The last two weeks have rained a storm of unprecedented chaos on financial markets across the board, including Bitcoin markets; after many of the worst days in stock market history, governments around the world have deployed massive stimulus packages with even more on the way.
While these actions are intended to slow the rate of economic downfall in the short-term, the long term implications of the downturn and the stimulus packages are yet unknown.
The short-term effects of the stimulus packages also haven’t exactly met expectations. While stock markets have recovered somewhat, the movements have varied greatly on a day-to-day basis.
Why might this have happened? And what’s next?
Yesterday, Finance Magnates sat down with Miko Matsumura, whose name is well-known in the cryptocurrency industry, to talk through the crisis and what may lay ahead. Miko is the co-founder of the Evercoin Exchange and has helped to build multiple other companies. He is also a General Partner of crypto asset fund Gumi Cryptos and a Limited Partner with Pantera Capital’s ICO fund.
”We’ve proved that institutional investors view [BTC] as a kind of high-risk, high-return technology investment.”
We asked Miko about the Bitcoin-as-a-safe-haven narrative that has penetrated the space for so long. So many people seemed to think that during times of crisis, Bitcoin would act as a risk-off asset for people around the globe. In theory, this will cause Bitcoin’s price and usage to reach new heights.
As murmurs of the Coronavirus’s spread in Wuhan began to spread around the globe, a number of Bitcoin community members began to theorize that a potential outbreak could be Bitcoin’s big breakout.
But that wasn’t the case. Bitcoin plummeted, right along with global stock and commodity markets. While the almighty reign of the USD seems to be growing more and more powerful, even some of the most traditional “safe haven assets” have moved in unexpected ways.
For example, Miko said that it’s been particularly interesting to compare the price action of Bitcoin to the price action of gold over the course of the last several weeks, as the coronavirus has continued to pick up speed.
“One of the really odd things that people saw in this ‘magnitude of decrease’ in things like the Dow and the S&P and the broad market, what you really end up seeing is an attempt to pull back and essentially deal with portfolios in a potentially defensive way.”
In other words, investors are scared–and they are acting accordingly.
So, “what is it that we really saw?”, Miko asked.
The psychology of institutional investors
Of course, “from the perspective of the numbers, we saw the Bitcoin price decreasing,” he continued. However, citing data from Chainalysis, Miko said that “if you look at the ranges of Bitcoin movement between 10 and 100 Bitcoins, and 100 and 1,000 Bitcoins…you ended up seeing about 70 percent of the movement being from those groups.”
Exchanges recently experienced their largest ever bitcoin on-chain inflows at 1.1 million bitcoin since March 9, peaking at 319k on March 13, compared to a daily average of 52k pic.twitter.com/M5snFPEAiB
— Philip Gradwell (@philip_gradwell) March 18, 2020
Therefore, Miko said, “really what happened [was] institutional”–the downward movement of the Bitcoin price was largely due to the actions of high-volume entities.
This presents another question: “if you’re a portfolio manager in an institution… what is the ‘bucket’ in which you see the asset?” Is it a “tech” asset, or something else?
From Miko’s perspective, “it seemed like the institutional investors may have looked at [Bitcoin] as something like the internet, or they looked at is as technology, or they looked at it as part of their speculative portfolio.”
Essentially, this has been a big learning moment for the Bitcoin community: “we learned a little bit about the psychology of the institutional investor,” Miko said. “We’ve proved that institutional investors view this as a kind of high-risk, high-return technology investment,” and not as a safe haven.
“Technically, [Bitcoin] held up fine.”
He also cited Tyler Winklevoss, who recently Tweeted that “the fact that [Bitcoin is] not acting how you might expect only underscores just how early it is.”
If bitcoin isn't gold 2.0, then what is it? The fact that it's not acting how you might expect only underscores just how early it is.
— Tyler Winklevoss (@tylerwinklevoss) March 14, 2020
Miko said that “in a way, it means that maybe the institutional investors aren’t reasoning about what it is properly.” This is because “if you look at the fundamental properties of Bitcoin itself,” the network was essentially unaffected–”technically [speaking], it held up fine. It did what it was supposed to do.”
Of course, “with the change in the price, there are certain mining operations that became unprofitable, and that kind of created some decrease–but the thing that’s interesting about Bitcoin working as intended is that that just enables the network to readjust its difficulty level.”
“So, what it means is that the network has sort of self-protected, and it means that ever since we saw the slide, we’re actually now seeing a kind of comeback.”
Bitcoin silos: exposing the phenomenon of “awkward local pricing”
Miko explained that therefore, the price crash may have revealed much more about vulnerabilities that exist in layers “above Bitcoin” rather than on the Bitcoin network itself.
“So for example, if you look at Kyle Samani’s analysis at Multicoin Capital, he noticed that there were these ‘silos’, and that these ‘silos’ are really focused around exchanges.” He pointed to BitMEX as an example–”what we saw was $700 million in leveraged margin trading essentially getting liquidated–so they got kind of ‘blown up’.”
In other words, as Miko explained, this kind of liquidation “creates a local pricing phenomenon.”
“There [was] so much leverage on margin trading that when people’s stacks get liquidated, it creates a locally lower point for the Bitcoin price than the global price. But the problem is that if your assets are stuck in that bubble, you’re unable to access the global price…that creates more potential for panic-selling and those kinds of things.”
Why Your Enterprise’s Finances Rely on Employee TrainingGo to article >>
Looking forward to part 2.https://t.co/CAEddVh0z9
— CZ Binance 🔶🔶🔶 (@cz_binance) March 18, 2020
Indeed, Mr. Samani’s report explained that “during times of crisis, [exchanges] become so congested that arbitrageurs cannot keep prices in line across venues, causing massive dislocations on individual exchanges.” In fact, “massive dislocations on a single exchange (BitMEX) caused Bitcoin to dip below $4,000 for 15-30 minutes; however, this would not have happened if the market operated correctly.”
Miko said that “the thing that’s interesting about it is that there’s an impedance mismatch between exchanges, because [the exchange] networks get congested–the networks themselves don’t move fast enough to enable arbitrage between networks,” so that when these kinds of “strong hits” come, “you’re not able to handle global liquidity.”
Therefore, “in a way, what’s happened here is that we have the strength of the underlying asset–which is custody and settlement–and then we have a weakness in the infrastructure above that,” which includes things like cryptocurrency exchanges.
As such, “we’ve exposed some weakness in the exchange infrastructure–in particular, there may be a need for a faster ‘inter-exchange’ protocol that enables global price to be maintained, instead of creating these awkward local prices.”
This is because these “awkward local prices” cause “more potential for instability,” Miko said. “So, you could almost view it as a sort of attack–especially when you look at the weakness of something like BitMEX–[now], we have traders on Twitter who are pretty well-known who no longer consider trading on BitMEX to be safe.”
With the insurance fund having lost 0btc from this crash, I feel like I need to post my thoughts about the events of March 13th. The following thread is my opinion on what happened on Bitmex during the crash, an opinion that has been refuted by Bitmexhttps://t.co/WgT2Bw60Qb
— lowstrife (@lowstrife) March 14, 2020
These “awkward local pricing” phenomena are perhaps a part of crypto’s growing pains. “If you look at things like the global stock markets, those are all entirely custodial, but they’re all electronic and they all have really strong synchronization of global price.”
“The other thing that you notice is that global [stock] exchanges, as we’ve recently seen, are more ‘shock-resistant’ because they have circuit breakers.”
Vulnerabilities exposed in the DeFi ecosystem
However, the events of the past two weeks haven’t only revealed vulnerabilities in the Bitcoin ecosystem.
“The other asset where we saw material vulnerability was in Ethereum,” Miko explained, where weak spots in DeFi protocols came to light.
“At the moment, one of the things that we were able to see is that Maker actually had a problem with an Oracle that was supposed to be tracking the Ethereum price. We ended up having about $7 million dollars worth of liquidation–and because of [this], people were 100 percent liquidated when they expected to be maybe 13 percent limit-liquidated. And so, this was really kind of a shock to that entire ecosystem.”
Apparently ethereum transactions were not being executed due to network congestion, thus liquidation auctions for MakerDAO weren't being executed, thus someone was able to step in as the only bidder to "buy" $8,000,000 for $0. https://t.co/fNfs0yugtP pic.twitter.com/cdh31FzsYU
— Jameson Lopp (@lopp) March 18, 2020
However, “the reality is that with $1 billion of smart-contract locking of assets in DeFi, a $7 million liquidation is relatively not that big–but it exposes vulnerability. That’s one of the reasons why the Ether price has also suffered in this time, as well as correlation across cryptographic assets.”
“The real test hasn’t actually occurred.”
But in spite of everything that’s happened so far, Miko said that “the real test hasn’t actually occurred,” and that “the real test” is right around the corner.
What is “the real test”? The effects of the massive stimulus packages that governments around the world are in the process of preparing. “What you’re seeing now is what Meltem [Demirors] calls the ‘money print machines’” shooting cash into the global economy, Miko said.
“That really shows that there are huge forms of economic stimulus [underway]–the US Congress is talking about a $1 trillion package for stimulus; obviously, the Federal Reserve has done the overnight repo program, which is about $1.5 trillion in short-term liquidity (that’s not money-printing, per se). But the reactivation of $800 billion of quantitative easing is really flooding the market with, if I recall, ‘fake-paper money.’”
Similar measures are also being taken in Europe and other parts of the globe; the United States is also considering sending $1200 stimulus checks to every adult in the country.
“With the 330 million human population in the United States…it’s definitely on the order of billions of dollars being put out into the market.”
This has already caused some important changes: “we’ve already begun to see mild inflationary pressure which has caused a light rebound in things like gold,” Miko said.
“To me, the thing that’s really interesting to me is that cryptocurrencies have just recently been tracked as a much more ‘hyper-volatile’ of what has happened to gold. Gold went down a little, cryptocurrencies went down a lot; gold rebounded a little, and now cryptocurrencies are rebounding a lot. That’s one way of looking at it.”
“How will this play out, this big battle of beliefs?”
But what could the longer-term effects of the activation of these money-printing machines be? Especially on a scale like this?
For the USD and other assets, “the question becomes, ‘how does deflationary pressure match with inflationary pressure?’ The only one thing that I think we can safely guarantee is volatility in the form of, [for example], the VIX index–which is going to see very high volume.”
However, the “weird scenario that we’re in is that we’re in an era of modern monetary theory–we’re in an era that is based on the belief in financial instruments…ultimately, assets like the dollar are strong because people believe that they’re strong.”
Therefore, “where we’re really in a period of unprecedented uncertainty is that the question becomes, ‘what will the reasons to believe in the strength of that asset be as we go forward?’”
“[… Those beliefs] haven’t been tested,” Miko said. “I think that at the moment, [most] people are like, ‘the dollar is the best money at there is.”
“But the question becomes: how will this play out, this big battle of beliefs?”
This is an excerpt. To hear the rest of Finance Magnates’ fascinating interview with Miko Matsumura, visit us on Soundcloud or Youtube. Special thanks to Miko!