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A bear rally finish in May for equity and crypto markets

Jun 8, 2022

Macro overview

We finished May with a bear market rally in equity and a moderate dollar price. As summer approaches, investors should consider closely monitoring key spread markets for signs of decreased liquidity, which often brings about sharp movements in either direction, as well as risk indicators from related markets such as the volatility index (VIX), the dollar index (DXY), and oil (CL1). A strong dollar puts pressure on the economy, leading to a global liquidity squeeze. Furthermore, monetary policy easing is good for corporate credit and incremental improvements in the supply chain indicate green shoots ahead, but a full recovery is not likely to materialize in the short term. In early May, DXY reached 105, its highest level in 20 years (post dot-com recession), due to a combination of aggressive tightening from the Fed, broad risk sentiment, and other macro factors. However, we see the upside as relatively limited and expect it to soften in the near term, as long positioning dominates and DXY range-bound trading remains between 101 to 105, not likely translating into a breakout (Exhibit 1). Despite the FOMC blackout period ahead of the upcoming June meeting, the yield curve widened as long-term rates rose faster than short-term rates. This aggressive bear steepener, along with a strengthening dollar, trapped the S&P 500 in the 4,070 to 4,200 range. 

Exhibit 1: DXY (Dollar Index) vs. S&P 500 Volatility Index (VIX)

Source: Bloomberg as of June 6, 2022.

This week in Cryptoland...

Last week, equities climbed in Asia and Europe after China eased virus curbs and cryptoassets rallied in sympathy, leading to a mini short squeeze in Perpetual Protocol markets. While a 7%-8% bear rally is expected for BTC, June had a weak opening as BTC dropped back below 30,000 and ETH fell below 1,800, resuming their channel patterns with no breakouts. Yet BTC continued to dominate as fat-tailed altcoin assets suffered.

Though briefly turning positive between December 2021 and February 2022, Bitcoin’s correlation with the dollar index (DXY) is predominantly negative, currently at -0.4 over the last 30 days (Exhibit 2). As BTC’s “inflation hedge” theme faded away and negative macro events dominated the markets, investors fled to greenbacks for safety. Range-bound trading in DXY provides opportunities for BTC and cryptoasset investors to re-position their holdings and re-assess their risk appetites as bear rallies pop up.

Exhibit 2: DXY (Dollar Index) vs. Bitcoin (BTC)

Source: Bloomberg as of June 6, 2022.

Options

Counterintuitively, the short-lived spot BTC rally pushed volatility higher in the front end, reflecting shorts covering positions to manage assignment risk and pairing down deltas.

Spotlight on...

Solana (SOL)

Bitcoin and Ethereum, Layer One (L1) blockchains, currently run on a Proof of Work (PoW) network, which requires a lot of computational resources. While PoW ensures decentralization and security, PoW networks are also seen as inefficient and tend to slow down when the volume of transactions is high. This results in slower and more expensive transactions. To scale a L1 blockchain, the creators need to either increase block size or change the entire consensus mechanism to something more efficient, such as Proof of Stake (PoS). PoS substitutes staking for computational power, which eliminates the energy and storage costs that are associated with mining in PoW networks.

In 2017, Anatoly Yakovenko founded Solana Labs in order to establish a blockchain that had better security and “censorship resistance.” Solana uses both Proof of History (PoH) and PoS. Solana, at $14 billion market capitalization, introduced PoH, which applies a function generated by each transaction to link it to the network. PoH allows for greater speed in adding transactions to the network while not compromising security. Solana’s PoS confirms the current sequence of transactions produced by the PoH generator, for voting and selecting the next PoH generator, and for punishing misbehaving validators. The network is also designed to increase its speed, currently 65,000 transactions per second, as more computers are added. Within the Solana network, the SOL token provides users with network security, staking, and a system to transfer value. Solana is currently the most used blockchain due to its speed and close to zero transaction costs. As a competing L1 blockchain product, SOL has a positive 0.85 correlation to ETH.

Exhibit 3: ETH (Ethereum) vs. SOL (Solana)

Source: Bloomberg as of June 6, 2022.

Solana’s current inflation rate sits at 8% with a 15% annual reduction until it reaches 1.5%. Issuances are anticipated to be sent to validators, with 95% of issued tokens toward validator rewards and 5% reserved for operating expenses. Approximately 50% of the supply of Solana was allocated to insider investors and founders. Solana currently has 1,469 nodes in its ecosystem, with more than 74% of the tokens circulating supply staked to the network generating rewards.

Solana’s DeFi ecosystem currently has $3.8 billion in total value locked (TVL). Solana is not necessarily decentralized as more than 50% is held by insiders and 19 nodes hold more than one-third of the cumulative stake. In addition, as of September 2021, more tha 37% of staked SOL is held by validators and run on Amazon Web Services. Investors fear Solana has become too centralized and potentially at risk of insider dumps. Yet the future roadmap for Solana holds excellent potential due to its partnerships with Checkout.com, Citcon, and both FTX and Phantom integrations. In addition, Coachella is launching an NFT collection of the Solana blockchain with real-world value, including lifetime festival passes, guest passes, VIP passes, and other physical memorabilia.

Market Update

Tracking the weekly movement of the major cryptocurrencies

  • The biggest movers in the top 20 market cap coins were ADA (+20.24%) and SOL (-10.76%).
  • Bitcoin and Ethereum increased by 2.38% and 0.59% respectively this week. While not included in the chart below, USDC consistently tracks the US Dollar with 0% change.

Top 20 Cryptocurrencies - 7-day Price Change

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