KAPOW-ELL: AltFi’s Market Outlook
August is traditionally a low volatility month because market participants are away enjoying their summer breaks. Well, like so many other pre-pandemic “norms,” things appear to be very different these days.
The first half of August witnessed a broad-based equity and crypto market rally as the markets were pricing in the expectation that the Fed will stop hiking rates next year. But that all changed Friday August 26th with Chairman Powell’s eight-minute speech in Jackson Hole, following which here at AltFi we immediately repositioned our portfolio to Risk Off.
In line with our mandate as an Opportunities Fund, the AltFi team has embraced its approach to active management. Given the bearish environment and our Risk Off mode we stand ready to redeploy long or go short as our rules-based strategy dictates.
As ever, to make sense of where we see the markets currently, we’ll explore AltFi’s top-down framework.
At AltFi, our macro approach determines our big-picture outlook, our fundamental approach determines our asset selection, and our technical approach supports the timing for our entries and exits.
MACRO FACTORS
Fed Chairman Powell’s eight-minute speech at the Jackson Hole Summit on August 26th was unequivocal, and contained one message and one message only: “There will be no pivot. There will be no pivot, no matter what.” The broad-based equity and crypto sell-off following his speech showed just how much market participants had been banking on a Fed pivot, forcing many investors to quickly reverse their positions and their corresponding long-risk exposure.
The following are direct excerpts from Powell’s speech on Friday:
“‘The FOMC’s overarching focus right now is to bring inflation back down to our 2% goal”
“Our responsibility to deliver price stability is unconditional… There is clearly a job to do in moderating demand to better align with supply. We are committed to doing that job.”
“Restoring price stability will likely require maintaining a restrictive policy stance for some time. The historical record cautions strongly against prematurely loosening policy.”
“…we must keep at it until the job is done. History shows that the employment costs of bringing down inflation are likely to increase with delay, as high inflation becomes more entrenched in wage and price setting.”
“We are taking forceful and rapid steps to moderate demand so that it comes into better alignment with supply, and to keep inflation expectations anchored. We will keep at it until we are confident the job is done.”
There you have it — it doesn’t get clearer than that!
Bringing inflation back down and under control is currently the Fed’s number-one mandate, as they realize inflation affects 100% of the population and has a devastating effect on the bottom 40% of the population.
The equity and crypto markets for the last several years have been driven by liquidity. Liquidity starts with the Fed and the Fed just confirmed they are not going to be adding any liquidity any time soon whilst inflation persists.
“Once inflation goes above 5%, it has never come back down without the Fed Funds Rate exceeding the CPI.”
– Stanley Druckenmiller
Macro’s mixed signals
As we pointed out in our last Market Outlook letter, there still remains conflicting macro signals, most notably in the labour market. The current jobs market has not confirmed that a recession has taken hold in the country. The U.S. unemployment rate is holding steady at 3.5%, which is the lowest level observed in the last 50 years. Moreover, the July hiring report was quite robust, indicating that employers in the U.S. added roughly 528,000 new jobs in July 2022 and job vacancies rose unexpectedly to 11.2 million in July, far exceeding expectations.
Previous recessions and depressions in the U.S. have been accompanied by a severe slowdown in hiring, as well as large swaths of layoffs. In fact, a lack of available work has been a hallmark of virtually every economic contraction in U.S. history.
Additionally, the consumer confidence report from Mon. Aug. 30 considerably topped forecasts, pointing to strength in household and labour demand.
Considering the robust nature of the current jobs market, the above suggests that if an economic slowdown is playing out, it’s likely more attributable to inflation (i.e. a cost of living crisis) as opposed to a lack of available employment.
TECHNICAL ANALYSIS
The team at AltFi is comprised of both crypto native and traditional finance professionals. As long-term investors, we use fundamental analysis to identify and select investments coupled with a technical approach to risk management. Our deep experience with technical analysis helps us interpret market cycles, current trends, and manage risk.
In these current market conditions, technical analysis and risk mitigation take precedent.
Below is the daily chart of Bitcoin since putting in the market low on June 18. In our prior Market Outlook letter we explained why this market low had “capitulation low” characteristics and was a sign of a potential market bottom and led to us starting to establish some initial long positions.
The resulting up-trend from the June lows to mid-August high was characterized by a series of higher highs and higher lows as indicated on the chart above.
The daily price chart of Ethereum paints a very similar picture in terms of market structure, but the quantum of the rally was much greater with a rally exceeding 100% from the June low to the August high, driven by the pending Ethereum Merge narrative, wherein ETH will undergo a significant network upgrade and transition its validation framework from “proof-of-work” to “proof-of-stake.” (1) Investor optimism on the coming “merge” is, in part, underpinned on ETH becoming a deflationary asset owing to the reduction of ETH’s supply issuance rate by roughly 90 per cent (in essence, cutting out the proof-of-work miners).
Technical breakdown
The first technical analysis signs of a break in the current trend occurred on Aug. 19th, which included (i) price closing below the 21 day moving average; (ii) a break below the prior higher low; and (iii) a bearish signal in the Directional Movement Index (DMI) oscillator.
Despite the bearish signal, we at AltFi kept our long ETH position as we took the position that the upcoming September Ethereum Merge narrative would outweigh the current technical signal. This turned out to be an incorrect decision. However, immediately following the bearish remarks from Chairman Powell noted above, we swiftly repositioned the portfolio to fully Risk Off.
The importance of the 200 day moving average
Despite the significant rally from the June lows, we at AltFi remain very cognizant of the big picture trend, and this in conjunction with our macro outlook helps determine our overall risk appetite. As mentioned in a previous AltFi Market Outlook letter, the most powerful and well known moving average for helping determine the long-term trend is the 200-day moving average on the daily timeframe, which acts as a strong level of resistance when price is approaching it from below, and also acts as a strong level of support when price is approaching it from above.
The chart below of the S&P 500 index shows a classic example of this over the last couple of weeks.
The chart shows the SPY (S&P 500 ETF) bar chart rallying off the June lows all the way up to the 200 day simple moving average (solid red line), where it immediately fails at this resistance level. Also of note is the price of Bitcoin (gold coloured solid line), which saw its rally stall at the same time period, highlighting the current strong correlation across all risk assets.
Upon closer inspection, you can see that the Bitcoin price actually started to fall back before the S&P Index did, a fact not lost on many savvy equity-traders who follow crypto prices carefully as early directional signals on their pending equity trades. Given that crypto trades 24/7, following crypto prices over the weekend is an especially useful signal to the equity market’s likely direction on a Monday morning — hence — it’s often referred to as the “Weekend VIX.”
So while the S&P approached its 200 day moving average and failed at resistance, let’s see where things stand in the same metric for Bitcoin and Ethereum.
The chart above shows daily price chart of Bitcoin and the 200 day moving average, and the chart below is the corresponding same chart of Ethereum.
The chart above shows Bitcoin needs to rise 58% from current price and Ethereum 40% from current price to reach its 200 day moving average. And while these may appear superficially to be very divergent, prices in crypto can move very quickly and 15%-20% price movement in a day is by no means uncommon.
At AltFi, we will remain cautious with our portfolio allocations until a clear bull trend is well established and price is firmly entrenched above this key technical level.
FUNDAMENTAL ANALYSIS
The ETH merge is likely the most significant event in crypto of the last several years. Though important in technical scope, it’s also important investors don’t lean over their skis in the run up, and instead proceed cautiously pending the outcome. Long-term, ETH’s consensus mechanism transition is a positive for the ecosystem and the asset, but bearish macro factors will continue to weigh on ETH and correlated tokens, even in a successful outcome scenario. It’s also important to note that the unlocking of staked ETH won’t occur until another several months elapse post-merge, reducing the risk of a rapid circulating supply increase, creating downward price pressure on the token.
CONCLUSION
While we remain steadfast in our view that the upcoming ETH merge will drive a strong bullish narrative, macro conditions will continue to prevail and outweigh other sentiment.
At AltFi, we like to say, “don’t trade the news, trade the price action,” and we currently are trading opportunistically based on technical analysis on shorter time horizons with small positions, with plenty of cash on hand ready to deploy as opportunities present.
Contact
Tim Calveley — tim@altfi.capital — +1 (441) 300–0204
Cooper Jefferson — cooper@altfi.capital — +1 (705) 790–2959
About AltFi
AltFi Capital Management Ltd. offers an alternative investment management service with a specialization in digital assets. AltFi offers investors hedge fund, venture capital and strategic investments in the digital asset sector, via a single open ended non-leveraged fund vehicle.
Disclaimer
This article is not an offer to sell shares of any investment fund or a solicitation of offers to buy any such securities, nor should it be misconstrued as investment advice.
(1) A consensus mechanism in which an individual or “validator” validates transactions or blocks. Validators “stake” their cryptocurrency, such as ether, on whichever transactions they choose to validate. If the individual validates a block (group of transactions) correctly then the individual receives a reward. Typically, if a validator verifies an incorrect transaction then they lose the cryptocurrency that they staked. PoS requires a negligible amount of computing power compared to Proof of Work consensus.
