May 23 Commentary

News Highlights

1. Beijing releases white paper for web3 innovation and development
2. Hong Kong Expected to Lift Crypto Retail Trading Ban Next Month
3. Binance joint venture granted licenses in Thailand to open regulated exchange
4. Bybit follows Binance in departure from Canadian market
5. SEC warns that Filecoin ‘meets definition of a security’
6. ‘There Is No Backdoor,’ Ledger Says in Response to Recover Reaction
7. Crypto Security Firm Unciphered Claims Ability to Physically Hack Trezor T Wallet
8. Multichain team cannot locate CEO, halts service for affected chains
9. Tether buys bitcoin with a portion of its net profit
10. Circle Has Ditched All U.S. Treasuries From $24B Reserve Fund Amid Debt Ceiling Showdown
11. Sam Altman’s Crypto Project Worldcoin Raises $115M
12. IRS claiming $44B from FTX bankruptcy
13. FTX Seeks to Claw Back $3.9 Billion in Cash, Crypto from Genesis
14. Jump Earned $1.3B By Manipulating Terra, Lawsuit Alleges

Chart of the month:

Figure 1: Time series of Bitcoin ATM 90-day Implied Volatility over the last 12 months. Since the end of March both realised and implied volatility have been on a downward trend, reaching lows never seen since 2020. source: TheBlock

Commentary:

As we transition into the summer months, May presented a stark contrast to the same period last year when Luna collapsed. It was a relatively calm month characterized by subdued price action and limited trading opportunities.

On the macroeconomic front, equity indices continued their upward trajectory despite the absence of any overwhelmingly positive news. The Federal Reserve appears to be nearing the end of its rate hikes. All eyes are on inflation readings, with optimists hoping for a decline from 5% to a more comfortable 2% by the end of Q2 2024. As inflation cools off, other economic indicators and the job market are expected to reveal the likelihood of achieving the much-discussed soft landing. Year-to-date, the economy has been experiencing gradual growth, and the labour market is beginning to show signs of loosening, providing some positive evidence.

However, there are concerning signs behind the equity indices rally, which has been primarily driven by the largest stocks, specifically tech giants like Apple, Microsoft, Nvidia, Amazon, Meta, Tesla, and Alphabet. These firms have collectively gained more than 70% since the beginning of the year, while the remaining stocks in the S&P 500 have only garnered a marginal 0.1% gain over the same period.

This outperformance of the AI narrative has led to a breakdown in the correlation between Bitcoin and the Nasdaq, with a divergence of over 18% between them over recent weeks, as depicted in Figure 1. For comparison, gold remained flat over this period.

Figure 2: Time series of Bitcoin (orange) and Nasdaq (blue) performance over May. There is a striking difference: the former having exceeded 10% drawdown during the month, and the latter closing the month with gains just short of 10%. source: TradingView

As we move into June and the summer months, it may be optimistic to expect Bitcoin to regain its lost ground, especially considering the range-bound price action observed since the end of March that has kept the BTC price between USD 25,000 and USD 30,000. While we anticipate demand from “value investors” as we approach the USD 20,000 mark, we also foresee selling pressure on the upside preventing prices from exceeding USD 30,000.

The rest of the crypto market has shown moderate activity since the beginning of the year, with the overall crypto market cap (excluding stablecoins, BTC, and ETH) remaining within a relatively tight range over the past 12 months, with an evident struggle to move higher.

The slowdown in market activity is further evidenced by the decreasing trend of implied volatility over the past 12 months, as illustrated in Figure 1. Despite volatility spikes during the Celsius and FTX collapses, the overall trend has been negative for over a year, with volatility reaching levels last seen before 2020.

However, when compared to the equity market volatility (VIX), the volatility of the crypto market has been range-bound with no discernible trend, as shown in Figure 3. Despite such long-term behaviour, Bitcoin’s volatility has decreased considerably more than the VIX since mid-April.

Figure 3: Time series of the 7-day moving average of the ratio between the Bitcoin Deribit DVOL index and the VIX (blue), superimposed to the performance of both Bitcoin (orange) and the SP500 (red) over the last 12 months. While the metric is not yet near the lows of the period, it has been in a downtrend over the last few weeks. source: TradingView

This slower price action is reflected in the exchange trading volume, which, like Bitcoin’s implied volatility, has been on a downward trend for over a year. Figure 4 demonstrates how spot trading volume has now reached the post-FTX lows recorded at the end of last year, during the holiday season.

On the other hand, derivative markets have experienced a milder contraction in activity, with some metrics, like Open Interest (OI), slowly growing over recent weeks. However, the demand for leverage over the first two weeks of May was minimal. Funding rates have remained relatively stable around zero, with some volatility seen in the latter half of the month.

Figure 4: Time series of the 7-day average of daily aggregate exchange spot volume. The metric has been on a downward trend over the past two months reflecting the reduced trading activity and price volatility. source: TheBlock

There were no significant developments in the stablecoin industry in May. The prevailing trend of a decreasing overall market size continued, as shown in Figure 5. The internal redistribution of market share continued, with BUSD and USDC losing ground to USDT. This follows the inability to mint additional BUSD due to previous regulatory actions, and USDC’s weakening position due to its involvement with SVB in March. Meanwhile, Tether’s market capitalization has grown larger than ever, surpassing its previous high of USD 83 billion recorded a year ago before the Luna collapse. Interestingly, current rates are more substantial, allowing the stablecoin issuer to post record profits of USD 1.5 billion in Q1.

Figure 5: Stablecoin market size since the beginning of the year divided by components (USDT in blue, USDC in red, BUSD in green, and TUSD in yellow). The market has consistently shrunk over the period, with both BUSD and USDC suffering in favour of USDT and, partially, TUSD. source: TheBlock

Figure 6: Time series of the amount of ETH staked (purple line, RHS chart) superimposed to a bar chart displaying gross deposits and withdrawals from the staking module (deposits in green, accrued rewards withdrawals in yellow, and principal withdrawals in blue). Since withdrawals were enabled a large amount of ETH was unstaked, however,the demand for new validators is considerably larger, causing a spike in the total amount of coins staked. source: Nansen

Despite the largely downward-trending charts, more fundamental metrics show some intriguing behaviour over recent weeks. Ethereum, for instance, has seen strong demand for withdrawals, particularly for rewards earned since staking was introduced over a year ago. However, the demand for new validators joining the network has considerably outpaced withdrawals, resulting in a sharp increase in staked coins (as shown in Figure 6) and an almost 40-day-long queue for coins to be staked.

Figure 7: Time series of the 7-day moving average of the daily transaction fees paid by users across major smart contract chains (Ethereum in blue). While always considerably higher than the rest, Ethereum has seen a massive spike in fees that have increased by almost 5x over the last few weeks. source: Messari

Along with the surge in demand for validators, May witnessed a sharp uptick in on-chain activity, causing user fees to increase almost fivefold since mid-April (as shown in Figure 7). Much of this activity can be attributed to the latest meme-coin craze, resulting in a spike in gas prices on the Ethereum network.

Despite the speculative nature of the increased usage, stakers and ETH holders cannot be disappointed. The amount of ETH burned during May, resulting from the increased on-chain activity, is comparable to the total amount burned since the Merge last September. The combination of new coin creation with each block and coin burning with each transaction has enforced a deflationary monetary policy on the network, with an average inflation rate of -0.32% since the Merge.

Figure 8: Time series of the change in total Ethereum supply, considering the new coins created at each block, and those burned with each transaction. Since the Merge, over 8 months ago, Ethereum supply has shrunk at a rate of -0.32% per annum. Notably, half of the Ethereum supply burned since the merge has been burned during May. source: Ultrasound.money

Interestingly, Bitcoin has experienced a similar fate to Ethereum over recent weeks, with a spike in on-chain activity and fees. This increase is a long-anticipated and much-needed outcome to ensure the long-term security of the network, given the halving of the block reward every four years. However, not everyone is satisfied with how higher on-chain activity has been achieved. Bitcoin’s latest innovation, Inscriptions, based on the Ordinals theory, has allowed the minimal functionality needed to provide a meme-coin experience on Satoshi’s blockchain. Inscriptions are an off-chain system interpreting data published on-chain alongside regular Bitcoin transactions. This system allows for a degree of non-fungibility, leading to the initial craze of images being inscribed on Bitcoin, followed by the realization that something similar to tokens could also be released. This gave rise to the BRC-20 standard and the massive spike of activity caused since mid-April (as shown in Figure 9).

Miners’ revenues have benefited from the recent meme-coin trading frenzy, reaching nearly USD 1 billion in May and increasing month-on-month, despite the declining prices, as shown in Figure 10.

Figure 9: Time series of Ordinal Transaction as a percentage of total Bitcoin transactions, superimposed to a bar chart that breaks down the number of Ordinal transactions into (Images in blue, BRC-20 in red, and Others in yellow). Since mid-April BRC-20 transactions have exploded, causing Bitcoin fees to double over the last few weeks. source: Messari

Figure 10: Time series of 30-day moving average of daily Bitcoin miners’ revenue since the beginning of the year. While overall on a positive trend over the period, it is interesting to note that revenues have increased in May, despite the negative BTC price performance. source: Blockchain.com

In conclusion, as we look ahead, the crypto market is at a pivotal juncture. While the market has been relatively stable over the past few months, the lack of a compelling narrative in the space makes it difficult to predict a bullish market emerging in the next few months.

This shift in focus is becoming increasingly evident in the market. For instance, Paradigm, the largest crypto venture capital firm, has begun investing in artificial intelligence (AI), reflecting a broader trend of exploring new, potentially transformative technologies.

AI, with its vast potential and far-reaching implications, has become a shiny and appealing investment opportunity. The promise it holds for various industries, including finance, healthcare, logistics, and more, presents a potential avenue for substantial growth and high returns.

Crypto, however, should not be underestimated. Its underlying technology, blockchain, continues to demonstrate potential for disruption in numerous fields. The recent spikes in on-chain activity for Bitcoin and Ethereum, underscore the adaptability and dynamism of the crypto market.

However, for a renewed bull market to materialize in the near term, a fresh narrative or breakthrough in the space is likely necessary. In the absence of such a development, we anticipate the market to continue in its current trend, with the potential for modest gains as underlying technologies and applications continue to mature.