Market View
Bitcoin breached its all-time (intraday) high of $69,338 this week before pulling back from that level and retracing higher. The short covering move that contributed to the initial upside now appears to be exhausted, but US spot bitcoin ETFs continue to be a meaningful anchor for bitcoin demand – reflected in average daily net inflows of $400M during the last two weeks. Moreover, in previous cycles, liquidity conditions have represented the main setback to price momentum, but that doesn’t appear to be the case today. That said, we think these supportive drivers are likely to meet some important macro and technical headwinds in the weeks ahead.
For example, the Federal Reserve is expected to let the Bank Term Funding Program (BTFP) – created to support US regional banks – expire on March 11. This may close an arbitrage opportunity for banks but at the expense of potentially re-introducing vulnerabilities into the financial system. In terms of economic data, the US CPI print for February is due on March 12 (median Bloomberg forecast of 3.1% YoY), and any negative surprises here could lead to a pull back for cryptocurrencies alongside other risk assets. Meanwhile, a decline in fund managers’ cash reserves (based on Bank of America Global Research’s monthly fund manager survey) coupled with quarter-end rebalancing could tie up liquidity.
Given the offsetting dynamics at play, we think the most likely scenario is that bitcoin prices could trade inside a narrow range in the weeks ahead before it can reach true price discovery territory, at least until we approach the next major idiosyncratic event – the Bitcoin Halving in mid-April. However, ETFs have changed the market dynamics around bitcoin, rendering studies of previous halving cycles somewhat moot. Indeed, the cumulative net growth in BTC held by ETFs has outpaced that generated by miners by nearly threefold (see Chart 1). That said, we think that the imbalance between newly mined bitcoin and ETF inflows is only a small part of the story behind longer-term cyclical supply trends.
The reality is that growth in liquid circulating supply (which we define as bitcoin moved within the past 3 months) has substantially outpaced that of cumulative ETF inflows (see Chart 2). In fact, while ~150k new BTC have been mined since 4Q23, the liquid BTC supply increased by a far greater 1.2M. We suspect that the recent ~200k BTC increase in liquid circulating supply between March 3 and 6 could be intermediate term holders preparing to sell into a bull market. This is reminiscent of a similar increase in liquid circulating supply in between January 3 and 5 proceeding the spot ETF approvals.
To put this into context, during previous cycles, changes in liquid circulating supply outpaced the growth of newly mined bitcoin by more than a factor of 5. In the 2017 and 2021 cycles, the liquid circulating supply nearly doubled from 2.9M to 6.1M (3.2M increase) and 3.1M to 5.4M (2.3M increase) respectively. In contrast, approximately 0.6M and 0.2M of new BTC were mined over those same timeframes.
Looking ahead
Looking beyond BTC, we expect more attention around ether (ETH) in the week ahead, as the Deneb/Cancun (Dencun) fork is anticipated to be activated on Ethereum mainnet on March 13. (The following upgrade – Prague/Electra or Pectra – is planned for later this year.) As discussed in our 2024 Crypto Market Outlook, we believe this upgrade mainly benefits layer-2s as this fork focuses on Proto-Danksharding (EIP-4844), which incorporates binary large objects (blobs) into blocks – potentially reducing L2 fees by 2-10x.
Reducing the cost of block space for L2s raises concerns about whether Dencun may be dilutive to ETH revenue in the short term. But we have argued that L2 activity today contributes only around 10% of transaction fees on average – meaning the impact from Dencun will likely be relatively small, in our view. Separately, a relatively underappreciated change in the Dencun upgrade is EIP-7514, which reduces the max validator churn limit to 8 per epoch (from 14 at the moment), which will slow down the pace at which the validator set grows and thus affects the absolute level of staking rewards.
Meanwhile, at a US House Agriculture Committee hearing this week, Commodity Futures Trading Commission (CFTC) Chairman Rostin Benham reaffirmed his view that ETH is a commodity, suggesting that Prometheum’s plan to custody ETH is an “independent decision” not linked to the Securities and Exchange Commission (SEC). The conversation around ETH’s status may heat up in the next two-and-a-half months as the SEC approaches its final decision deadline for the approval of the first set of spot ETH ETFs in the US.
Onchain: Return of the Memes
Separately, there has also been a large increase in onchain trading volumes which have surged, in part, due to a frenzy around meme coin trading. Volumes have more than doubled from $4.8B on March 2 to a peak of $11.5B on March 5 (see Chart 3). More than a third of this activity has actually been centered on Solana, which has increased its decentralized exchange (DEX) market share more than five-fold (from ~6% to ~30%) since the start of November 2023.
We think there are two primary factors driving this growth. First is the potential for future airdrops for Jupiter, the largest DEX aggregator on Solana, since only the first of four airdrops have occurred. Because higher trading volumes are directly proportional to larger airdrops, users are incentivized to trade more frequently. Second is the reduced gas costs on the platform, which reduces the barrier to entry and (mostly) eliminates gas fees as a factor in profit taking for many retail traders.
At the same time, we also think that the meme culture in Solana (and other newer ecosystems) could be particularly vibrant as new airdrops, capital inflows, and (importantly) a lack of bag holders from previous cycles expose a new cultural subset. The rise of memecoins is often a fundamental driver towards increased DEX usage, particularly for tokens not yet widely listed.
