Market deep dive: US inflation figures started a risk-on sentiment in the market

 

The crypto market showed some strength this week after the lower than expected US inflation figures started a risk-on sentiment in the market. 

The tech heavy Nasdaq is up +1.6% over the week (regardless of the 20 bps move up in the US 10 year). 

Since last week, BTC$ has been trading +4.5% at 24k, and ETH$ edged +14.2% higher, currently at 1.9k. 

On Monday, the U.S. Department of the Treasury’s Office of Foreign Asset Control (OFAC) sanctioned Tornado Cash, making it a felony for U.S. citizens and entities to interact with the protocol. They claim that Tornado Cash has been used to launder cryptocurrency worth more than USD 7bn. While sanctions on a protocol are unprecedented and the broader implications are still uncertain, Circle already froze USDC linked to Tornado Cash addresses. An unknown person trolled celebrities by sending them small amounts of ETH from sanctioned addresses, probably to create a mess and make a point on how difficult it will be to impose the sanctions. It is doubtful, however, that the celebrities who received the ETH will be in conflict with the sanctions, as they did not willingly interact with the protocol. Then again, if their wallets are flagged, they might have trouble using them going forward. 

The Ethereum mainnet merge, currently expected for September 15, seems to be on track as the last of the three testnet merges (Goerli) was successfully completed this Wednesday. 

Currently, the most discussed topic around the merge is how the hardfork will be handled by the Ethereum community. There are stakeholders, e.g. miners, who are heavily invested in expensive equipment with a strong interest in keeping ETH PoW alive after the merge. At first glance, this is beneficial for Ethereum holders, as they will hold/get an equal amount of the PoW and PoS tokens. While a hardfork for a cryptocurrency like bitcoin is relatively simple, the consequences for an ecosystem like Ethereum are much more widespread. One example: stablecoins, e.g. USDC and USDT, would technically double after the hardfork; in reality, the ones on the ETH PoW chains will simply become worthless after the merge as Circle and Tether will not allow double redemptions. Liquid staked ETH (sETH), obviously, will also become worthless on the ETH PoW chain, as there will not be another merge to PoS. NFTs will effectively be doubled, and it will be interesting to see what value is given to an NFT on the PoW chain vs. the PoS. 

In addition to this, it is almost impossible to foresee the consequences for all the DeFi protocols and everything that is built on Ethereum. ETH PoW is already traded on some exchanges, e.g. Gate.io, currently at a huge discount of 96% vs. ETH, which might be an implication that the market is pricing in a quick death of ETH PoW after the merge. 

On the macroeconomic side: Wednesday’s release of US inflation figures for July pushed the market higher as they came in lower than expected. MoM inflation was flat due to lower energy prices (+0.2% expected) and core inflation, excl. Food & Energy, remained at +0.3% (+0.5% expected). While these numbers might indicate that inflation has peaked, many more months of data are needed to confirm that the danger of a wage-price spiral has been averted effectively. 

war in the Ukraine has been going on for almost half a year now, and new geopolitical tensions arose this week as well. Nancy Pelosi, US house speaker, arrived in Taiwan late Tuesday night and provoked harsh reactions from China, who is currently firing missiles around Taiwan as part of unprecedented military drills. The implications of an actual attempt to invade Taiwan would be widespread: given Taiwan’s dominant position in the global chip industry, the US would likely stand by Taiwan (in one way or another) to defend against a Chinese attack. 

This would cause the world to be divided (yet again) into two main blocks: Europe and the US on one side and China and Russia on the other. Looking at a very long timeline, this seems to be the path the world is currently on. Having said that however, it seems likely that China will first wait until its military is stronger and its economy is more self-sufficient to better withstand western sanctions. 

And now on to the market side: cryptocurrencies are currently consolidating from recent highs. BTC$ is trading -3% lower at 23.2k and ETH$ has been down -4% compared to one week ago, trading at 1.66k. As has been seen many times in the past, the correlation between crypto and equity is especially high during market downturns and, unfortunately, lower when equity markets are recovering. 

NDX futures are currently trading 3.6% higher vs. last Friday’s close. 

On Monday, the blockchain bridge Nomad was hacked, and nearly USD 200m of funds were drained. The hack was possible due to a misconfiguration in the main smart contract, and the attack was so simple that many copied the original hacker’s code and participated in the hack.  

After the USD +300m hack of the Wormhole bridge and the USD +600m attack on the Ronin blockchain earlier this year, it remains a puzzle why so much money is put at risk without performing proper due diligence. Especially when it is obvious that blockchain bridges are an attractive target. 

In addition to this, another hack happened to Solana hot wallets, e.g. Phantom and Slope. It has been reported that more than 7k users are affected, and that a single digit million dollar amount was stolen. Solana, previously the darling among Layer 1 blockchains, is trading -6.9% lower over the week and almost -84% since its all-time high. 

In other news, Blackrock and Coinbase announced a partnership yesterday that will allow institutional investors of Blackrock’s Aladdin platform to invest in bitcoin. Coinbase shares closed 10% higher yesterday after jumping almost 40% intraday. 

The market is also awaiting the US Nonfarm payrolls later on today. Any large deviation from expectations of currently 250k might change market expectations of future inflation as well as Fed rate hikes. 

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