The Bitcoin Triangle
How banking fragility, lower rates and inflation leads us to the same place
Hedge fund blowups, multiple bankrupt lenders and one of the largest exchange scandals we’ve seen in a long time. The last 12 months have been jam-packed with bad things in crypto land.
But here we are, Bitcoin is almost back to $30,000. This pesky thing just won’t die to the dismay of many people, including famous investor Charlie Munger. It’s because Bitcoin is not Three Arrows Capital, Celsius or Sam Bankman-Fried. Bitcoin is independent of people.
The case for Bitcoin above $30,000 has never been better in the last 12 months.
Famous entrepreneur and investor, Balaji Srinivasan, put out “The Bit Signal” calling for $1MM Bitcoin in 90 days due to what he believes will be an incoming hyper devaluation of the U.S. dollar.
My expectation of “it gets to and stays above $30,000” is a much more modest proposition and is based on less extreme necessary conditions. The need for hyperinflation or hyper-devaluation of the U.S. dollar is a high hurdle. I think Bitcoin will get above and stay above $30,000 because of what I call The Bitcoin Triangle.
In the recent past, I believe the combination of two variables have been putting pressure on Bitcoin: inflation combined with higher interest rates. Until now, higher inflation has led to higher global interest rates which has put price pressure on all long duration securities. Bonds, tech, growth stocks and crypto have all acted the same way: down only.
Since March 10, 2023 - the day that Silicon Valley Bank went into receivership - the reaction function may have changed. A third leg was added to the stool. In my view, a triangle has been formed around Bitcoin. While two variables created downward pressure, the triangle creates buoyancy.
The Federal Reserve and other central banks cannot indiscriminately raise interest rates further. The fragility of the banking system likely won’t allow them to do so. I call this the Bank Fragility Put. Fragile banks are now a counter force that stops the Fed which then stops additional downward pressure on long duration assets.
Investor Alex Gurevich wrote a book called The Next Perfect Trade where he talks about rare investments that don’t require you to be right about what will happen in the future. Regardless of multiple outcomes, your position has a high probability of winning. Buying long duration bonds in 2014 was an example of such an investment type.
At the time, growth, inflation and interest rates were low in the US. If things were going poorly, long duration bonds would do well. Additionally, if things were going well, the Fed would raise rates (bad for the long duration bond trade as that happened) but that would quickly turn into a recession and thus lower rates again. Growth was anemic where very modest interest rates were enough to derail the system. Thus, both good and bad growth seemed to lead to the same outcome: lower long-end rates. You didn’t need to know the path of growth or whether the Federal Reserve was raising rates.
I think The Bitcoin Triangle and Bank Fragility Put puts Bitcoin in a similar situation. The fragility of the banking system changed the game. Here is the logic:
Context: Inflation combined with higher rates is not good for Bitcoin. Combating inflation with higher rates leads to higher real yields which is not good for non-cash flow generating assets.
First tailwind: The current chaos in the traditional banking system itself (i.e. counterparty risk of where you leave your cash) is a positive for Bitcoin, which is a non-custodial, fully reserved asset.
Second tailwind: It’s unlikely that the Fed can aggressively raise rates from here. The second tailwind for Bitcoin is then neutral or soon to come lower rates. Note that U.S. two year yields recently dropped from ~5% to ~3.75% while tech stocks greatly outperformed in the last two weeks. Bitcoin, bonds, tech and growth stocks doing the reverse of Down Only is a sign of what the market is thinking.
Third tailwind: Inflation with the hammer that is higher interest rates is not good for Bitcoin, but it might be that just inflation without the hammer leads to a different market reaction. It might be that the banking fragility is disarming the Fed and its ability to aggressively fight inflation.
So, a concern around counterparty risk, neutral or soon to be lower interest rates and inflation without higher rates is the triangle.
If the Fed continues to hike and it further breaks the system, it’s bullish for Bitcoin as an alternative asset. Flood the system with liquidity or lower interest rates, bullish for Bitcoin and other long duration assets. Stand still and inflation continues to rise, probably good for Bitcoin too as it’s a low inflation asset.
So it doesn’t seem to matter what the Fed is going to do, all paths seem to lead to the same outcome. I don’t know if it goes back to $18,000 or $20,000 first, but in the end, above $30,000 looks quite likely to me. An interesting thing to keep in mind.
This is not investment advice.
All opinions are my own.
You've been right so far.
All paths have led to the same outcome.
Bitcoin has been drifting around the $30,000 mark for quite some time now.
Regardless of the maneuvers of the Feds, the projected outcome still remains.
Quite an engaging read.
Thanks Rafa!