With the Fed’s policy decision behind us, there are now only a few trading days left in the year – meaning price action will likely be driven by low volumes and quick turnover until the start of 2023. Crypto markets continue to trade inside a narrow range, although market players are heavily scrutinizing the situation at Binance as an area of contagion concern. Meanwhile, attention on the hearings held by the US House Financial Services Committee to investigate FTX’s collapse have been diverted by the arrest of former FTX CEO Sam Bankman-Fried. In this week's report, we look at all of these topics as well the perpetual swaps activity on Ethereum’s layer-2 scaling solutions.
This will be our last weekly market commentary for 2022. Although it’s been a challenging year, the current bear market looks very different compared to the previous crypto winter of 2018-19 in terms of both performance and players. Crypto returns have been more or less inline with those seen in other asset classes on a risk-adjusted basis, while institutional adoption in the last cycle was nowhere near what we have today. We believe that this environment should help cryptocurrencies pull back from their speculative fervor and pave the way for new innovations in the future.
From all of us at Coinbase, happy holidays and have a happy new year.
Weekly Market Call
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Macro winds down
While there is still more US economic data to come on housing (December 20) and 3Q22 GDP (December 22), the Fed’s FOMC meeting on December 14 was likely the last major macro-related event for 2022. Per our expectations from last week, both the dot plot and the statement accompanying the 50bps hike (to 4.25-4.50%) were hawkish. That was despite the weaker-than-anticipated US November CPI print of 7.1% YoY (vs a median Bloomberg survey forecast of 7.3% and the Cleveland nowcast of 7.5%). Plus, the projected terminal rate of 5.125% in 2023 expressed in the dot plot is inline with what was telegraphed in the WSJ on December 6 - although the hawks on the board are eyeing higher rates of 5.25-5.50%.
Most importantly, Fed Chair Jerome Powell indicated that the board is not considering any changes to its inflation target and said that they will not consider rate cuts until it’s clear inflation is coming back to 2%. In fact, he didn’t even dismiss the possibility of higher terminal rate projections in the next dot plot release in March 2023. That is, it appears Powell has no plans for a Fed pivot as he believes financial conditions are not sufficiently restrictive yet. Comparatively, the Fed funds futures curve implies a terminal rate near 5% by May 2023 followed by a reduction of 50bps in 2H23, suggesting markets are shrugging off Powell’s forward guidance. We believe that’s a commentary on economic data expectations, which market players seem to imply supersedes any Fed signaling.
In any case, with only a few trading days left in 2022, we would not expect to see much (if any) new capital being deployed here, so price action will likely be driven by low volumes until the start of 2023. Market players that ended up ahead for the year won’t be willing to risk their gains, while those who are underwater will likely want to start fresh in the new year.
Lingering contagion concerns
Meanwhile, Binance has been drawing scrutiny in recent days amid reports of large net outflows. But after the withdrawals observed on December 13, indications from both the exchange as well as independent sources suggest these outflows have been stabilizing. Notably, the size of the outflows were relatively manageable compared to Binance’s total reserves, which Nansen cites at US$59.4B as of December 15, concentrated among stablecoins (BUSD and USDT together make up over 47% of holdings) and another 24% in high-quality names, BTC and ETH. The open interest (OI) of perpetual swaps on their platform has come down in recent weeks, but in part that reflects weaker activity in the perps market overall since the FTX collapse in November. Indeed, OI on bitcoin perps (based on the 7-day rolling average) has fallen over 40% since that time, according to Bloomberg and CryptoCompare.
Total value of Binance token holdings
Separately, the US House Financial Services Committee (HFSC) held its first hearing on December 13 to begin investigating the events surrounding the collapse of FTX. A day prior, on December 12, the opening testimony from the acting CEO of FTX, John Ray, was released, revealing the severity of the alleged misconduct and criminality which occurred at FTX. Concurrently, Sam Bankman-Fried (SBF) was arrested by law enforcement in the Bahamas at the direction of the US government.
The indictment filed by the Southern District of New York detailed eight separate charges related to fraud, conspiracy, money laundering and campaign finance violations. In parallel, the CFTC and SEC filed civil charges against SBF, FTX Trading and Alameda, which each included two separate fraud charges. (Interesting to note that within the charges filed by the CFTC, BTC, ETH and USDT were specifically referred to as “commodities.”) SBF has been denied bail and given his stated intent to fight US extradition, he will remain in Bahamian custody until his extradition hearing on February 8, 2023.
Coinbase Exchange and CES Insights
Volumes on exchange spiked after the US CPI was released, and they continued higher as the FOMC announced their December rate decision (December 14). Traders focused on the largest and most liquid parts of the market with BTC and ETH making up 75% of on-exchange volume.
On the CES desk, flows from traditional hedge funds were balanced while crypto native hedge funds continued to be buyers. As expected, implied volatility compressed after the FOMC meeting. Implied ATM 1 month BTC volatility is now at 46%, its lowest level in over three months. There continues to be a good deal of uncertainty around the next direction crypto is likely to take. With risk assets selling off on the back of a hawkish Fed the question becomes, how much has crypto already priced in? Given the low volumes we expect to see through the end of the year we likely won’t find out the answer to that question until 2023.
The BTC technical chart remains in a bearish structure, which means it could potentially retest support at $16,800 in the coming days. On the daily timeframe, BTC did manage to successfully close above the EMA50 ($17,612) on December 13 but formed a bearish pin bar (i.e. a candlestick reversal pattern) and an EMA70 rejection on December 14 which is a possible signal for continued downside. On December 15, not only did BTC close below the EMA50, but also the StochRSI crossed after a triple top overbought signal with the RSI also sharply heading down as well. Given the MACD is overbought and could cross in the next week or so, we worry that progressive support levels of $16,800, $16,400 and $16,184 may not hold. However, that short to medium term bearish thesis would be invalidated if we saw a retest and close above the EMA70 at $18,000.
Arbitrum gaining traction
Broadly speaking, DeFi activity across blockchain ecosystems remains subdued relative to the previous highs observed in late 2021 (aggregate total value locked has declined from ~US$181B in December 2021 to ~$41B currently). Despite this trajectory, there are pockets of activity growth worth monitoring. Over the past six months, weekly transaction volume and active users on the Ethereum layer-2 scaling solution, Arbitrum, have increased by ~5x and ~3x respectively (according to Dune Analytics). In terms of aggregate total value locked (TVL), the Arbitrum ecosystem recently surpassed Polygon and is now behind only Tron, Binance Smart Chain and of course, Ethereum.
Much of this growth has been driven by the increasing popularity of the Arbitrum-based protocol known as GMX, which primarily serves as a permissionless, on-chain perpetual swap exchange. This has accelerated in the wake of FTX’s collapse, as many crypto traders have migrated from FTX to GMX, or other similar DeFi protocols on competing Ethereum layer-2 solutions like Optimism and dYdX. These players utilize such platforms to trade digital assets with leverage and/or through derivatives like perpetual swaps.
Activity on GMX currently accounts for ~40% of the $1.1B of TVL on Arbitrum and represents the largest consumer of gas on the network. Notably, GMX allows its users to participate in the protocol-generated fee revenue, with 70% directed towards liquidity providers and the remaining 30% directed towards GMX token stakers. That being said, it remains difficult to disentangle whether this increased traction on Arbitrum is a genuine reflection of increased demand for on-chain derivatives or moreso a function of the potential (albeit unconfirmed) airdrop of an Arbitrum token sometime in the future.
View From Around the World
From Coindesk (December 14): “The Australian government has promised to establish a framework for the licensing and regulation of crypto service providers in 2023, the nation's Treasury announced on Wednesday. The move is part of a plan to modernize Australia’s financial system and comes in the wake of the FTX collapse that forced the management of its Australian entities to hand over control to licensed insolvency practitioners who independently assess the financial situation. Developing appropriate custody and licensing settings to safeguard consumers will be part of the next steps the government takes, the announcement said.” (Coindesk)
From CoinTelegraph (December 14): “Tech giant Apple is gearing up to permit third-party app stores on its devices to comply with new anti-monopolistic requirements from the European Union (EU), which could be seen as a huge win for crypto and NFT app developers, at least in Europe. Under the new rules, European customers would be able to download alternative app marketplaces outside of Apple’s proprietary App Store, thus allowing them to download apps that skirt Apple’s 30% commissions and app restrictions according to a Dec. 13 Bloomberg report citing those familiar with the matter.” (CoinTelegraph)