A Crypto OG Calls the Bottom

When Arthur Hayes drops a new blog post, it's a big deal. He's been in the crypto space since 2013 and co-founded BitMEX, one of the world's biggest crypto exchanges in 2014. Here's a quick summary of what he said:

First off... he had a very interesting take on the Luna crash

Before the crash, the price of Luna had gone up 100x and lots of big venture capital (VC) firms had been early investors. Now, these VC firms were faced with a tough economic environment and a market where the price of everything was going down. They wanted to cash out some of the profits they had made on Luna. There was one problem. Every transaction that occurs on the blockchain is public information and if the public spotted early investors' liquidating large Luna positions, it would have raised alarm bells. Luna's stablecoin UST offered a convenient way out for these early investors. 

Because of the way Luna tokens were used to peg the value of UST to $1 (explained in the footnote for those who might not know), investors could tender $1 worth of Luna for 1 UST at the LUNA/UST market price. Those Luna tokens would be burned and an equal amount of UST would be created, with zero market impact on the price of Luna. Investors would then trade this UST for other stablecoins or actual US Dollars and boom... they've cashed out and taken profit without impacting the market. 

Hayes' source estimates that $5 BILLION of these transactions took place. This led to a huge rise in the supply of UST, and this, in turn, led to the peg breaking slightly and the price of UST falling just below $1. Once this happened, people lost confidence in the peg and all hell broke loose. 

The three reasons why we may have reached a bottom

1.  Bitcoin and ETH have become less correlated to the stock market - The correlation between BTC/ETH and the Nasdaq 100 broke down recently. Hayes believes this is a bullish signal.

2. Current price levels are close to all time highs in the previous cycle - Hayes studied previous cycles of Bitcoin and Ether and found that the price level at the bottom of a cycle is usually near the highs of the last cycle. The prices of BTC and ETH are currently around the highs of the last cycle.

3. The media is shouting loudly about how stupid crypto is - Those who were shouting about how stupid crypto is feel vindicated, and there have been headlines all over the media about the crypto crash. Hayes believes this is also a sign of a market bottom

4. An extra bonus for Bitcoin - During the Luna crash, the Luna foundation sold 80,000 Bitcoin in a very short time window. Given this level of extreme selling is now over, this could be another reason why Bitcoin has bottomed and the price will bounce from here.

$10k ETH?

In previous blog posts, Hayes had outlined why he thought ETH would reach a price of $10,000 by the end of the calendar year. He still believes in that price target but is less sure about the timing now because it depends on political factors and how the Fed adjust its monetary policy.  

The Fed holds the Key

At the moment, the Fed is increasing interest rates rapidly to combat very high inflation, and this is decreasing the price of all risky assets, including crypto assets. Hayes believes the crypto bull run will start when the Fed eventually changes course: 

"The Fed will not be coy about its about-face. The pivot will be clearly telegraphed, and those waiting for a signal that it’s on like Donkey Kong will receive it. For patient traders whose time frame spans many years, it pays to wait. You don’t want to sell filthy fiat and buy Bitcoin / Ether early only to get shook due to a lack of confidence in your investment thesis. It is better to wait for the all-clear signal from the high clergy of the devil that it is time to join the crusade."

N.B. UST was an algorithmic stablecoin. To keep the value pegged to $1 Terra used the Luna token, which was central to the Terra ecosystem.

Luna was not a stablecoin - its price varied considerably- it was a governance and staking token. That means that if I held Luna tokens, I was entitled to a vote on decisions about the future of the Terra network, and it meant I could also stake these Luna tokens and earn a return on them, since as a holder of Luna, I was entitled to my small share of profits made on the Terra ecosystem.

So, back to stablecoins. Terra used Luna tokens to maintain the pegs for its stablecoins. That meant I could exchange 1 UST for exactly $1 worth of Luna at any time. At one point, the price of one Luna token was around $100. So I could exchange 1UST for 1/100th of a Luna token, the value of which was $1.

So how did the Terra network ensure that 1 UST could always be exchanged for exactly $1 worth of Luna? The idea was that if the price of UST rose, and you could exchange it for $1.20 worth of Luna, Terra’s algorithm would burn (meaning destroy) Luna tokens to create more UST. This would decrease the supply of Luna tokens, and economics 101 tells us that when supply goes down, price rises. And on the other side, the supply of UST would increase, which would make the price of UST go down, eventually back to the level of the peg, so 1 UST would be worth $1 of Luna again. If the price of UST fell too low, the opposite mechanism was meant to kick into effect, and UST was meant to be burned to create Luna tokens.