has had repercussions for crypto. The launch of Bakkt’s Bitcoin futures exchange is currently awaiting approval from the CFTC and will be delayed until a 30 day comment window can be opened by regulators. Similarly, ErisX’s launch and ETF decisions are contingent upon regulator approval as well.
One of the largest issues hampering the growth of crypto as an asset class is the administrative headaches that accompany trading. OTC trading desk Genesis and custody provider Bitgo announced this week the integration of their services so customers do not have to withdraw their assets from cold storage in order to initiate a trade with Genesis. We view this as a step closer to much needed prime brokerage services, something that will catapult crypto trading into the same leagues as traditional financial services.
Binance launched a European-based exchange that offers trade pairs in British pounds (GBP) and Euros (EUR). CZ, Binance’s CEO, tweeted out that the response was overwhelming and they already had a KYC backlog. Once considered an unregulated player in the space, Binance has made a concerted effort to clean up its act and operate within existing legal frameworks. Meanwhile, BitMex is rumored to be under pressure from regulators and has begun closing accounts in Quebec and the US.
Axios put together statistics, charts and news that highlights how fragile the current financial system is. Although no one is panicking yet, a recession has been forecasted for as early as the end of this year. Investors may start to look to crypto as a recession-resistant asset that operates outside of the the banking system.
A study by Credit Karma found that there were $1.7b in realized and $5.7b in unrealized losses of Bitcoin to US Investors in 2018. Besides these frightening numbers, the survey also found that most investors do not plan to claim these losses on their taxes for last year.
Earlier this week an article from the Telegraph claimed that Russia had divested itself of its US treasury holdings in order to buy $10b in Bitcoin to avoid US sanctions. A buy order like this would massively move the Bitcoin market, which is currently only $64b. The Chair of the Russian State Duma’s Cryptocurrency group quickly disqualified these rumors as false.
A Los Angeles-based startup, Amalgam: The Blockchain Company, has officially partnered with the LA Clippers as the “Official Blockchain Partner” of the Clippers. Amalgam will be providing education on blockchain technology to Clippers fans through “activations” and events.
Arca in the Press & on the Street
- Arca recently hired, David Nage, to join the Arca team as our Head of Strategic Relations. He will be responsible for leading distribution efforts for the Arca Hedge Funds. David has 10+ years of experience managing various family offices, and has most recently focused educating sophisticated investors about the potential of crypto and blockchain.
- Arca CEO, Rayne Steinberg, will be speaking at the Oppenheimer Blockchain Summit on February 20th in New York. Steinberg and other panelists will discuss investing in the blockchain space and the issues they face investing in this new industry.
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 — Portfolio Manager
Katie Talati — Director of Research
Hassan Bassiri , CFA — Junior PM / Analyst
To learn more or talk to us about investing in digital assets and cryptocurrency
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