July 11, 2023

June 2023 Market Commentary

Galaxy Asset Management

July 11, 2023

Market Commentary

The month of June marked crypto’s fifth green month of the year, with BTC and ETH up ~12% and 6% respectively. As noted in last month’s newsletter, support of and investment into digital assets by politicians, entrepreneurs, and nations has not abated despite major industry headwinds over the past 12 months. The resounding sense among market participants and outside observers alike is that the worst seems to be behind us; this is borne out by the following observations:

Low leverage: 2022’s bear market in crypto was marked by a complete wash-out of the over-abundance of credit that had been built up since the early stages of the cycle. Since the high-profile collapse of FTX in November 2022, both the supply of and demand for leverage in crypto has fallen precipitously due to risk aversion by both lenders and speculators. To illustrate this point, aggregate open interest in bitcoin (futures + perpetual forwards) is still down close to 50% since the peak of aggregate open interest in 2021.
Regulatory resolve: At the onset of this year, there remained significant uncertainty regarding the global regulatory treatment of cryptoassets. In just six months we have seen significant progress out of Europe (via MiCA), Hong Kong, and the U.K. In the United States, the SEC appears to have already exhausted its bandwidth and political capital after launching suits against Binance, Coinbase and others. Further, many high-profile politicians in congress from both parties have demonstrated an acumen of digital assets that would suggest legislative support in the future.
Macro narrative support: Having decoupled from broader risk assets, crypto has re-emerged in 2023 as a store-of-value asset. This has been fueled by de-risking events such as the regional banking crisis that began in March and the debt ceiling debacle that transpired in late May, as well as a Eurodollar futures market that is pricing in a Fed pivot by the end of 2023.

This past month we saw institutional adoption come into reality as the world’s largest asset manager, BlackRock, filed for a spot bitcoin ETF. While many have sought approval to launch spot-based bitcoin ETFs in the past – from the Winklevoss twins in 2013 to the likes of Fidelity, VanEck, WisdomTree, Valkyrie, Bitwise, 21Shares, and Skybridge in 2021 – BlackRock had never applied for approval until this week. A notable difference between BlackRock’s filing and prior filings is that BlackRock will utilize software sourced from Nasdaq for monitoring spot markets for wash sales, market manipulation, and other market integrity measures. In its prior denials, the SEC had repeatedly noted the lack of sufficient “surveillance sharing agreements” (SSA) to mitigate and prevent market manipulation. Other applications, such as those from Fidelity and VanEck, contained info about SSAs to monitor derivatives but not spot markets. The announcement of BlackRock's ETF filing ignited a wave of institutional re-applications for spot-based bitcoin ETFs. Since BlackRock’s filing, WisdomTree, Invesco, and several other issuers have re-filed or reactivated their filings. Each of these companies had some kind of prior attempt to launch spot-based bitcoin ETFs in 2021, but either withdrew their applications or were rejected by the SEC. Before this recent wave of reapplications, the joint filing from 21Shares and ARK Invest was the sole live application in the queue.

The big question among observers this past month has been, why file now, after years of denials and an American crypto industry embroiled in regulatory disputes? One answer lies in the evolution of the underlying spot markets. In its prior rejections, the SEC questioned the integrity of underlying spot BTC markets as its primary concern. The SEC’s actions against Coinbase and Binance can be seen to provide a certain clarity to underlying spot markets, and the announced launch this week of EDX, the disaggregated crypto exchange backed by Citadel, Fidelity, Schwab, and Virtu Financial, could be just the type of underlying spot market that the SEC needs to approve an ETF.

Secondly, if you look across the gamut of the SEC’s enforcement actions, one name is conspicuously omitted from scrutiny: Bitcoin. Bitcoin is the only asset that SEC Chair Gary Gensler has explicitly stated is not a security – at least while he has been Chair of the SEC. Prior to becoming Chair, Mr. Gensler did say that neither Ethereum, Litecoin, nor Bitcoin Cash were securities. (Incidentally, Bitcoin and the three aforementioned assets are apparently the four that will be tradeable day one on EDX.)

This new environment is perhaps reason enough for BlackRock to see this moment as a particularly auspicious time to file. Even BlackRock’s once bearish CEO Larry Fink recently stated that bitcoin could “revolutionize finance.” Theoretically, the soonest BlackRock’s ETF could be approved is August 13, 45 days after registration. This all puts a lot on the SEC’s plate, particularly with some of the older lawsuits supposedly approaching conclusions (Ripple & Grayscale).

Portfolio Considerations

Given BlackRock and other asset managers’ recent ETF filings, and the increased probability of the SEC approving these spot Bitcoin ETFs, we anticipate a more favorable environment for Bitcoin prices to unfold. In fact, there are several parallels that can be drawn between the SPDR Gold Shares ETF (GLD) and BlackRock's proposed spot Bitcoin ETF. The enhanced accessibility and liquidity offered by GLD's ETF structure contributed to the acceleration of gold's performance. If the price movement of gold following the SEC's approval of GLD serves as any indication, the approval of spot Bitcoin ETFs by major asset managers worldwide could pave a similar path for the underlying asset.

In other news, Ethereum co-founder Vitalik Buterin published a blog post earlier this month outlining the three ‘transitions’ necessary to take Ethereum to the main stream. These include:

The scaling transition: For Ethereum to scale its transaction bandwidth, further development is required for Layer 2 solutions such as rollups.
The wallet security transition: Mass adoption of smart contract platforms such as Ethereum require a more seamless user experience, meaning wallet interactions that are more intuitive and present less risk.
The privacy transition: “Making sure privacy-preserving funds transfers are available”.

Moving forward, we expect to see increased focus on development in these three areas. To that end, this month we have seen Optimism (OP), an Ethereum Layer 2 deploy its long-awaited Bedrock upgrade and Polygon (MATIC), a network of Layer 2 solutions on Ethereum announced plans to transition to Polygon 2.0 which will rearchitect the network to a zero-knowledge based scaling model. Both upgrades exemplify developmental progress on Ethereum’s largest scaling solutions that will bring increased transaction and storage efficiencies, enhanced security, and simplified user experiences.

Institutional Adoption Highlights

Crypto Performance and Volatility Data