Crypto Tests the Failures of Traditional Finance in Hyper-Speed, But It Will Be OK

What will be most interesting here is to see what is happening to bitcoin and other cryptos during these difficult times.

The last time I wrote about a stablecoin, it failed spectacularly. So when a colleague of mine suggested I write about MakerDAO’s proposal to invest in US Treasuries to support the DAI-backed stablecoin, it reminded me of the power I wield.

I’m kidding by the way. I don’t take myself seriously. But as long as we’re talking about spectacular failure, we should be talking about spectacular failure.

Just two weeks ago, this newsletter suggested that opaque, intertwined platforms with excessive leverage were a danger to crypto investors. It has been overshadowed by the bankruptcy of hedge fund Three Arrows Capital, but now Celsius and Voyager (two retail-focused yield-generating platforms) have launched restructuring plans.

That’s what you do when you’re screwed. Voyager even declared Chapter 11 bankruptcy — the “right kind of bankruptcy,” for the record (if any) — proving crypto is determined to play the mistakes of traditional finance at high speed. † Moreover, Blockchain.com is also about to lose $270 million by lending to Three Arrows.

Oh, and there’s a handful of other not-so-great crypto stuff happening right now that we’re getting into, but it’s going to be (somehow) okay.

That (and maybe more…) below.

–Georges Kaloudis

The economy is not doing well

The yield curve has inverted this week (see chart below). An inverted yield curve is often seen as a warning indicator of a recession. So on the surface it’s not great.

10-year government bond yield higher than 2-year government bond yield (TradingView)

Good, but what does that mean? Simply put, the US federal government sells bonds or treasury bills to investors like you to fund everything they do. These Treasury bills, in turn, pay you an interest rate or yield over a specified period of time. At the end of this period, the initial amount is returned to the investor. If Treasury bills look like loans, it’s because they are.

The amount investors expect to earn on this Treasury bill is higher the longer the loan lasts. Sounds logical. Your money is tied up for longer, so in exchange for that risk, you get more returns. So if you plot the loan maturity on the x-axis against the yield, you get a growth curve that looks logarithmic.

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Normal Yield Curve (Julie Bang/Investopedia)

Except when the yield curve inverts – which happened. Ten-year government bond yields are now lower than two-year government bond yields. Theoretically, this indicates that investors expect lower interest rates in the longer term. In practice this means that banks – which rely on loans at rates above the ‘risk-free rate’ (usually the yield on ten-year government bonds) to earn money – will lend less. And that will lead to a slowdown in economic activity.

Such is life in a debt-based monetary system.

Moreover, a rate hike of 75 basis points (bp) in July is almost inevitable at this stage. (For more on what this indicates, check out the more detailed post I wrote two months ago). According to the June meeting minutes of the Federal Open Market Committee (FOMC), nearly all FOMC members were in favor of an increase of 75 basis points. Federal Reserve Chair Jerome Powell told us that a 75 basis point increase was “unusually large.”

Two months in a row seems normal, but that’s just me. All eyes July 27.

Miners have problems

We talked about how mining companies may soon capitulate by selling some of their balance sheet bitcoins to fund their operations as they struggle, given the 2022 price performance mentioned in last week’s newsletter. And just like that, one of the largest miners, Core Scientific (CORZ), announced that they sold more than 7,000 BTC in June. CORZ didn’t perform well in 2022, so it’s no surprise that they had to do a little digging in the coffers.

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CORZ share price year-to-date (TradingView)

All things considered, while the miners’ surrender is seen as the start of a “death spiral to zero” (since the miners are supposed to be the last line of defense), this isn’t really happening.

Core Scientific CEO Mike Levitt assured investors that the company was focused on executing its plans and that the sale was just an exercise in maintaining a healthy balance sheet. To its credit, CORZ has not had to disclose that it has sold anything, as the profit call is not until August.

On the contrary, we should welcome transparency.

Crypto lenders are not having a good time

Finally, leverage continues to hurt everyone. Luna’s collapse led to the insolvency of Three Arrows Capital and now we are facing a cryptocurrency crisis. BlockFi received a structured bailout from FTX with what appears to be a $215 million profit, Celsius shut down operations and then announced restructuring plans, and Voyager did the same but differently by filing for bankruptcy.

In addition, it emerged Friday that Blockchain.com could lose $270 million by lending to Three Arrows Capital. It’s hard to sled there.

News is still unfolding with all these lenders. In general, this is all “not good”, but it seems the worst is behind us. FTX and its ever-selfless CEO, Sam Bankman-Fried, are emerging as the savior of cryptocurrency as his company’s name has cropped up in all the discussions about companies failing in the embers of Three Arrows’ insolvency. †

The real interesting takeaway?

So in general, all these things – an inverted yield curve, higher interest rates, miner capitulation, and bankruptcies of multiple cryptocurrency lenders – are not good. What will be most interesting here is to see what is happening to bitcoin and crypto in these difficult times. Not only is life tough in the cryptocurrency world, but macro markers are signaling a recession.

And despite being born out of a recession, bitcoin never lived through it. Anyway, it gets interesting. Fortunately (or unfortunately) it goes faster than usual (I worked in finance/tradfi).

What’s interesting is to see what bitcoin will do in times of tough macro times – and that’s the root of it all.

In the midst of all this, here is bitcoin last week.

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CoinDesk Bitcoin Price Index (CoinDesk Indices)

So I guess it’ll be okay? I don’t know.

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