3iQ Research

The Digital Asset Bulletin – The Monetary Ratchet

Today’s inaugural issue of The Digital Asset Bulletin builds on 3iQ’s commitment to educate clients about, what we believe, are the growing opportunities in the digital asset ecosystem. 

Our publications are informed by a multi-disciplined approach that folds in the implications of broad economic factors, market developments and how the changing behavior of critical players in regulation and investment impacts various digital assets.

 

Our Thesis  

Blockchain enabled technologies such as Bitcoin and Ethereum have migrated from a speculative opportunity to an investment imperative for both the institutional and individual investor.  

This shift in outlook owes to a reinforcing loop of performance and adoption across digital assets over the past decade. Mounting structural headwinds may have impaired the performance of many traditional assets such as equities & credit (1), further accelerating adoption. 

 

Why Crypto Now

1. Covid-related spending had the fiscal impact of a WWIII in terms of debt, dollar debasement and deficit spending.

The Monetary Ratchet refers to the current macro-economic set up, where historic sovereign debt to GDP levels accumulated in response to Covid-19 have locked policy response in the single direction of accommodation. 

As a result, the degree of monetary debasement combined with other spending and demographic trends, could make a return to sound monetary or fiscal policy, a bridge too far. 

Continued monetary profligacy might have implications for investors in fiat denominated assets (stocks/ bonds) as valuations separate from fundamentals and purchasing power declines. 

 

2. Blockchain-based assets are a proven value and more

The adoption of Bitcoin, Ethereum and other digital assets is an evolutionary step in our growing reliance on technology’s dynamic value proposition, providing more for less over time. 

We believe the traditional tech space is already responding as FAANG shifts to MAANG, a nod to the Metaverse’s opportunity. However, this is just a half-step, as only assets with protocols built on blockchain foundations can drive a user-owned reality and escape the trap of fiat debasement.

 

3. Recent events validate the exponential opportunity in digital assets.

Market developments, as we see it, tilt today’s risk reward dynamic in favor of digital assets, ranging from Bitcoin and Ethereum to staking to NFTs.

Going forward, our Monthly publication and periodic theme pieces will more rigorously explore topics that we believe impact the growing opportunities in digital assets.  

The Bulletin provides updates on these themes with metrics and graphics to help contextualize current market action, economic releases and industry events that speak to the adoption and performance of these exponential growers.  

Today, we offer a hybrid, by illustrating the deleterious effect of ratcheting up accommodation, which could tighten the monetary debasement/ debt loop. 

 

Real Growth shifts to a real problem… 

From 1981 to 2008, the U.S. money supply, equity markets and GDP enjoyed similar growth rates on average of ~5 to 6%. Certainly not in a straight line and through several business cycles, but still resulting in a tight range of growth as rates dropped and inflation ebbed. 

Post the Global Financial Crisis (GFC), we see the impact of Zero Rate policy and expanding balance sheets that separate the real economy from the financial economy. 

The post Covid period illustrates this clearly as government actions had disproportionate outcome. 

The 18.3% annual compounded growth of M2 on the back of Fed accommodation drove a wedge between real economy measured in terms of US GDP at 3.6% and the financial economy proxy, the Wiltshire 5000 equity index, which compounded at 15.7%. 

Source: 3iQ Research. Data sourced from Bloomberg, Federal Reserve Bank of St. Louis as of December 31, 2021. 

 

…debasement is global in nature, trapping the FIAT system. 

Source: 3iQ Research. Data sourced from Bloomberg as of February 28, 2022.


Resulting in distortion of traditional assets such as equities as measured by a Wiltshire 5000, that is today, 2.5x greater than US GDP.

Source: 3iQ Research. Data sourced from Bloomberg, Federal Reserve Bank of St. Louis, Federal Reserve Bank of Philadelphia as of March 31, 2022. This is a hypothetical example, for illustrative purposes only. Past performance is not indicative of future results.

The decline in M2 velocity as the Fed balance sheet grew demonstrates again how the Covid-related flood of monetary and fiscal support was channeled into asset growth, not the real economy. Today, US debt/ GDP is above 120%, a level not seen since WWII. This diminishes growth prospects for the US and other recently debt-laden G-10 countries, calling into question the duration of any hawkish policy.

 

Source: 3iQ Research. Data sourced from Federal Reserve Bank of St. Louis as of December 31, 2021.

 

Policy adjusts as a Result

This deteriorating monetary and economic reality may be at the root of recent shifts in attitude towards blockchain and digital assets.

The first was President Biden’s March 9th executive order (EO) with its balanced language, “ensuring responsible development of digital assets”.  The takeaway was the demand for senior cabinet members to submit a report by September on the “future of money and payment systems, including the conditions that drive broad adoption of digital assets.” Janet Yellen was the first cabinet member to respond, with a quite different tone in her April 7th comments at American University on the same topic.

Where Biden kicked off his six directives with three concerns addressing safety and risks, Yellen’s first point was the call for innovation, not bringing up Sovereign money until point number four. But the shift in sentiment went beyond a more favorable prioritization of the benefits. Rather, it was the specific language Ms. Yellen used to highlight the innovations from digital ledger technology, quoting Satoshi’s October 2008 paper. Instead of criticizing Bitcoin and other digital assets, Ms. Yellen cited the benefit of distributed ledge technology, noting Satoshi’s “novel method for validating transactions, using cryptography to address the so-called, double spend problem”.

Quoting from the Satoshi white paper and referencing President Biden’s EO as well as the mandated report makes it clear that US policy addressing the digital assets is already underway… All to leverage the innovations possible through “blockchain enabled digital assets” to use Ms. Yellen’s words.

 

War and Money

Punctuating the case for urgency, Credit Suisse Monetary Strategist, Zoltan Pozsar wrote that the G-7 led sanctions in response to Russia’s invasion of Ukraine ushered in a new monetary era, ‘Bretton Woods III’.

The current iteration is a departure from both the Bretton Woods I, gold-backed fiat system and Bretton Woods II, where a diminished USD retained reserve status with a petro-dollar pact. The strictures of the Bretton Woods regime became more problematic for the US, as the economy struggled and the wartime deficit grew. Finally capitulating, on August 15th 1971 Richard Nixon ended USD convertibility into Gold, ending the 1944 Bretton Woods compact, and greater financial autonomy.

We note this sequence as each of Bretton Woods, Bretton Woods II and the current iteration, Bretton Woods III were all born out of new world orders on the back of war and destabilizing deficit spend.

While history may not repeat, it has been said to rhyme. These developments suggest that this familiar rhyme has increased in meter, being heard by more strategists like Mr. Pozsar and informing policy makers as we write.

 

…As adoption rates increase

Investor adoption of Bitcoin and Ethereum as measured in Wallet addresses has grown over time and sustained 50%+ price drawdowns and little to no regulatory clarity until recently.

Source: 3iQ Research. Data sourced from Coin Metrics as of April 19, 2022. ETH data excludes ERC-20 or equivalent tokens.

 

Understanding the cost/ benefit of owning an exponentially growing asset.

The below graphic demonstrates that Bitcoin is ~2.5x riskier than the S&P 500 as measured by 63D historical volatility. Substituting uncertainty for risk, this reality makes sense. A new technology, with modest adoption contributed to a much less certain price path relative to the inveterate S&P 500. However, that was in the past.

Today’s ~2.5x greater volatility is down from 4 to 8x greater volatility for Bitcoin. Basing effect is one factor for sure, but fundamental and structural elements also add to the closing of this uncertainty divide. More exchanges and greater adoption are two factors that have contributed to the overall decline in volatility. In effect the volatility chasm represented mispriced risk, which was realized to the upside as measured by a more favorable Sortino ratio AND outperformance in absolute terms. Looking at the graphs closer, we see that this compression has BTC vol trending lower, while SPX vol is approaching 2020 levels.

Source: 3iQ Research. Data sourced from Bloomberg as of April 20, 2022.

 

Source: 3iQ Research. Data sourced from Coin Metrics as of April 15, 2022.

Source: 3iQ Research. Data sourced from Bloomberg as of April 15, 2022.

Source: 3iQ Research. Data sourced from Coin Metrics as of April 19, 2022.

 

(1) Past performance is no guarantee of future results. There can be no assurance that any investment will achieve its objectives or avoid substantial losses.

Important Disclosures:
THESE MATERIALS AND THE INFORMATION CONTAINED HEREIN, IS RESTRICTED AND IS NOT FOR PUBLICATION, RELEASE ORDISTRIBUTION, IN WHOLE OR IN PART, DIRECTLY OR INDIRECTLY, IN OR INTO OR FROM THE UNITED STATES OR ANY JURISDICTION IN WHICH THE SAME WOULD BE UNLAWFUL.
 
These materials do not constitute an offer to sell or issue or the solicitation of an offer to buy or subscribe for securities in the United States or any other jurisdiction. Neither the 3iQ Corp.’s (the “Manager”) nor the Fund’s securities have been nor will be registered under the United States Securities Act of 1933, as amended (the “Securities Act”), nor under the applicable securities laws of any state or other jurisdiction of the United States, and may not be offered, sold, resold, transferred or delivered, directly or indirectly within, into or in the United States, absent registration or an applicable exemption from, or except in a transaction not subject to, the registration requirements of the Securities Act and in compliance with the securities laws of any relevant state or other jurisdiction of the United States. No securities regulatory authority has expressed an opinion about these securities and it is an offence to claim otherwise.
 
The commentaries contained herein are provided as a general source of information based on information available as of April 20, 2022. Every effort has been made to ensure accuracy in these commentaries at the time of publication; however, accuracy cannot be guaranteed. Market conditions may change investment decisions arising from the use or relevance on the information contained here. Investors are expected to obtain professional investment advice to determine suitability of their investment objectives and portfolio. 3iQCorp. makes no representation or warranty to any investor regarding the legality of any investment, the income or tax consequences, or the suitability of an investment for such investor. Prospective investors must not rely on this document as part of any assessment of any potential investment and should not treat the contents of this document as advice relating to legal, taxation, financial or investment matters. Prospective investors are strongly advised to make their own inquiries and consult their own professional advisers as to the legal, tax, accounting and related matters concerning the acquisition, holding or disposal of an investment. All content is original and has been researched and produced by 3iQ Corp. unless otherwise sourced or stated therein.
 
All statements made regarding companies, securities or other financial information contained in the content or articles relating to 3iQ are strictly beliefs and points of view held by 3iQ and are not endorsements of any company or security or recommendations to buy or sell any security. No securities regulatory authority has expressed an opinion about these securities and it is an offence to claim otherwise. Any descriptions of, references to, or links to other products, publications or services does not constitute an endorsement, authorization, sponsorship by or affiliation with 3iQ with respect to any linked site or its sponsor, unless expressly stated by 3iQ. Any such information, products or sites have not necessarily been reviewed by 3iQ and are provided or maintained by third parties over whom 3iQ exercises no control. 3iQ expressly disclaims any responsibility for the content, the accuracy of the information, and/or quality of products or services provided by or advertised on these third-party sites. By clicking on any of the links included in this newsletter, you acknowledge that you will be taken to a third-party site, which is not managed by 3iQ.
 
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently, and past performance may not be repeated. There are ongoing fees and expenses associated with owning units of an investment fund. An investment fund must prepare disclosure documents that contain key information about the fund. You can find more detailed information about the fund in these documents. The indicated rates of return a re the historical annual compounded total returns including changes in unit value and reinvestment of all distributions and does not take into account certain fees such as redemption fees or optional charges or income taxes payable by any security holder t hat would have reduced returns. Investment funds are not guaranteed, their values change frequently and past performance may not be repeated.
 
You will usually pay brokerage fees to your dealer if you purchase or sell units of the Fund on the Toronto Stock Exchange, or other alternative trading system (an “exchange”). If the units are purchased or sold on an exchange, investors may pay more than the current net asset value when buying units of the Fund and may receive less than the current net asset value when selling them.
 

Information contained in the prospectus or applicable offering documents, includes the investment objectives and potential strategies of the Fund, and a description of management fees, and other charges and expenses. You can find more detailed information about the Fund and its public filings available at www.sedar.com.

Certain statements in this document are forward-looking statements, including those identified by the expressions “anticipate”, “believe”, “plan”, “estimate”, “expect”, “intend”, “target”, “seek”, “will” and similar expressions to the extent they relate to the Fund and the Manager. Forward-looking statements are not historical facts but reflect the current expectations of the Fund and the Manager regarding future results or events. Such forward-looking statements reflect the Fund’s and the Manager’s current beliefs and are based on information currently available to them. Forward-looking statements are made with assumptions and involve significant risks and uncertainties. Although the forward-looking statements contained in this document are based upon assumptions that the Fund and the Manager believe to be reasonable, none of the Fund or the Manager can assure investors that actual results will be consistent with these forward-looking statements. As a result, readers are cautioned not to place undue reliance on these statements as a number of factors could cause actual results or events to differ materially from current expectation. Some of these risks, uncertainties and other factors are described in the offering documents for the relevant Funds under the heading “Risk Factors”. These factors – many of which are beyond the Manager’s control and the effects of which can be difficult to predict – include: no assurance in achieving investment objectives, loss of investment, volatility and fluctuation in value of cryptoassets, concentration risk, reliance on the Manager, no ownership interest in the cryptoasset portfolio, changes in legislation, conflicts of interest, valuation, significant redemptions, limited liquidity in the units, limited operating history, exchange rate risk, liquidity constraints on cryptoasset markets, tax risk, risks associated with blockchain networks and forks, risks associated with digital asset platforms and cybersecurity. The forward-looking statements contained herein were prepared for the purpose of providing prospective investors with general educational background information about cryptoassets and the Funds and may not be appropriate for other purposes. None of the Fund or the Manager assumes any obligation to update or revise them to reflect new events or circumstances, except as required by law.
This report may not be reproduced (in whole or in part), transmitted or made available to any other person without the prior written consent of 3iQ Corp.

About 3iQ Corp.

Founded in 2012, 3iQ is Canada’s largest digital asset investment fund manager with more than C$3.0 billion in assets under management. 3iQ offers investors convenient and familiar investment products to gain exposure to digital assets. For more information about 3iQ and its digital asset investment funds, visit www.3iQ.ca or follow us on Twitter @3iQ_corp.

Share This Story!

Subscribe to the North iQ Weekly Newsletter and What Happened in Bitcoin & Ether? reports and stay updated on 3iQ’s news, announcements and developments in 2022.

Subscribe to the Monthly Fund Updates for all of 3iQ’s fund performance profiles.

Subscribe to Research papers and Blogs for recaps and insights on digital asset industry developments, and bitcoin & ether performance analysis.

Share This Story!

Fred Pye

Frederick T. Pye

CHAIRMAN, CHIEF EXECUTIVE OFFICER & DIRECTOR

Frederick T. Pye is the Chairman, Chief Executive Officer and Director of 3iQ Corp. He is also the Chairman and Director of 3iQ Digital Holdings Inc. Mr. Pye is recognized for creating and promoting creative and unique investment products for the investment industry.

Mr. Pye has managed private client portfolios with Landry Investment Management and various other investment dealers. Prior to this Mr. Pye was Founder, President & Chief Executive Officer of Argentum Management and Research Corporation, a company dedicated to managing and distributing quantitative investment portfolios including the first long-short mutual fund in Canada.

He was also Senior Vice-President and National Sales Manager of Fidelity Investments Canada and an integral part of the team that saw assets rise from $80 million to over $7.5 billion in assets under management during his tenure. He also held various positions with Guardian Trust Company, which listed the first Gold, Silver and Platinum Certificates on the Montreal Exchange.

Mr. Pye obtained a Masters in Business Administration from Concordia University.