Monthly Update || March 2020

Opening Remarks

Greetings from inside Ikigai Asset Management headquarters in Marina del Rey, CA. We welcome the opportunity to bring to you our eighteenth Monthly Update and hope these are helpful in better understanding some of what we’re doing and what we’re seeing. We have the privilege of deploying capital on behalf of our investors into a new technology and asset class that we believe will fundamentally change the world and create trillions of dollars of value in the process.

We believe we are obligated to be shepherds of this technology – to help the world better understand the powerful potential of DLT and crypto assets, and to fund and be an ambassador for DLT projects that will change our lives forever.

To that end, a raging secular bull market for crypto was brought to a screeching halt in February by a drastic macro de-risking in response to Coronavirus, a situation we discussed at-length last month, but which materially worsened through February. Traditional markets’ reactions to Coronavirus were of superlative magnitude – the fastest 10% decline in the S&P 500 EVER. US Treasury Yields plummeted to the lowest level EVER. VIX weekly spiked the most EVER. China February PMIs were the worst EVER. February YoY car sales in China were down *92%*. By many measurements, the last week of February was the worst week for financial markets since the depths of the financial crisis.

Corona appears likely to get worse before it gets better. At time of writing, there is a high degree of uncertainty as to the general direction traditional markets will take in the coming days and weeks – a topic we will dive into in more detail below.

Crypto broadly and Bitcoin specifically held in impressively well given the macro backdrop – in our view a testament to how bullish the Bitcoin-specific story is going into the halving. BTC was -8% in February. If you told me the VIX was going to go from 18 to 40 in a month and the stock market would have its worst week since the financial crisis, I would’ve told you BTC would be down a lot more than 8%. If you’ve been reading these Monthly Updates, you know we’ve talked about this a lot in the past.

“If the VIX goes to 35, BTC price will likely decline significantly.” – 9/1/19

“Bitcoin is undoubtedly a risk asset right now, and it behaves as such. But it is a risk asset with a specific set of investment characteristics, which become more attractive as insurance against global central bank and governments monetary and fiscal policy irresponsibility.” – 3/1/19

“For now, crypto still acts as a risk-on asset” – 1/1/19

This setup makes the near-term crypto market environment especially tricky to navigate. On one hand, BTC has shown strength in the last month. If the SPX indeed bottomed on Friday with that aggressive bounce into the close, BTC should fair very well in March. On the other hand, if the risk-off, sell everything environment continues into the next week, BTC may owe a little extra downside to “catch up” to the rest of the de-risking seen in other asset classes.

While near-term uncertainty abounds, we are confident the next move for BTC will likely not be predicated on crypto-specific fundamentals or crypto-specific market regimes. Instead the global macro environment will dictate BTC in the near term. Will crypto-specific quantitative data still be able to shine a light on the next move, even if that next move is dictated by 10yr yields and VIX’s? Perhaps. Not to talk our book, but this an environment where a systematic approach with a discretionary, top-down overlay can shine.

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February Highlights

• Bitcoin Price Has “Golden Cross”

• Fed Chair Powell Testifies to Congress About CBDCs and Libra

• Treasury Secretary Mnuchin Testifies to Senate That FinCEN Is Rolling Out Crypto Regulations Soon

• Swedish Central Bank Begins Tests Blockchain-based Digital Currency

• Shopify Joins Libra Project

• SEC Commissioner Peirce Proposes 3-Year Safe Harbor for Token Sales

• Bitcoin Lender BlockFi Raises $30m Series B

• Coronavirus Delays Launch of China’s Digital Currency DCEP

• JPMorgan in Talks to Merge Blockchain Business with Consensys

The Fastest 10% Decline in S&P 500 History

We’re not going to go into detail analyzing the Coronavirus itself here. It’s outside the scope of this Monthly Update and there has been and continues to be a truly stunning amount of analysis from every angle elsewhere. Instead, we’ll present some markets-focused analysis and share some of our views of what may be in store.

First off, that was the fastest 10% decline in the S&P 500 ever.

The VIX closed the week at its highest level since September 2011 and in the top few % of all weeks on record. It was the largest weekly spike in VIX history. The market is scared.

Could the market be overreacting? Perhaps. Below shows the spread between the highest priced VIX futures contract and spot VIX, which is to say spot VIX is deeply overbought relative to the rest of the VIX curve. This could be 1) a sign the market is overreacting at the moment; 2) a sign that Coronavirus is transitory and will behind us in short order; or 3) an attractive arb opportunity and a mispriced VIX curve. TBD on which of those is correct.

US 10yr yields slammed to all-time lows. We believe this number is set to move lower in the coming months. As a reminder, the German 10yr yield is -0.60% and their economy is in a recession. 

The US 2yr yield collapsed to 0.93%. This while the Fed Funds rate currently sits at 1.75%. This is one reason why we feel confident the Fed will be cutting rates very soon.

The even bigger reason we know rate cuts are coming is because the Fed Funds Futures (FFF) are implying they will. At present, the market is implying a *95%* probability the Fed will cut not 25bps but *50bps* on March 18th. That probability was *0%* on February 26th.

As a reminder, the Fed has not surprised the market since the financial crisis. At every meeting since the financial crisis that the FFF have implied a hike, the Fed has hiked. At every meeting the FFF has implied cut, the Fed has cut. At every meeting the FFF has implied no change, there has been no change. You know the adage “don’t fight the Fed?” No one “doesn’t fight the Fed” more than the Fed. So if the market is telling them they’re cutting 50bps, they’re cutting 50bps. In fact, we think there’s good reason to believe the Fed may do a preemptive 25bps emergency cut prior to the March 18th FOMC meeting.     

We’ve discussed many times before that central bankers are running out of ammo with increasingly exotic monetary policies. Pushing on a string, so to speak. They need fiscal to keep the party going and they know it. So here it comes from China, Singapore, South Korea, Hong Kong and Italy.

And beginning Friday afternoon, Trump cranks up the fiscal rhetoric.

Along those lines, Jay Powell released a short statement Friday afternoon before market close. Powell says, “act as appropriate.” Market says, “give me 50bps now.” Wonder who will win that?

Trump watches the stock market every day. Trump really wants to get reelected. Jay Powell pretends to be objective but really just wants to make his private equity buddies happy. That’s a recipe for doing whatever it takes to make number not go down.

Jay Powell wasn’t the only central bank official talking this week -

• Clarida: “Monetary policy is in a good place and it is still too soon to even speculate about the impact of COVID-19 on the outlook for the US economy"

• Mester: “Monetary policy is well calibrated to support our dual mandate goals, and a patient approach to policy changes is appropriate unless there is a material change to the outlook”

• Evans: “It would be premature, until we have more data and have an idea of what the forecast is, to think about monetary policy action”

• Bullard: “The flip side of the equity selloff is a global flight to safety that has driven down U.S. Treasury yields, on its own a bullish factor for US economic growth that would keep borrowing costs lower”

• Lagarde: "The outbreak is not yet at the stage where it would have a lasting impact on inflation and, therefore, require a monetary policy response"

China’s economy has obviously frozen. The resultant skeletons that fall out of the closet, and the vigor with which that economy restarts, is anyone’s guess. But Coronavirus is going to crush China’s Q1 GDP which will have significant knock-on effects for global GDP. Here’s the start of that.

Another way to view that frozen economy – Chinese air pollution. Below are NASA satellite images of nitrogen dioxide density.

China uses a lot of oil. Oil supply/demand was already challenged before Coronavirus. It’s even more challenged now. Unless central bankers introduce globally coordinated rates cuts and QE right now, I would guess this has room to the downside.

This one’s a little noisy but bear with us. SPX in red. DXY in orange. Gold in blue. Inverted 10yr yield in purple. Bitcoin in yellow. From January 1st to current. Note how closely they moved in concert through most of this year. Note how hard everything sold off, including gold, the last week of February. Everything except Treasuries. When you’re really in a bind, ain’t nothin sweeter than some of world reserve currency-dominated government paper, amiright?

At the risk of cherry picking – same chart, January 1st through February 20th. Kinda crazy, right?

OK last one in this series. SPX vs BTC – December 23rd to February 21st. I know it’s great for pitch decks to show that BTC has been historically uncorrelated to other assets over any significant period of time. But its silly to think that will last forever. Eventually Bitcoin will get big enough and will start trading like something. Question is – what *should* it trade like?

Bitcoin naysayers love to point out that Bitcoin’s price often goes down when macro stress goes up. “Some store of value that is!” As a reminder, Gold got smoked in the depths of the financial crisis. And gold was down 6% the last week of February. When you get margin called, you sell everything. That’s how finance works.

To further that point, the S&P 500 Low Volatility ETF was down 11.8% this week, which was actually more than the S&P 500, down 11.2%. When you’re de-risking you sell everything. That’s how finance works.

Gold, or Boomer Bitcoin as we like to call it, is still -14% off its ATH’s in USD terms, but has made new ATH’s in the majority of other currencies. The world is increasingly looking towards safe havens – USD quite possibly being the safest of them all, for now.

So What?

Rate cuts are coming. If you waited until Monday to read this, they might have already come. It remains to be seen whether they’ll be enough to stop the bleeding in financial markets. Coronavirus headlines will get worse. They might get a lot worse. Economic data will get a lot worse – China PMI’s were just the appetizer there. Central bankers and politicians will be exceedingly accommodative with their monetary and fiscal policies to cushion the GDP growth decline resulting from Coronavirus because they are terrified to let any sort of recession take hold. They are acutely aware of how rickety the global financial system is, because they made it that way. So they’ll keep kicking the can by any means necessary in hopes that they can retire and cash out before the Jenga tower falls over. Eventually Coronavirus will likely be ok. A big GDP growth hiccup for sure, but it will likely be ok. The radical monetary and fiscal policies being put in place now and in the coming weeks will remain in place well after Coronavirus fears have abated.

Bitcoin is a non-sovereign, hardcapped supply, global, immutable, decentralized, digital store of value. It is an insurance policy against monetary and fiscal policy irresponsibility from central banks and governments globally.

Market Update – Liquid Crypto Asset Investing

February was a tale of two months for the crypto market – a strong +13% continuation of January’s stellar performance to start the month, only top out on February 13th as global risk-off took hold. BTC price slid 18% the last 16 days of the month to end up -8%. 

As previously mentioned, we view that -8% as very strong performance relative to what’s going on in the world right now. By many measures, BTC was overextended to the upside by mid-month, even if Coronavirus had never happened. Funding rates showed bulls were offsides. Contango showed bulls were offsides. Borrow rates for USDT showed bulls were offsides. BTC went up 50% in a more-or-less straight line the first six weeks of 2020. Then you served up the fastest 10% decline in SPX ever. 10yr yield at 1.15%. Largest weekly VIX spike ever. Even gold and silver sold off hard. Yet, as of time of writing, Bitcoin is holding its 50 Fib retracement of the move off the December 2019 bottom. That is impressive.

This puts BTC in a precarious position at the moment. There are a number of Technical Analysis indicators that point to a trend change already occurring, and that further near-term downside is in store. We believe the largest driving factor for near-term BTC (and Alt) price action is what traditional asset classes do. Put simply, if the SPX does not make a new low, if yields do not make new lows, if the VIX comes back in - this mid $8k’s level for Bitcoin will likely hold. If macro risk-off continues, BTC will likely go test demand in the high $7’s, high $6’s or potentially even the large line in the sand in the low $6’s. The halving is a strong narrative, but it is not reinforced steel. If the Tokyo Olympics are cancelled, Bitcoin’s near-term bull run likely will be as well.

Zooming in a bit more, should BTC continue to move lower as the world stays risk-off, these two scenarios could be how it plays out.

Eventually, the risks and sentiment around Coronavirus will stabilize and crypto-specific fundamentals will come back to center stage. Whether that is in the coming days, weeks or months remains to be seen. But when it does, charts like these will matter again.

BTC volumes continued to rise MoM in February, including a high-volume dump on February 26th. 

Despite Coronavirus likely causing significant mining business interruptions, Hashrate remains in a strong uptrend. To the extent BTC breaks down further from here, it would be reasonable to expect Hashrate to potentially come in as unprofitable miners shut down operations.

Last month we pointed out that cross-coin correlation had broadly increased off the mid-December price lows. We noted this was worth paying close attention to, as it was not what we expect to see in a bull market. Cross-coin correlation increased further in February and currently sits near all-time highs. In light of current market conditions and our expectation that further near-term weakness could be in store, this high level of correlation is confirmation this is not a healthy market at the moment.   

The aggregate Alt Market Cap increased 1% in February, significantly outperforming BTC at -8%. YTD, the aggregate Alt Market Cap is +45%, more than double BTC’s +20%. ETH is +70% YTD. XTZ +104%. To the extent there is near-term downside in BTC, we expect that downside to be exacerbated in Alts. We continue to look for, and broadly not find, compelling evidence of continual fund flows into Alts. We continue to look for, and broadly not find, Alts with compelling answers to the following questions:

• How ready is tech for the world?

• How ready is the world for the tech?

• What do you need decentralization for?

• How decentralized is decentralized enough?

We continue to keep a close eye on Alts. We have some exposure but not a lot. To the extent one or more Alts present compelling risk-adjusted return propositions, we will act accordingly.

Closing Remarks 

This time one month ago, BTC looked to have a straightforward path to higher prices leading into the halving. But the moves in traditional financial markets in February were of historic proportions and simply cannot be taken lightly. Is it an overreaction in the face of Coronavirus? Perhaps. But the contraction in Chinese GDP growth for Q1, which will metastasize to the rest of the world is real and substantial. The duration of that contraction and the velocity of the bounce back remains to be seen.

What is clear, is that central bankers and politicians are terrified of losing control of financial markets. They have backed themselves into a corner they can’t get out of. Asset prices around the world have become entirely reliant on cheap money and massive deficits. Over the last 11 years, on the back of the financial crisis, the global financial system has become weakened and fragile. Like an astronaut landing back on earth after being in space for a year, the global economy can’t stand up on its own.

Central bankers and politicians knew they were doing this when they did it – and they did it anyway. There was some pushback at the time from various parties, but it was cast aside. Instead the can was continually kicked again and again, with entire global financial system becoming more and more fragile with each kick. Will a highly contagious, somewhat lethal virus be the straw that breaks the camel’s back? The last Jenga block to be pulled? Honestly, I doubt it. Instead, it will be the cover central bankers and politicians need to impose increasingly more exotic monetary and fiscal policies, so the can can be kicked one more time. Let me be abundantly clear – this is a STUNNINGLY bullish backdrop for a non-sovereign form of money to gain mass adoption.

The sociopathy required to fix a series of popped bubbles by creating even bigger, and even more unsustainable bubbles will be the most lasting legacy of the Boomer generation. The recoil from this sociopathy will be one of the defining features of this decade and the decades to come. It will be a rallying cry of Gen X, Millennials and future generations to come. Bitcoin is intimately involved in this. 

Travis Kling

Founder & Chief Investment Officer

Ikigai Asset Management

P.S.

Included below is an incomplete list of memorable tweets from the last month. Twitter is not investment advice and my views could easily be wrong. That being said, like it or not, Twitter matters for crypto. I have no interest in being a talking head for a living and babbling about on Twitter is a long way away from being a good steward of investor capital. However, this is a community with open-source software in its DNA, and participants want to crowd-source the truth. We believe we have built a team and a process that will produce these truths more quickly and more clearly than our competitors. We are shepherds of this technology. Answers to fundamental questions about this asset class are not currently clear, so having a public platform to share your views with the community is important. After all, you’re helping shape the future :) 

1. Ikigai Asset Management is the trade name for a collection of advisory and consulting businesses operated by Travis Kling, Anthony Emtman, and their team.

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