As Bitcoin climbs past $40,000 and Ether past $2k, the question everybody is asking is does this market have legs? Is the rally real? My name is José Betancourt and I studied under two economic Nobel laureates at Yale and the foremost global expert on stablecoins. I believe there are several reasons to be worried about the economy, and therefore the public markets. However, defiantly high consumer spending and all time low U-6, alongside technical factors like Bitcoin’s halving cycle, have allowed me to conclude that 2024 will mark the start of the bull run.
Nothing in this article is financial advice.
Executive Summary
- VC deployment literally cannot go any lower
- The Bitcoin ETF is still not priced in
- The yield curve and housing starts and debt are worrying, but GDP growth and U-6 are reassuring
- 2024 looks primed to continue with the four-year cycle
Introduction
This report was originally created on September the 16th, 2023 to answer the question if it was better for Virtual Labs to raise a seed round before Christmas (a recession would occur in 2024) or in late 2024 (the economy would continue to improve).
This economist holds the view that the US economy is causal to the American stock market which is causal to cryptocurrency prices which is causal to Web3 venture deployment.
This view is not recognized by those who falsely believe crypto to be a hedge against inflation or that it strengthens in times of geopolitical uncertainty. It does not.
As of now, the price of Ether and other crypto assets thrive alongside stock market rallies, low interest rates, and validation by banks and government in the form of a Bitcoin ETF. Currently, crypto thrives with the blessing of institutions and a good economy, not in spite of them. This may change, but as of today, it is a fact. Going forward, therefore, the economy and stock market will be analyzed to predict where Ether will go, and therefore where all crypto will go, as well as VC deployment.
Market Analysis
Let us begin by analyzing charts of the public markets across the American stock indexes and Ether.
There are two important observations to notice. The first is that the past two years have been sluggish for both assets, with both following similar patterns. The second is that Ether, which will serve as our facsimile for cryptocurrencies at large, significantly underperformed the American stock market.
From peak to bottom, Ether dropped by over 80%, placing a majority of holders out-of-profit for the first time in years. This ought to be discussed as the conversation about the timing of the next bull run must occur after total capitulation. The above fact underscores how price capitulation was indeed met, but was time capitulation?
The Bitcoin Rainbow Chart shows the price of Bitcoin against halvings, the moments when the hash rewards given to miners is cut by 50%. While crypto does look to be approaching the point where the asset class historically rallied, there is still some time to go. Importantly, however, there is still time for consolidation, but not for another collapse pre-halving. This would suggest that time capitulation has indeed been met in the four-year cycle.
Since time and price capitulation have been met, the bottom is truly in and assets could continue to rally.
Private Venture Capital Funding
Now, let’s analyze venture capital deployment.
This is how dire the situation was just four months ago: a 2.5 year low. Yet, this number is confusing as an estimated $99.3 billion of capital was raised by crypto funds in 2022 alone. McMahon quotes a maximum of half of this capital has been already deployed. Even at these ultra-conservative figures, there is still $50 billion worth of dry powder out there.
Taking a ludicrously long 10-year deployment schedule, $50 billion spread out across 120 months is $420 million. This would suggest that August’s $500 million is close to a global minimum and that the bottom is in for Web3 VC deployment.
These figures, of course, do not include new fundraises, which seem to be still happening in droves. Additionally, HNI and family offices seem ready to fulfill tranches and headlines of the return of LP capital are non-existent.
Tom Schmidt, Managing partner at Dragonfly counters these claims stating “the 'napkin math' amount of dry powder out there for a need and desire for VCs to deploy that the same way they did in 2021 - 2022” is a mistake (The Block, 2023). He did note that “pre-seed and seed still seems [sic] to be healthy,” but their small size means they are not reflected well in the data.
Yet, looking at WuBlockchain’s September, October, and November data shows $530 million, $430 million, and $1.2 billion respectively. While November’s record setting month could be a one-off, it does appear that deployment is resilient below $400 million. This could signal to startups that the environment can only improve.
Arguments for a Recession and Dead Cat Bounce
The Yield Curve
There has not been a single time in American history where the yield curve inverted without a recession following within two years. Many claim 2019’s inversion as proof that the yield curve is not clairvoyant, as there was not a traditional recession predicted by interest rates. This argument has no legs as 1) a recession did follow within just one year, and (2) stimulus and the pandemic likely obscured and postponed the original factors predicted by the yield curve that now seem to be coming to light.
The previous two graphs display the current yield curve, which is essentially a fear index of how investors weigh short-term uncertainty, and this index over time. The yield curve last inverted in January 2006, February 2000, and January 1989. The US economy entered into recessions in January 2008, March 2001, and July 1990.
The kicker, of course, is that the yield curve is currently inverted. Not only this, but the curve has been inverted since July of 2022, hypothetically leaving just 6 months for a recession if historical trends are to be followed. Now, some may point out that the yield curve appears to be univerting, suggesting that investors are beginning to price long-term uncertainty higher than short-term risk.
However, in the aforementioned three recessions, the yield curve counterintuitively uninverts before the recession begins. The yield curve uninverted in June 2007, December 2000, and October 1989, in all cases with their respective recessions occurring within nine months.
So what should we conclude from this? It has been 16 months since 2-Years surpassed 10-Years, and still the curve remains negative. This inversion either signals impending doom or a historic upset of an indicator that has batted 1.000 with 6 predictions and 6 recessions—unlike Peter Schiff’s 19 recession predictions of the previous 2 downturns, as the adage goes.
Utilizing data from the past three recessions, we can predict that the American economy should stave off a recession until at least the treasuries yield curve uninverts. As of December 6th, we can still rest easy.
Consumer Debt
As the Great Recession was a debt crisis, the eclipsing of previous all-time-high debt levels has given economists pause.
These numbers should not be all that surprising with the unexpected resilience of the American consumer. Yet, these figures alongside the resumption of student loan interest and the fact that 72% of Americans are living paycheck to paycheck (up 6% YoY), are certainly concerning.
Any slowdown or geopolitical catalyst could cause a positive feedback loop given the consumer’s unpreparedness to weather unexpected expenses or any further bumps.
M2 - Money Supply
For the first time in some 80 years, the total liquid cash supply is decreasing. This is worrying because it could be a sign of decreasing demand. And a demand-pull recession would be catastrophic, signaling an even worse environment than it creates. It would mean the recalibration of prices, indexes, verticals, and of course, investor sentiment.
This comes as the Fed continues to raise rates, which is contrary to steadying M2. Most plainly, less money in the economy means there is less money in the economy, and therefore less to be invested.
“According to data from Reventure Consulting CEO Nick Gerli, a meaningful reduction in the M2 money supply (2% or more) has only happened four times since 1870, and each time it has proceeded a depression with double-digit unemployment” (Yahoo Finance, 2023).
All of this said, M2 is no longer the most reliable indicator for depressions or recessions. Especially this time, due to stimulus packages on a scale never seen before, a decrease in M2 was always expected. Alongside incredible consumer spending, the decrease in the money supply does not appear to be evident or correlated with decreasing demand. Yet, coupled with the increasing velocity of M2, it is something to keep observing.
Housing Sales and Starts
The following are words I wrote on September 16th, 2023:
“A report by Wells Fargo showed preliminary sales dropping by 6 points to the cusp of an unfavorable outlook (NAHB, 2023). A September decrease below 50 would indicate trouble for the middle-term, likely as prospective buyer savings continue to dry up, coupled with mortgages continuing to rise. This drop is the first after seven consecutive months of gains.”
As seen below, September did indeed see its index value fall below 50, followed by further decreases in October and November.
Although the wealth effect seems less impactful on consumer spending in recent years, this drop off in sales will correspond with falling home prices, which could see American rein in spending. A decline in housing sales is also worrying as a macro indicator as well, signaling perhaps an end to resilience within the economy.
Despite a nation-wide shortage of 1.5 million homes, starts have not fared well in this high interest environment either (Landa, 2023). Builder share of price reduction incentives increased by a whopping 25% in August.
The worrying element here is not starts themselves, but their tandem decline for the first time this year alongside sales. The decrease from May to June represented the first stall of 2023.
This apparent weakness in the housing market could be a sign of falling consumer sentiment and increasing shelter inflation. It could also lead to further decreases in discretionary and investment via the wealth effect. In short, a decline in real asset values is not what the average American needs, as it is not even certain this would aid rental prices. A decrease in the housing market would guarantee a recalibration of more liquid assets.
The US Economy is Rock Solid
Unemployment
The BLS reported a strong and resilient jobs market with unemployment clocking in at just 3.9% (USBLS, 2023). Youth unemployment also reached historic lows just as The CCP stopped publishing as their numbers began to rise (Time, 2023).
Some argue that this labor force is underemployed (U-6) with highly skilled workers finding themselves in careers that do not utilize their degree, or part-time and temporary positions making up an inordinate amount of labor participation. This is false.
Total employment remains incredibly strong. Despite a slight 50 BPS uptick since a nadir in January, unemployment remains historically low and a good indicator that the economy is stable and strong. Everyone is working and everyone who wants a job can get one. Graduates with degrees find work in their field at the highest rates ever.
GDP
Let the record be corrected: the American economy DID experience a recession in 2022.
Despite the Biden administration's reclassification of the event to a “technical recession,” the U.S. economy contracted for two consecutive quarters in the first half of 2022. And yes, this is the widely accepted definition of a recession.
However, the economy has continued to climb, with growth targets narrowly hit in Q1, even accelerating in Q2 with 2.0% and 2.1% growth respectively. For last quarter, the Federal Reserve Bank of Atlanta predicted a monstrous 4.9% GDP growth. Meanwhile Philadelphia and Richmond offered more modest 1.9% and 2.1% respectively.
Shocking to nearly everyone, Atlanta was correct with initial reports at exactly 4.9%. This was even revised up to 5.2% later. Atlanta has been astoundingly accurate for the past three quarters, more so than all other 11 banks. It’s GDPNow has revised down its estimates for Q4, but consensus now predicts 1.2% growth, a far cry from the possible decline that was once feared. None of these charts reflect an economy in distress.
Here are some other interesting graphs from Richmond:
Their consumer spending and disposable income was particularly promising. Even if contradictory with what increasing debt and liabilities would lead one to believe. Although the manufacturing data is mostly positive, tapering orders is a sign to watch.
Inflation
Ignore the headlines. Inflation data has been promising for the last year.
Here, you see that core inflation has been consistently declining for 13 consecutive months. This is a much more accurate measure of inflation as volatile and geopolitically-influenced food and energy prices are not considered. Although, headline inflation data has been incredibly promising as well:
This is positive not only because Americans will see less pressure on their limited savings, but also because the Fed could declare “mission accomplished” and begin to lower interest rates in the new year.
Crypto Tailwinds
Despite nearing time capitulation, TerraLuna, 3AC, and FTX still loom over the industry. Not only does consumer sentiment remain low, but it is possible these events have irrevocably hurt trust even more than exploits in the last bull run. These tailwinds could cause second guessing in fund creation or faster deployment schedules as managers continue to build up confidence.
Crypto Headwinds
There is some possibility that the SEC greenlighting the first BTC ETF could drive tremendous excitement to the industry, and that other regulatory clarity could buoy crypto prices in a positive way. This news could come as soon as January. Because the ETF is both a signal for industry approval and a genuine vehicle for investment, this value is not yet priced in—there is more upside from a Bitcoin ETF approval.
Conclusion
The US Economy is resilient and the stock market begins to recover. Crypto assets rally as Web3 VC deployment surges. But there are warning signs. And CEO and industry leaders must be knowledgeable of these factors so that they can change spending and strategy if the winds start to change for the worse. As of now, I would predict that prices may cool over the next 6 months, or be catapulted into the stratosphere with an ETF announcement, but I would be surprised if we saw the mid-2023 lows again. A benchmark will be set for a midsummer rally and steadily increasing prices until a local peak of 5-10x current prices in 2025 or 2026.
This is some of the unorthodox research we publish at Virtual Labs. If you find it interesting, subscribe to keep reading below or apply to join us here!
My original report was much longer, if you’d like to read it or have comments, Tweet at me!
