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November 27, 2020

Weekly Market Wrap

As mentioned in the recent commentary, narratives are evolutionary in nature and this is especially true for nascent products such as digital assets. Various narratives have been discussed at great length and what started off as a non-correlated asset, has morphed into something that is akin to a risk asset, whilst others (Deutsche Bank in this case) point out Bitcoin’s increasing demand to use Bitcoin where gold was used to hedge dollar risk, inflation and other things. However, it is one thing for narratives to evolve and another to run around and play musical chairs.

The views of Bitcoin maximalists very rarely resonate in positive light across the more traditional investment community. Yet, one specific group of asset allocators that has a particular affection towards the yellow metal (gold), has also shown some degree of compassion and even a willingness to appreciate what Bitcoin has to offer from its economic design perspective. The anti-inflationary stance, shared by the crypto community, has also been particularly welcomed.

As alluded to recently, a new dynamic has emerged and that is the growing interest in using Bitcoin to hedge against inflation, which appears nowhere to be seen based on the recent communique from the Fed, but also allocate Bitcoin with a view to capture upside (i.e. trade like a risk asset).

Of course, what is missing is the most prized quality that Bitcoin once had and that is its non-correlated appeal. Immediate question is could Ethereum take its place as the non-correlated asset or even better, could Decentralised Finance (DeFi) based assets do this?

Going back to the subject of gold, it is worth remembering that the European Central Bank (ECB) and 21 other central banks that are signatories of the Central Bank Gold Agreement (CBGA) have decided not to renew the Agreement upon its expiry in September 2019.

The first CBGA was signed in 1999 to coordinate the planned gold sales by the various central banks. When it was introduced, the Agreement contributed to balanced conditions in the gold market by providing transparency regarding the intentions of the signatories. It was renewed three times in 2004, 2009 and 2014, gradually moving towards less stringent terms.

Since 1999, the global gold market has developed considerably in terms of maturity, liquidity and investor base. The gold price has increased around five-fold over the same period. The signatories have not sold significant amounts of gold for nearly a decade, and central banks and other official institutions in general have become net buyers of gold. The signatories confirm that gold remains an important element of global monetary reserves, as it continues to provide asset diversification benefits and none of them currently has plans to sell significant amounts of gold.

Looking at the market price action this week and a combination of factors including holidays in the US, exacerbated the de-risking heading into expiries. As a result, some degree reports that Coinbase is to suspend all margin trading due to recent regulations by the Commodity Futures Trading Commission (CFTC), saw Bitcoin dramatically collapse from its recent highs. The velocity of the aforementioned unwind was such that Bitcoin, having traded just a touch away from an all time high, fell well into the low $16,000 area.

The futures structure was particularly stretched during the rally and thus compression of the spread was due, timing the market is of course notoriously difficult. Nevertheless, unless the open interest (OI) on the CME and other stablecoin margin venues aggressively reverses course in the new month, the base scenario is that the market will remain supported going forward.

Similarly, Ethereum endured a comparable price collapse and even the recent development that enough funds were allocated to trigger the activation of Ethereum’s most ambitious upgrade yet failed to stop the cascade.

As a reminder, the Ethereum 2.0 deposit contract, which was released in early November, has accrued more than 540,000 ETH (worth over $325 million) late Monday night, ensuring that the beacon chain for Ethereum 2.0 will launch next week, formally beginning the second-largest cryptocurrency’s shift from a proof-of-work consensus mechanism to a proof-of-stake; one hopes of solving a number of issues, including scalability.

Furthermore, the Ethereum Foundation had previously set a soft launch date for Dec. 1. Broadly speaking, this is also very bullish development for all things DeFi as the eventual transition to PoS, alongside various upgrades will enable greater network scaling, With that, cheaper transaction and more efficient running of the network.

On the topic of DeFi, liquidity mining and various other incentives that appear to be in abundance, and all of which have been criticised at one point or another by non-crypto based market participants, ought to look at the recent communication by Snapchat. There the messaging app Snapchat announced that it is offering a share of $1mln to its users every day as it tries to compete with TikTok on viral videos.

Its new Spotlight feature will use an algorithm to recommend “the most engaging” posts to watch based on what a user is interested in. Snapchat says the feature will include people with “private, personal accounts” as well as its biggest stars. The $1mln-a-day payment would run until at least the end of the year, it said. But if successful it could potentially continue into 2021, the company said. Videos have to be submitted to the scheme to be eligible for the earnings. How much a video makes for its owner depends on a complicated formula – but includes how many views the video has. All in all, not so different from liquidity mining…

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