Month: January 2021

Submitted by Ritesh Jain of World Out Of Whack

Today, much like in the past, it is not the best idea that wins, but the narrative which captures the most mindshare. Nothing rings true than this quote of 1933 made by the Propaganda Minister of Nazi Germany

“It is the absolute right of the state to supervise the formation of public opinion.” – Joseph Goebbels

As Coronavirus cases continue to increase in many parts of the world and lockdowns are put in place, the story should look grim; but there is also light at the end of the tunnel because of vaccines. After the vaccines have been administered to most of the population, there will be plenty of pent-up demand that will help the economy recover. That said, who needs vaccines when you have the central banks backstopping the markets by introducing high amounts of liquidity?

What appear to be bubbles right now, could go exponential. As J.C Parets write “News was poison in 2020. It will be worse in 2021”. The investors who often get markets right knows how to shut off the news and focus on what is important.

The vast liquidity we have today is emanating from the balance sheets of central banks. As more electronically printed dollars are pumped into financial markets, the cost of financing goes down, thereby pushing asset valuations higher. This view is further reinforced by a weakening dollar, and even by the fact that Jerome Powell has called out the explicit link between low interest rates and the high valuations in markets.

Vast amounts of liquidity can also create a lot of fragility in markets. Even if central banks continue injecting liquidity into the system, at some point markets will fully price it in. Once that happens, it can become the bigger driving force that may set up markets for a taper tantrum 2.0 of sorts as the system demands not just a continuation of liquidity provision but increasing amounts of it. Investors should no longer continue to think about how much central bank balance sheets have increased, but rather the rate at which the balance sheets are growing. The exhibit below by Morgan Stanley points to a deceleration in the rate of growth of G-4 central bank balance sheets as we approach the end of 2022.

As most readers will already know, financial markets are complex systems, which means they are highly interlinked and have feedback loops. These feedback loops lead to nonlinear effects, which means small shocks can transform into large ones due to each node in the system being interlinked to other nodes. For comparison, when too much snow accumulates, the probability that even a small snowflake can trigger an avalanche goes up significantly.

With the median correlation across asset classes reaching new highs, the probability of an avalanche goes up. Nobody could have predicted COVID-19 from appearing when it did; but what had been known for a while was that due to globalization, the world was much more prone to eventually experience a global pandemic. In a similar fashion, as markets become unhinged from their underlying fundamentals and become liquidity driven (which in turn drives correlations higher), the probability of an ‘avalanche’ occurring in the markets is becoming more and more likely.

The response to the global pandemic was to provide financing through loan guarantees and green asset financing by the government. We have had quantitative easing programs since 2008, but we have not seen inflation in goods and services because banks were not lending money. This meant that an increase in the money supply did not make it into the real economy. Today, however, after experiencing an economic shock caused by COVID-19, the government response has led to money reaching the real economy.

The pandemic has taught governments that they can now – through MMT-lite programs – lend directly to the economy through the commercial banking channel.

“You can lead a horse to water, but you can’t make him drink” is an apt quote for liquidity (M2) sloshing around in the system but refusing to multiply (M3). The M3 velocity has been stubbornly falling since March 2020 but as per Gavekal’s Velocity Indicator this money is finally looking to multiply. Said differently, the horse has finally decided to drink water.

But before you start admiring the below chart you should keep in mind that

What is good for the economy is bad for the markets and what is bad for the economy is good for the markets.

Let me explain. Liquidity is fungible. It can either go to the Financial markets or it can go the real economy. If vaccines work and business closures and layoffs subside then the money hiding in financial assets will spill over to the real economy and force Monetary policy to tighten financial conditions.

So, rising Money velocity is not good for Financial markets and on the contrary will lead to elevated volatility in financial assets.

The increase in velocity is bad for US dollar and US Dollar should continue to fall but not in a straight line. This liquidity is currently lifting all boats, but I think we will see some assets doing better than others in 2021. My bet is on Japan, Vietnam, African Continent, and commodities in general with a continuing bullish stance on precious metals, crude oil and agricultural commodities.

Central Bank digital currency.

A lot has been written in the media about central bank digital currencies (CBDC), and we might see the dawn of CBDCs with China increasingly looking like the first one to launch its version, known as CBEP.

As per a MicroStrategy paper titled “The cost of Money being nothing”:

If money supply is created centrally, it must also be used, or directed, centrally as indeed we are seeing at the moment with the lockdowns and the enormous surge in budget deficits. Under a CBDC scheme, the central bank would become arbiter of who should and shouldn’t be granted credit. By determining the price of money, it determines what is “value” and thereby what is produced and consumed, and how it is produced. It determines what the real return on capital is and how much capital is destroyed. By printing money to buy Treasuries, it has reshaped the entire economy around greater government spending and control. Under a central bank digital currency, monetary policy will become completely political.

Bullish on Japan

Japan is the only country in the G-7 where monetary policy and fiscal policy are working seamlessly thanks to embedded Abenomics reforms. Valuations are cheap, and more importantly, it is a very unloved market from an institutional and retail investor perspective. Below is a chart of 5-year flows into the biggest Japanese ETF (EWJ).

Further, this chart from Morgan Stanley explains the Japanese story in simple terms:

Bullish on Vietnam

Vietnam will be one of the few countries in the world that will boast double-digit nominal GDP growth rates once the COVID-induced slowdown is over. The country has real rates in the range of 200-300 bps and a low fiscal deficit, which is a rarity in today’s world. Positive real rates, low and stable inflation, low unemployment, and a positive current account balance are characteristics of a strong economy. India was exhibiting all these characteristics in 2002-2003 (except a positive CA balance) right before a domestic consumption boom began. Vietnam is also going to be a big beneficiary of a “reshoring boom” out of China

https://www.bofaml.com/content/dam/boamlimages/documents/articles/ID20_0147/Tectonic_Shifts_in_Global_Supply_Chains.pdf

Bullish on Africa

Africa is resource rich and it is going to be the next frontier of growth led by technological advancement, connectivity and more importantly the battleground of largesse for the two competing superpowers i.e., US and China. China is already increasing its influence in Africa through its Belt and Road Initiative and it plans to complement that by extending its CBDC reach over the entirety of the continent.

African countries will have much better access to credit and will be able to sidestep a boom-and-bust cycle of currency devaluation, providing them with much needed economic stability.

https://www.forbes.com/sites/rogerhuang/2020/05/25/china-will-use-its-digital-currency-to-compete-with-the-usd/?sh=5dd1bbab31e8

Bullish on Commodities

Commodities almost always rise when there is a supply side shock. The rise in commodity prices is rarely demand driven because demand can be modeled, while supply shocks are much harder to predict. If you see the chart below you will find that all peaks and troughs happen around events, and I believe that COVID-19 was such an event, which has broken supply chains across the world. The years of underinvestment in commodities and energy in general was waiting for a catalyst to start showing up in prices and I think we have that catalyst firmly in place. I also believe that soft commodities, base metals, the entire energy complex including coal and Uranium and precious metals will see more inflow of capital as they are under represented in investors portfolio.

Where can we lose the most money?

We must understand that markets are not cheap by any measure.

I would say the easiest answer is in consensus, but the most concerning thing for me is the sentiment. Now, this does not mean we will get an imminent price correction, but it does mean that the market is vulnerable to any negative catalyst. I do not recall grappling with so many of these negative catalysts at the start of a year, and especially when most assets were not cheap from a historical perspective. The resurgence of the virus, a surprise increase in inflation, policy missteps, a jump in bond yields or bond spreads, fears of stagflation, China launching its digital currency, broken supply chains, geopolitical flashpoints etc. – and the list is still not exhaustive by any imagination, in my opinion.

I believe that there is a reasonable possibility that any of these catalysts could materialize and give us a risk-off environment at various points in 2021. I expect to see a 10-20% correction in broad indices whenever a risk-off episode materializes with much larger drawdowns for individual securities. All corrections will be met with a forceful response from Monetary and/or Fiscal authorities who are left with no choice but to support the system and hope to inflate away the massive overhang of debt built in the system.

The best way to play this environment is either through having cash (at least 30%) as an asset allocation, ready to be deployed at short notice, or by buying far out of money call options on volatility whenever the markets are in a euphoria stage.

The cash deployment during these events should be in commodity producers, asset owners or Emerging Markets

The Bank of Japan bought just 50.1BN yen of ETFs on Monday – the first day of 2021 – the smallest amount it has bought in more than four years on a day when it has made a purchase as part of its ETF buying program.

The reason this is notable is two-fold: i) it made headlines on Bloomberg, demonstrating that in this centrally-planned “normal” what really matters is how much risk assets central banks buy (and at least the BOJ is sincere about its intentions to prop up the stock market no matter the optics, unlike its “shy” peers at the Fed), and ii) the central bank buying “only” 50bn yen in stocks is a newsworthy event.

As a reminder, in August 2016, after increasing its annual purchase target to 6 trillion yen, the BOJ more than doubled its daily purchase amount to over 70BN yen.

Since then it has never purchased less than 70b yen on days when it buys ETFs as part of its main program, although most days it does not make purchases; the BOJ separately buys 1.2b yen in ETFs every day to support companies’ investments in “physical and human capital.”

That changed on Monday when the BOJ inexplicably bought 20BN less than it normally buys on a day ending in “y.”

As shown in the chart above, the bank raised its buying to a peak of more than 200BN yen during the market crash in March, before lowering that amount gradually back towards 70BN yen; In 2020, the BOJ bought a total of 7.14t yen.

This is concerning for two reasons: the BOJ may be telegraphing to the market that its implicit support of the stock market will now be about 20% less, which would likely hammer Japanese stocks which will now have to reprice far less support from Kuroda and co; Worse, the BOJ wouldn’t be making such an implicit shift in its equity support in a vaccum, and if it is indeed confirm that this wasn’t some one off fluke, other central banks may soon follow suit.

While we wait for the answers, keep an eye on how many ETFs the BOJ will buy today: another 51BN day and things may get interesting. And another potential concern: on Tuesday the BOJ also reduced the amount of JGBs it purchased in the 1-3 year bucket from 500bn previously to “only” 450BN: are central banks starting to phase back their support of risk assets?

Iran on Monday confirmed that it has resumed 20% uranium enrichment at an underground nuclear facility at a moment of soaring tensions with the US and Israel in accord with prior threats to do so if international US-led sanctions weren’t rolled back.

“A few minutes ago, the process of producing 20% enriched uranium has started in Fordow enrichment complex,” government spokesman Ali Rabeie announced on state media.

While the continued breaching of the terms of the 2015 nuclear deal is likely aimed at gaining more leverage ahead of Biden entering the White House on January 20, it comes at a moment of a heightened state of US military alertness in the region.

Tehran has long maintained its nuclear program is solely for peaceful domestic energy purposes, yet there are fears this puts the Islamic Republic on a more direct and easy path to developing a bomb, as The Guardian reviews: 

The latest Iranian step takes Tehran further away from the terms of the deal, and underlines its willingness to play for high stakes with Washington. Up until now, Iran was enriching uranium up to 4.5%, in violation of the accord’s limit of 3.67%. Under the agreement, Iran is also only allowed to produce up to 300kg of enriched uranium in a particular compound form (UF6), which is the equivalent of 202.8kg of uranium.

Low-enriched uranium – which has a concentration of between 3% and 5% of U-235 isotopes – can be used to produce fuel for power plants. Weapons-grade uranium is 90% enriched or more.

The question now remains whether this could trigger either US or Israeli aggression, which happened the last time Iran declared it would enrich to 20% (a decade ago). Many analysts further believe it was Israel behind a recent “sabotage” campaign targeting Iranian nuclear energy and military sites over the past year, particularly the July 2nd Natanz fire and blast which destroyed part of the complex.

In reaction to Tehran’s declaration, Israeli Prime Minister Benjamin Netanyahu said this proves the Islamic Republic is seeking the bomb. In a statement he said it’s part of Iran’s efforts to “continue to carry out its intention to develop a military nuclear program.” He vowed: “Israel will not allow Iran to produce nuclear weapons.”

Meanwhile, just ahead of Iran’s provocative announcement, the Pentagon has changed its mind over previously ordering home the lone aircraft carrier which within past weeks was patrolling the Gulf:

Just two days after the Acting Secretary of Defense Christopher Miller had ordered the supercarrier, USS Nimitz, to head home as a “de-esclatory” gesture toward Iran, the order has been rescinded and the Nimitz Carrier Strike Group is now set to remain in the Middle East until further notice. 

Acting Secretary of Defense Chris Miller said in his statement, “Due to the recent threats issued by Iranian leaders against President Trump and other U.S. government officials, I have ordered the USS Nimitz to halt its routine redeployment.” 

“The USS Nimitz will now remain on station in the U.S. Central Command area of operations.  No one should doubt the resolve of the United States of America,” he added.

Given that also on Monday Iran announced it will be conducting “major drone exercises” starting on Tuesday, according to Fars, all of this is a recipe for a potential new conflagration in the Persian Gulf.

Authored by Steve Watson via Summit News,

Senator Ted Cruz has continued his campaign against the unregulated expansion of Big Tech by labelling Google ‘the most dangerous company’ on the planet.

Cruz made the comments to reporters Saturday at a campaign event for the Georgia Senate runoff.

“I think hands down Google is the most dangerous company on the face of the planet. Google is the most dangerous because it’s the biggest by far. It is the most powerful by far. It controls the vast majority of searches people do,” Cruz noted after describing big tech as the “single greatest threat” to “free and fair elections.” 

Watch Senator Ted Cruz expose Google, Twitter and Facebook. He says, “Google is the most dangerous company on this planet’.https://t.co/TeUalLcqrn

— OmShantiOm11🇮🇳 (@OmShantiSanghi) January 4, 2021

Cruz referred to the 2016 election where “Google, through manipulated search outcomes, shifted over 2.6 million votes in 2016 to the Democrats.”

Cruz noted that psychologist Dr. Robert Epstein, who testified before Cruz’s Judiciary Subcommittee on the Constitution “is not a Republican. He is a liberal Democrat who voted for Hillary Clinton but is outraged to see that kind of abuse of power. Google is clearly the most dangerous.”

Cruz added that while Google is the most dangerous, “Twitter is the most brazen.”

“We just recently had a hearing where Jack Dorsey testified with a beard that looked like he had crawled out from under a bridge,” Cruz noted.

During that hearing, Cruz asked Dorsey if he believes Twitter has the ability to influence election outcomes, to which Dorsey replied “no”… an answer Cruz described as “absurd.” 

“If you don’t think you have the power to influence elections, why do you block anything?” Cruz countered, forcing Dorsey to admit that “more accountability is needed.”

CRUZ: “Does Twitter have the ability to influence elections?”

DORSEY: “No”

CRUZ: “If you don’t think you have the power to influence elections, why do you block anything?” pic.twitter.com/6N21uxDvjw

— Daily Caller (@DailyCaller) October 28, 2020

Cruz then asked Dorsey “Who the hell elected you and put you in charge of what the media are allowed to report and what the American people are allowed to hear?”

“Mr. Dorsey, who the hell elected you?” Ted Cruz says.

“We realize we need to earn trust more. We realize more accountability is needed,” Jack Dorsey responds.

Twitter shares taking a hit after that round of questioning 📉https://t.co/YVXYzGhOZo pic.twitter.com/4TLDsgHZ8U

— Bloomberg Technology (@technology) October 28, 2020

Speaking Saturday, Cruz urged “Look, Twitter brazenly censored the New York Post when it ran stories about Hunter Biden and Joe Biden’s corruption concerning China, concerning Ukraine and Russia, and they just silenced it. Not only did they prevent you and I from circulating those stories, for two weeks, they banned the New York Post.”

Indeed, the company did more than that, they even blocked users from tweeting out the link to the Post story.

“The New York Post is not some fly-by-night organization. It is the newspaper with the fourth-highest circulation in the country. It was founded by Alexander freakin’ Hamilton,” Cruz urged.

Cruz added that Facebook CEO Mark Zuckerberg has “benefited because Twitter and Google are so rotten that even though Facebook’s pretty bad, just saying free speech is important makes him appear markedly better than his rivals, but all three are very serious concerns.”

The Senate voted last week to pass the National Defense Authorization Act without the repeal of Section 230 that President Trump had requested:

Our Republican Senate just missed the opportunity to get rid of Section 230, which gives unlimited power to Big Tech companies. Pathetic!!! Now they want to give people ravaged by the China Virus $600, rather than the $2000 which they so desperately need. Not fair, or smart!

— Donald J. Trump (@realDonaldTrump) January 1, 2021

In a world plagued with a now-quickly-mutating virus pandemic running rampant in several countries sparking continued flight restrictions, airline passenger traffic worldwide plunged to two-decade lows in 2020, according to global aviation data firm Cirium.

Cirium found that 21 years of global passenger traffic growth was wiped out in a matter of months last year because of flight restrictions to mitigate the spread of the virus, reducing traffic to levels not seen since 1999. “In comparison to last year, passenger traffic is estimated to be down 67% in 2020,” the firm said. 

April was the height of the air travel collapse. In that month, flights plunged to just 13,600 globally on Apr. 25, compared with 95,000 tracked by Cirium on Jan. 3. This represents a stunning collapse in global flights over the period, down by more than 86%. 

Cirium’s data showed airlines operated 16.8 million flights from Jan. 1 to Dec. 20, down from 33.2 million in the same period the prior year. US travel was down 40% over the same period, from 21.5 million flights in 2019, while international flights were 68% below the 11.7 million flights tracked the year before. 

Cirium said at least 40 airlines altogether ceased or suspended operations during 2020, with more failures expected for 2021. This has resulted in a tsunami of defaults, bankruptcies, and bailouts.

To view the list of the most prominent airline bankruptcies and bailouts of the past year, courtesy of Bank of America, read our most recent report titled “Mapping The Global Lockdown: Where Air Travel Is Partially Open And Where It’s Fully Closed.” 

“This severe setback shows the true extent of the challenge faced by the struggling aviation sector as it has sought to reset itself in the new post-COVID-19 era,” Jeremy Bowen, CEO of Cirium, said.

Bowen said, “airlines have a way before returning to 2019 levels particularly as international travel is significantly down.” 

Back at the start of November, JPMorgan quant NIck Panigirtzoglou – perhaps tasked with being the skeptic in-house bitcoin strategist – predicted that based on position indicators and technicals, “bitcoin’s overbought positions by momentum traders such as CTAs could trigger profit taking or mean reversion flows over the near term.” Bitcoin, which was then trading around $14,000 not only did not mean-revert or “profit-take”, but absolutely exploded over the next few weeks and by the end of November it rose to just why of its previous, 2017 highs, trading just below $20,000.

Of course, anyone who had shorted bitcoin on the back of Panigirtzoglou’s trade reco was not happy, which may explain why less than three weeks later the JPM quant admitted that he was wrong and scrambling to goalseek a bullish narrative to placate the bank’s institutional clients who were now clearly (mostly) long bitcoin, proposed a gold-parity thesis, according to which there is some $42 trillion in cash sloshing around, the value of above ground gold at $12 trillion is about 27x greater than the market cap of bitcoin today, which at its all time high is still just $443 billion. In short, if the value of bitcoin were to reach parity with gold, the price of one bitcoin would have to increase to $$650,000 from its current price of $24,000.

This time Panigirtzoglou – who gave up trying to justify the relentless move higher with fundamentals, technicals, or any conventional methodology – was right directionally, and bitcoin proceeded to nearly double from its price of $18,000 at the end of November to a new all time high of $33,600 hit on Sunday.

Which brings us to today, when seemingly eager to repeat his mistake from two months ago when he prematurely called an end to the record bitcoin run, Panigirtzoglou has published a new report asking in “Has bitcoin equalised with gold already?” (spoiler alert: not by a long, long short… but as usual JPM has its own theory).

What is the latest JPM thesis? Well, having failed to spot the inflection point in bitcoin’s price using “technicals and momentum”, Panigirtzoglou has now flipped and instead is relying on valuation to tell him whether the price of the crypto is too high. Yes, a banking quant is using “valuation” of an intangible fiat-alternative monetary unit as a basis for a trading reco. And one wonders why almost nobody reads sellside research anymore.

In any case, in JPM’s latest attempt at flip-flopping calling what may be the most important price inflection point in the world today, the JPM quant writes that after bitcoin’s tremendous run in recent weeks – on the backs of both rapid institutional adoption and continued retail buying – the “valuation and position backdrop has become a lot more challenging for bitcoin at the beginning of the New Year.” Which, of course, is obvious: the higher something goes, the more likely it is to go down as well as up. If only JPM was as accurate in calling the first leg of the rally higher it may even have credibility in calling such inflection points, whether it uses technicals or – as in this case – valuations methods to come up with its conclusion.

What is even more amusing is that having been already burned once, Panigirtzoglou is especially cautions and begins by caveating that he “cannot exclude the possibility that the current speculative mania will propagate further, pushing the bitcoin price up towards the consensus region of between $50k-$100k, we believe that such price levels would prove unsustainable.”

In other words, bitcoin can triple from here… but then it will reverse. That is clearly profound insight, and we hope that anyone who trades on such a reco has a balance sheet at least as big as that of JPM should they decide to short bitcoin here and then suffer billions in margin calls if the crypto currency were to first hit $100,000 per bitcoin.

Which brings us back to the question of just what “valuation” methods does JPM use to conclude that bitcoin’s run is coming to end? As Panigirtzoglou explains, “we had previously used two valuation metrics for bitcoin, one based on its comparison to gold and one based on its mining cost or intrinsic value.“

Because when “valuing” bitcoin the first thing that comes to mind is how much cheaper is it relative to another asset which can’t be valued, and the other “valuation” matric is to ascribe the cryptocurrency’s “value” to its cost of extraction… as if it were some commodity that is dug out of the ground and used for various industrial applications.

This is where you know Wall Street is reeeeeally starting to stretch in trying to ascribe a “fundamental” value to a price which reflects just two things: the trillions in excess liquidity chasing after non-fiat monetary units (which will survive after central banks destroy fiat with their pathological money printing), and expectations that inflation is about to explode which unfortunately markets can no longer represent using conventional means such as 10Y yields (more on that in a follow up post).

To give the JPM quant the benefit of the doubt, we lay out his reasoning which somehow can be summarized in this bi-axial chart which is supposed to show that bitcoin is now more popular than gold… if only one ignores the units of the left and right axis, although judging by the IQ of JPM clients that may not be a very far-fetched assumption, to wit:

Bitcoin’s competition with gold has already started in our mind as evidenced by the more than $3bn of inflows into the Grayscale Bitcoin Trust and the more than $7bn of outflows from Gold ETFs since mid-October.

There is little doubt that this competition with gold as an “alternative” currency will continue over the coming years given that millennials will become over time a more important component of investors’ universe and given their preference for “digital gold” over traditional gold. Considering how big the financial investment into gold is, a crowding out of gold as an “alternative” currency implies big upside for bitcoin over the long term. As we had mentioned previously in the Oct 23rd F&L, “Bitcoin’s competition with gold,” private gold wealth is mostly stored via gold bars and coins the stock of which, excluding those held by central banks, amounts to 42,600 tonnes or $2.7tr including gold ETFs.

So using this simplistic “valuation” of claiming that the market cap of bitcoin should reach parity with gold, Panigirtzoglou “explains” that “mechanically, the market cap of bitcoin at $575bn currently would have to rise by x4.6 from here, implying a theoretical bitcoin price of $146k, to match the total private sector investment in gold via ETFs or bars and coins.”

So even JPMorgan admits bitcoin can rather easily rise about 5x higher from here. But short it, please. Anyway, the JPM quant continues:

But this long term upside based on an equalization of the market cap of bitcoin to that of gold for investment purposes is conditional on the volatility of bitcoin converging to that of gold over the long term. The reason is that, for most institutional investors, the volatility of each class matters in terms of portfolio risk management and the higher the volatility of an asset class, the higher the risk capital consumed by this asset class. It is thus unrealistic to expect that the allocations to bitcoin by institutional investors will match those of gold without a convergence in volatilities. A convergence in volatilities between bitcoin and gold is unlikely to happen quickly and is in our mind a multi-year process. This implies that the above $146k theoretical bitcoin price target should be considered as a long-term target, and thus an unsustainable price target for this year.

Pay attention kids because this is called both thesis creep and “goal-seeking” – or how to hit a conclusion based on variable that you yourself have introduced into the equation and which you then use to validate your own thesis. Because here’s a counter argument: how many buyers of bitcoin are buying it because i) they say it has to hit parity with the value of gold and ii) it has to have the same vol-adjusted return profile or else they won’t buy any more?

None, you say? Why you are correct, of course, but more importantly what this little experiment has taught us is how to read between the lines of a forced conclusion that is only there because someone got a tap on the shoulder. Most likely from their trading desk. The question then is how is JPM’s trading deks axed, and the logical response is that JPM merely wants to buy whatever the bank’s clients have to sell.

Translation: JPM is now buying bitcoin.

But going back to JPM’s “bearish” thesis – at least on its client-facing side – the next part is even more laughable: you see, the price of bitcoin is too high compared to its mining cost! 

Our second valuation metric is based on the mining cost or intrinsic value of bitcoin. The ratio of the bitcoin market price to its intrinsic value is shown in Figure 2.

The current ratio is higher than its previous mid-2019 peak and matches its end-2017 peak, again raising concerns about valuations.

Actually no, it doesn’t but please go on, because here the goalseeked thesis gets really amusing: .

This is not say that the mining cost is driving the market value. The opposite is likely true. In the early years, bitcoin’s production cost had naturally stronger influence on the price because new coin generation was a higher percentage of existing stock or supply. Now that more than 18m bitcoins have been mined already (vs. max supply of 21m) and new coin generation is a smaller percentage of the existing supply, the influence of the production cost on the price has likely diminished. Thus, in the current conjuncture, the market price is likely driving the production cost rather than the other way round.

Well thanks for at least admitting that your entire “second valuation” approach is complete garbage.

However, this causality does not mean that the bitcoin price would be diverging from its mining cost on a sustained basis. Similar to gold, when the bitcoin market price is well above the production cost, mining activity and mining difficulty should increase pushing the cost of production up towards the market price, thus inducing some convergence. But similar to previous episodes, some of that convergence could happen with an adjustment in the market price also. We thus view the acute divergence of Figure 2 as another valuation challenge for bitcoin.

No, you don’t: you yourself admitted the two are not linked. You are merely trying to create a mental model in investor minds that bitcoin is too expensive and that may well be achieved since bitcoin has exploded higher and it just needs some remotely credible catalyst to force some profit taking… such as this note. But to argue that anything more than a brief drop will be triggered by such a goalseeked analysis is almost as naive as believing that the cost of “mining” bitcoin has anything to do with its price, which is entirely driven by how many trillions central banks are printing at any given moment and nothing else! But, again, this is all a useful model of how to spot and avoid garbage goalseeked narratives.

Oh, and speaking of intrinsic value of bitcoin, let’s recall what none other than Panigirtzoglou’s own boss said back in Sept 2017:

“It’s worse than tulip bulbs. It won’t end well. Someone is going to get killed,” Dimon said at a banking industry conference organized by Barclays. “Currencies have legal support. It will blow up.”

Alas, while Panigirtzoglou could have stopped here and saved himself some jeers and snickers, he decided to continues and boldly go in “analyzing” bitcoin using the same failed approach he applied in November when anyone who followed his trade reco would have blown up almost instantly. Instead, he goes on to not only “value” bitcoin, but to appraise its upside potential in terms of positioning and momentum.

On the first, he refutes his own argument from a month ago that the Grayscale Bitcoin Trust represents mostly institutional investors and instead now argues, that “it is wrong to view all these institutional flows of last year as entirely driven by long-term investors.”

We believe that a significant component of last year’s institutional flows into bitcoin reflect speculative investors seeking to front run other more real-money institutional investors. The frothy positioning in CME bitcoin futures is one manifestation of this speculative institutional flow which encompasses momentum traders such as CTAs and quantitative crypto funds. Indeed, bitcoin futures, the preferred vehicle of speculative investors, saw a sharp increase in open interest in recent weeks (Figure 3), pointing to intense buildup of futures positions. This is also true with our more carefully calculated bitcoin futures position proxy shown in Figure 4, which experienced a similarly steep ascent in recent weeks to unprecedented territory.

So… when it suited JPM to extrapolate “deep value”, “long-term” institutional bias and positioning from Grayscale flows that’s all it was, but now that Panigirtzoglou has a mandate to hammer crypto, Grayscale can be whatever he decides it should be.  Got it.

Same thing for the other “risk”, namely of momentum traders reversing, which incidentally is what Panigirtzoglou got dead wrong in early November before admitting as much. Alas, it appears he hasn’t learned that particular lesson and is once again betting that CTAs will start selling soon even though bitcoin continues to be the one security with the most tangible trend in the entire investing universe.

Figure 5 shows that the short look-back period momentum signal rose this week to 3.0 stdevs, and the long look-back period to 2.3 stdevs, i.e. to even higher levels than the previous peaks of mid-2019. Both are well above our 1.5stdev threshold typically associated with overbought conditions and a high risk of mean reversion.

The JPM quant then makes similar argument about retail investors saying “Unfortunately, there are some signs that retail interest has also increased sharply.” Why unfortunately?  Because as he then explains, “The speculative mania by retail investors characterized the bitcoin surge during 2017.” Perhaps, but the mania by institutional investors is what characterizes the current surge and has far greater impact on the overall direction. Furthermore, as the following far less conflicted and much more objective analysis from Skew shows, institutional participation in the current phase higher dwarfs retail interest by orders of magnitude, no matter how hard JPMorgan would like to get its clients to sell to its prop traders.

and institutions are embracing #bitcoin pic.twitter.com/v9jN3iYClY

— skew (@skewdotcom) December 27, 2020

There is some more self-serving and unjustified arguments in JPM’s report, but the goalseeked conclusion is clear:

we believe that the valuation and position backdrop has become a lot more challenging for bitcoin at the beginning of the New Year. While we cannot exclude the possibility that the current speculative mania will propagate further pushing the bitcoin price up towards the consensus region of between $50k-$100k, we believe that such price levels would prove unsustainable.

In other words, bitcoin may well triple from here, but it could also drop. Which, of course, is why JPM’s quants are paid the big bucks…. especially when they are tasked with sparking a mini high net worth selloff just so either JPM’s own prop desk or a preferred institutional client can get in cheaper. Which, incidentally, is the whole purpose of JPM’s report.

And while the reasons behind Panigirtzoglou’s report are clear and transparent, our question is whether the following statement from JPM CEO Jamie Dimon in Sept 2017 is still valid:

Dimon also said he’d “fire in a second” any JPMorgan trader who was trading bitcoin, noting two reasons: “It’s against our rules and they are stupid.”

To this all we can add is that anyone tho bought bitcoin in Sept 2017 may well be stupid… but they are now retired. Which is also why those same “stupid” JPM traders – who clearly trade bitcoin now – are now so desperate to shake out the weak hands who believe their self-serving, goalseeked “research.”