Mean reversion signals have effectively indicated when to rotate from Bitcoin to altcoins. We mentioned at the end of October that the spike in skew, funding, volatility, and open interest on Bitcoin indicated that we were likely to see subdued price action in Bitcoin giving altcoins room to run. If you rotated to strong altcoins at the beginning November, you significantly outperformed. The signals are now less clear. For now, the trend is your friend.

![](/images/Screenshot%202023-12-01%20at%204.49.32%E2%80%AFPM.png)

![](/images/Screenshot%202023-12-01%20at%204.49.57%E2%80%AFPM.png)

#### Bitcoin ETF

The Bitcoin spot ETF will likely be approved by the January 10th deadline. The SEC will probably simultaneously approve all applications at once to not give an unfair advantage to any one issuer. If this is the case, we're told that the most likely window is January 8-10th. Call options continue to be attractive given the clear timeline. It’s a 40-day countdown to the likely ETF approval. No need to overcomplicate.

Traditional managers are clearly playing the renewed interest in Bitcoin through CME Bitcoin futures indicated by the spike in open interest starting in early October.

![](/images/Screenshot%202023-12-01%20at%204.50.09%E2%80%AFPM.png)

Source: TheBlock

#### AI Update

Bitcoin’s strength has allowed projects with strong fundamentals to outperform. One such project is Bittensor, a digital marketplace for AI inference, among other things. We published a report on Bittensor in October when the price was $47. Since then, the community has innovated on the network at a blistering pace. The market has taken notice and it’s now trading at $290.

Bittensor recently opened the ability for anyone to create specialized subnetworks with distinct incentive functions and outputs. In the two months since opening, thirty-two subnets have launched, each competing against the others for emissions from the network. You can view all the subnets at [taostats.io](https://taostats.io/).

A few subnets include:

*   Subnet 2: Text generation facilitated by LLMs similar to GPT-4.

*   Subnet 3: Translation from one language to another using machine learning algorithms.

*   Subnet 4: Enhances AI systems to process and generate information from multiple types of data such as images, audio, text, video, among others.

*   Subnet 5: Image generation similar to something like Midjourney.

*   Subnet 8: Price predictions. Miners (model creators) compete by submitting their best price predictions. The most accurate predictors are rewarded. This is similar to Numeraire but already has a larger incentive pool.

*   Subnet 16: Text-to-audio output with an initial focus on speech and later music.

I highlight these subnets because Bittensor is generalizable as a protocol. The network is only limited by the creativity of the community. Subnets can create objective functions to incentivize a market for any digital commodity. Subnet creation has only been live for two months and the network is growing rapidly. Bittensor is quickly turning into an application ecosystem where it’ll be nearly impossible to keep up with new projects similar to the explosion of apps on Ethereum in the early days. Try [Corcel](https://app.corcel.io/chat), which is a ChatGPT clone built on top of Bittensor.

Bittensor provides a permissionless environment for experimentation. Why use DeFi when banking works fine? Why use Bitcoin when the US dollar is the dominant reserve currency? Permissionless networks provide optionality in case things go wrong. Bittensor won't censor or rate limit you. Bittensor won't sell your data. If the top model on Bittensor goes down, what happens? The next best model will take its place and fulfill the requests of the validators. It's a hydra - you can stop a validator or a miner but you can't stop the network.

Another AI project that we have been following closely is Autonolas, which provides the infrastructure for the creation of AI agents that execute transactions on blockchains. Why is this interesting? An AI bot is quickly limited in meatspace. It cannot easily create a bank account but it can easily use a crypto wallet and execute a crypto transaction. AI agents are a perfect fit for crypto and we could see a future where AI agents outnumber human users on blockchains. We just recorded our first [podcast](https://open.spotify.com/episode/6ZyQhtncai4aho8491MFQE?si=2OaPRSV1QYSCRyxwaIqZBA) with David Minarsch, the founder of Autonolas where we dive into the details.

#### Solana

In just about every newsletter over the last year, we’ve discussed our optimistic outlook on Solana. The community and technology are battletested, the user experience is second to none, and the application ecosystem is blooming. The biggest issue with Solana was that there weren’t enough mature applications and enough tokens to trade. That has changed. Pyth, Jito, Jupiter, Tensor and MarginFi are among the high-profile projects with plans to launch tokens to accompany their great products. This will bring liquidity, users, and recognition; once you use Solana it’s difficult to use another chain.

Consumer use cases are also finding a fit. We’re particularly excited about the recent launch of [Nina’s](https://www.ninaprotocol.com/) music platform, the easiest way for anyone to publish and monetize content. You can sign up in one click using your email, buy music using a Solana wallet or a credit card, and publish your content in four steps. These are the user experiences we need to bring more people to the ecosystem. In fact, you can listen to our podcast on [Nina](https://www.ninaprotocol.com/releases/in-plaintext-podcast-s1e01-david-minarsch-autonolas). It was far easier to publish on Nina than it was on Spotify, and it is now permanently stored on Arweave and Solana.

#### Summary

A more constructive macro environment and strong Bitcoin price performance have allowed the crypto ecosystem to thaw. Projects that continued building during the bear market have seen success in the last six months both in user adoption and in repricing of their underlying assets. Our focus continues to be finding asymmetric opportunities that can outperform over the next two years. Macroeconomic headwinds might still be present, but they will pale in comparison to the positive fundamental tailwinds in the crypto space. Optimism continues to pay.


AI and Solana

After Bitcoin's 28% month, derivatives are positioned for more upside and as a result, the below metrics signal some caution. Skew is approaching a sell signal for the second time in two weeks. Open interest and implied volatility are hugging the upper bounds. And futures basis for both BTC and ETH are near sell territory. But trend takes precedent and right now the trend is clearly up. Given the strong upwards move in BTC, these signals indicate we are likely to see a lower volatility environment for BTC in the coming weeks which might give room for altcoins to catch up.

![](/images/Screenshot%202023-11-01%20at%205.35.52%E2%80%AFPM.png)![](/images/Screenshot%202023-11-01%20at%205.36.03%E2%80%AFPM.png)

#### Return of Volatility

Volatility has been steadily declining for nearly two years since the market peaked in 2021. It became a great environment for sellers of volatility, a strategy that earns a nice premium if price doesn't move too much, too fast. But the ETF narrative is picking up steam, sellers have been exhausted by a two-year bear market, and long-term holders continue to accumulate. As a result, Bitcoin broke to new highs in October. The price action reaffirmed that at this point in the crypto market cycle, it is difficult to not be invested in Bitcoin. Expect volatility to pick up in the next six months.

![](/images/Screenshot%202023-11-01%20at%205.37.34%E2%80%AFPM-b4e8caa4.png)

Bitcoin has continued be the dominant asset in the market; when it rises, it sucks liquidity from most everything else. This pattern is nearly identical to Bitcoin's dominance in 2019. As the bull market begins to form, a strong move in Bitcoin forms the foundation on which the rest of the market can stand. As the asset that represents over 50% of the market capitalization of the space, when Bitcoin does well, it instills confidence in the market and creates an enormous wealth effect.

![](/images/Screenshot%202023-11-01%20at%205.37.47%E2%80%AFPM.png)

The renewed strength in Bitcoin even in the face of a struggling equity market, foreshadows what's coming in the next year with the Bitcoin halving and a Bitcoin ETF. This is the storm before the storm. And while Bitcoin is leading most of the pack right now, rest assured that the alpha is found elsewhere.

#### The AI Narrative

The AI boom is only getting started and crypto has a big part to play in AI reaching its full potential. Crypto is the connective tissue for digital commodities, providing the incentives for market participants to act in a certain way. With respect to AI, there are three main verticals we're watching: compute, model training and inference, and applications.

Distributed compute networks are a straightforward idea. Match GPU demand with idle GPU supply. An open marketplace for compute should theoretically be far more efficient. On a long timeframe, these networks are obvious. In the short term, the immense demand for GPUs gives suppliers pricing power and may make these relatively unattractive. Why would a supplier want to risk their business on a nascent network when they are making money hand over fist? But as new supply continues to rush to market, we will see a supply/demand imbalance and suppliers will look to fill idle compute resources using distributed compute marketplaces. Once critical mass is reached, distributed compute marketplaces will be the standard. Projects to watch include, Akash, Render, and io.net, among others.

Data and data storage are another crucial element in the growth of AI networks. Accessing disparate data sources is important for broadening the training of a model. This data needs to be stored cheaply and reliably and accessed quickly. Decentralized data storage protocols have been around for a while, and they have successfully the supply side but have lacked demand. The increasing need for cheap storage will drive users to networks like Filecoin.

If compute, data, and training are the inputs; intelligence is the output. Ensuring that the highest quality machine intelligence is available to everyone and is provided on an open network is crucial for humanity and represents an enormous investment opportunity. ChatGPT was the fastest growing application ever and OpenAI is likely valued somewhere between $40-$80 billion. But OpenAI’s closed source approach is unlikely to win against a coordinated open-source community. We recently wrote about Bittensor's approach to solving this problem and remain extremely excited about the future of the project.

Finally, infrastructure is only useful if it supports great applications. Digital intelligence and a digital economy are a match made in heaven. Give your digital autonomous agent the parameters for how to control your crypto finances, and watch as it does just that. In the past, the crypto x AI crossover has mostly been meaningless hype but LLMs and crypto are coming of age at the same time.

#### Solana's Ecosystem Boom

Solana is the best performing major cryptoasset YTD, rising from the ashes of FTX's collapse. Its arc continues to resemble that of Ethereum in 2019, and it stands to outperform the market going forward.

It's not difficult to reason about Solana's success. The user base in crypto is still nascent so market share is for the taking. And when users do eventually return in force, they will encounter high fees that are experienced on EVM chains whether that be Ethereum or rollups like Arbitrum and Optimism. The bottleneck is in the EVM. On the other hand, Solana has localized fee markets and parallelized execution, mitigating the possibility of surging fees and slow confirmation times.

The biggest issue with Solana right now is that there is simply not enough to do. There aren't enough quality tokens to trade or applications to use. But that's changing rapidly. Many of the highest quality projects on Solana are in the process of launching their tokens which will bring more excitement and liquidity to the ecosystem. And consumer apps like Nina, Drip, and Dialect bringing in non-financially motivated users to the ecosystem. In six months, the Solana ecosystem will look much different, and the Solana trade will look even more obvious.

The best marketing for a protocol is an increase in its token's price. It brings more eyes and more liquidity. As a result of SOL's performance, there will be an influx of developers and users.

As we’ve said over the last six months, we remain incredibly optimistic on the crypto market. The tides are turning.


The Storm Before the Storm

As you wake up in the morning, a gentle voice floats in — your AI assistant, “Good morning. I trust you rested well. The results from your doctor's visit are in; would you like to review them? Also, you have an 11 am meeting with the board members to discuss quarterly projections. You’ll need to prepare talking points regarding the upcoming layoffs. Finally, this afternoon offers a window for you to revisit notes I took from last night's business dinner. Oh, and Elizabeth's soccer practice wraps up at 6 pm; she'll be waiting for you.”

Envision a future where we depend on OpenAI or Anthropic for their AI solutions. In this future, blackbox algorithms shape our daily lives, possess deep insights into our personal details, and centralize authority within mega-corporations. If you step out of line, your service is shut off. Speak about a forbidden topic, and you’re reported to the authorities.

But there’s a more optimistic alternative. This is a world where top-tier AI is rooted in open-source platforms, powered by a universally-owned network. Here, there's no threat of service denial, no corporate entity lurking to seize your data. Creativity and development flourish, free from biases and censorship.

The internet democratized information. AI democratizes intelligence. We wouldn’t want corporations to unilaterally control information, nor should we want corporations to control intelligence. Luckily, we can build open digital networks that outcompete their centralized counterparts using incentivized and crowdsourced contributions.

#### Realizing AI’s Full Potential

OpenAI, Meta, Anthropic, et al have been instrumental in advancing AI but there are limitations of closed-source development including data and model diversity, unchecked biases, scaling compute, and censorship guardrails.

*   **Community Inclusivity**: A global developer community is crucial. Just as open-source platforms have thrived on contributions from enthusiasts worldwide, AI's growth will similarly benefit from a diverse range of minds working together.

*   **Boundless Compute Capabilities**: Drawing a parallel to Bitcoin, which stands as the world's largest computing network, AI requires computational power beyond what individual corporations can offer.

*   **Diverse Data and Collaborative Learning**: Like a child broadens their understanding through social interactions, AI thrives in a dynamic environment. Exposure to varied data, insights from innovative researchers, and interactions with different models will facilitate the creation of superior AI systems.

*   **Democratic Ownership and Decision-making**: A singular entity should not dictate AI's trajectory. Open governance and ownership will ensure that AI's development benefits from a wealth of perspectives, ensuring it's more globally attuned and ethically grounded.

*   **Strategic Capital Allocation**: Just as any global initiative needs funding for research, development, and deployment, AI's success will be heavily influenced by how capital is coordinated and how stakeholders are rewarded for their contributions.

#### Bittensor as the Answer

Bittensor is a global marketplace for open-source artificial intelligence. The network enables AI researchers to submit their models to be used by end users. By facilitating a free market, the network becomes a gravitational force that pulls in the best AI models. Once mature, Bittensor will offer lower prices, there will be no platform risk, and the AI output, whether it be text, images, video, etc, will be the best available.

Bittensor makes open-source not just the right way to do things, but the profitable way. Following in Bitcoin’s footsteps, Bittensor is designed around the assumption that stakeholders are profit-motivated; the best models earn the most money. In the same way that Bitcoin mining transitioned to a highly competitive and professionalized industry, so too will competition to provide the most performant models. PhD researchers no longer need to pick between academia and private industry. They can take their research to the battlefield and compete in an open marketplace.

The incentives have worked. In total, Bittensor serves over 4,000 AI models with over 10 trillion model parameters. For reference, GPT-3 has 175 billion parameters.

Bittensor’s stakeholders include miners, validators, nominees, and consumers.

*   Miners are AI experts who share their models with the network. The best models get top ratings from validators and are used more frequently, resulting in more revenue. This system attracts top talent, much like top traders are drawn to Ethereum instead of traditional firms.

*   Validators assess the quality of AI models and manage user requests. They rank models based on their performance for specific tasks. The better and more consistent their evaluations, the more they earn. If they're inconsistent, they risk penalties.

*   Nominees are individuals who own TAO tokens and support specific validators by delegating their tokens to them. They earn rewards for their participation. If a validator underperforms, nominees can shift their support to another.

*   Consumers are the end-users, ranging from app developers to chatbot users. They prioritize high-quality answers. Developers, specifically, will pick validators they believe best suit their requirements.

![](/images/Screenshot%202023-10-10%20at%202.55.21%20PM.png)

The product of this coordination among stakeholders is a network that continually surfaces the best models for a given use case. With anyone able to experiment, it’s hard for closed-source businesses to even compete. A leaked internal Google [memo](https://www.semianalysis.com/p/google-we-have-no-moat-and-neither) describes the open-source advantage.

> “While our models still hold a slight edge in terms of quality, the gap is closing astonishingly quickly. Open-source models are faster, more customizable, more private, and pound-for-pound more capable. They are doing things with $100 and 13B params that we struggle with at $10M and 540B. And they are doing so in weeks, not months.”

ChatGPT was the fastest growing product ever and nearly every business is tapping into one of the big AI providers. Meanwhile, Bittensor is just now taking the training wheels off the network, allowing for permissionless experimentation through the creation of specialized subnetworks. With Meta open-sourcing their [Llama2](https://about.fb.com/news/2023/07/llama-2/) LLM, how quickly will the performance gap close between Bittensor’s output and GPT4? If that gap does close, Bittensor will be the most used network in crypto by an order of magnitude.

#### Current Progress

Bittensor opened the ability for anyone to create a subnetwork that specializes in a certain application. An example is [Subnet 4](https://twitter.com/TheBittensorHub/status/1709355641033069038?ref_src=twsrc%5Etfw%7Ctwcamp%5Etweetembed%7Ctwterm%5E1709355641033069038%7Ctwgr%5Ef0fcbf1f247c455bdd6237692a44ed778921e4ca%7Ctwcon%5Es1_&ref_url=https%3A%2F%2Froamresearch.com%2F%3Fserver-port%3D3333%2Fapp%2FPlaintextCapital%2Fpage%2FqytJZEyKX) which uses [JEPA](https://ai.meta.com/blog/yann-lecun-ai-model-i-jepa/) (joint embedding predicted architecture), an AI approach pioneered by Meta’s Yann LeCun, to handle a variety of inputs and output types such as video, images, and audio in a single model. This approach is more aligned with how humans interpret the world, using multiple inputs to make decisions.

For the technically inclined, I also suggest looking into the work that the OpenTensor Foundation has done with [Cerebras](https://www.cerebras.net/blog/btlm-3b-8k-7b-performance-in-a-3-billion-parameter-model/) to develop the world’s most performant 3 billion parameter model, BTLM. This work makes it possible to run highly accurate and performant models on mobile devices and is an example of making AI more accessible.

![](/images/Screenshot%202023-10-10%20at%202.47.34%20PM.png)

Source: Cerebras

#### Summary

One of crypto's superpowers is the ability to create open and cohesive incentive networks around otherwise closed and disjointed digital commodities. Because AI promises to be such an intimate part of our daily lives, it's especially important that the foundation is built on an open protocol. Bittensor is one of the most ambitious projects in tech right now, paving the way for a democratized and open-source AI future. Instead of intelligence being confined within corporate silos, it envisions a world where knowledge is accessible, transparent, and shared universally.





<sub>The information herein was prepared by Plaintext Capital Management LLC (“Plaintext”) and is believed by Plaintext to be reliable and has been obtained from public sources believed to be reliable. Plaintext makes no representation as to the accuracy or completeness of such information. Opinions, estimates and projections in this presentation constitute the current judgment of Plaintext and are subject to change without notice. This is not an offering or the solicitation of an offer to purchase an interest in any fund managed by Plaintext (collectively, the “Fund”). Any such offer or solicitation will only be made to qualified investors by means of a confidential private placement memorandum and only in those jurisdictions where permitted by law. The identified investment does not represent or approximate all of the investments purchased, sold, or recommended for the Fund. It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the identified investment. An investment in the Fund is speculative and involves a high degree of risk. Opportunities for withdrawal, redemption, and transferability of interests are restricted, so investors may not have access to capital when it is needed. There is no secondary market for the interests, and none is expected to develop. The fees and expenses charged in connection with this investment may be higher than the fees and expenses of other investment alternatives and may offset profits. No assurance can be given that the investment objective will be achieved or that an investor will receive a return of all or part of his or her investment. Investment results may vary substantially over any given time period.</sub>


Decentralized Intelligence: Bittensor's Vision for Universal AI

Our mean reversion metrics suggest caution after last weekend’s rally. Funding has been very noisy and a poor signal of late. Skew is neutral. BTC Basis and Open Interest gave a short-term sell signal yesterday.

![](/images/Screenshot%202023-10-03%20at%2010.19.29%20AM.png)

Crypto market cycles test patience. There are two axes of misery. The first is the decline in price that puts market participants in a tenuous situation if not outright liquidated. The other is an extended period of low volatility that leaves traders uninterested. It’s our opinion that we’ve already experienced the worst price declines and we are now more than halfway through the low volatility environment that leads people to give up on the space.

Past cycles are a good guide to navigating this environment. Bottoms have historically occurred around five hundred days before a price expansion. Note, that we only have two historical samples, so it’s important to not treat this as gospel but there are some common denominators. These cycles have aligned with the expansion in global M2; with tightening financial conditions it’s likely we see substantial easing in 2024. The other historical factor is the Bitcoin Halving which we have talked about in depth in prior letters. Following the logarithmic regression, we would expect the Bitcoin expansion to top out around $150k in mid-2025. That would indicate a $3 trillion market cap for Bitcoin, which seems reasonable given global adoption trends and the much-talked-about spot ETFs on the horizon.

![](/images/cycle_analysis.png)

The Halving is important because it reduces the amount of capital required to increase the price of Bitcoin. The Puell multiple demonstrates this well – after the halving the indicator will indicate a strong buy signal as Bitcoin will become twice as sensitive to upward movements given half the amount of daily supply production.

Why do we expect an easier environment in 2024? One factor is rapidly declining inflation. The below chart shows the relationship between the CPI, the 2YR yield, and the Fed Funds Rate. Inflation leads by about sixteen months. So, while we expect rates to rise in the short-term, we’re nearing the end.

![](/images/rates_cpi.jpg)

The ETF decision will be a key event to watch for with Blackrock leading the charge. Gensler’s SEC appears resistant but if anyone can force the issue it’s Blackrock. As of right now, all spot ETFs that were scheduled for October have been delayed. The next deadlines to watch are January 10th-15th.

![](/images/etfs.jpg)

#### The Altcoin Rotation

The Halving and the imminent ETFs are likely to contribute to Bitcoin’s outperformance in the next six months, but it would be a mistake to ignore emergent narratives and leading altcoins.

The most recent narrative is crypto consumer products. Despite a lackluster market over the summer, Friend.tech has continued to grow its userbase, its trading volume, and its TVL. In just two months, the business has generated $30 million in fees. The stats are skewed due to people farming a potential airdrop but they’re impressive, nonetheless.

![](/images/Screenshot%202023-10-03%20at%2010.22.04%20AM.png)

There aren’t many ways to directly invest in the Friend.tech narrative at the moment. You can either try to farm the airdrop, but it’s a crowded move. You could invest in an emergent competitor that has a token but it’s likely that you’ll be investing in a laggard with a poor network effect. Or you could invest in new applications and tooling built on top of Friend.tech. I think the last approach is the best one. In fact, I could see the Friend.tech social graph becoming an onchain primitive. Instead of trying to rebuild a creator<>fan relationship, a consumer app could grant certain access based on the Keys a person holds.

The Friend.tech app is limited in a lot of ways, but it’s also unlocked a creator<>fan relationship like no other crypto app has so far. It feels a bit like early DeFi, meaning we’ll likely see a lot of copycats. Only the ones with a lasting product will survive. Speculation is a great bootstrapping mechanism but when the speculation dies down, there needs to be something to keep everyone coming back.

We’ve talked a lot about Solana over the past year. The user experience is better than any other chain, the fees are negligible, transactions are near instant, and it’s trading at 5% of the market cap of Ethereum. The upcoming launch of the Firedancer client (tooling for node validators) will deliver enormous performance gains to an already performant network and will make Solana one of the only ecosystems other than Ethereum with multiple clients. In the Firedancer demo, Solana achieved 600k transactions per second.

In addition to the network-level performance and upgrades, applications and companies are taking notice of Solana. Visa added support for Solana and released an in-depth report of the network’s capabilities. Maker, which was one of the earliest, and still one of the largest projects on Ethereum, announced its plan to build on Solana. The network TVL is steadily growing as liquid staking becomes popular and multiple projects implement rewards programs.

Solana is also my bet for leading consumer interest in crypto. The chain is easier for consumers to use, and because it scales, is easier for developers to build on.

In summary, we’re nearing the end of the accumulation. We have three months to identify the assets and themes we want to target for the next two years. The longer this accumulation draws on the more optimistic we become.

Cheers,

Plaintext Capital


Musical Chairs

#### Mean Reversion Metrics

Every month we will share the below collection of short-term mean reversion metrics we use to identify turning points. All of these are based on various derivatives data and normalized according to our backtesting.

*   Skew looks at the relative implied volatility of puts and calls with similar deltas and expirations. It’s a way to gauge if the market is crowded in either direction.

*   Funding demonstrates the relationship between the spot market and perpetual futures. High funding indicates that aggressive buying is happening in the perpetual futures relative to the spot market.

*   Aggressive change in futures open interest offers confluence to the above.

*   Periods of high volatility are often followed by periods of low volatility and vice versa.

![](/images/Screenshot%202023-09-05%20at%2010.26.26%20AM.png)

#### August Wrap

*   BASE experienced a surge in traction after launching in early August. It’s pushing 100k daily active users, nearly eclipsing Optimism. Base is a logical entry point for newcomers given the 100 million Coinbase users.

*   Friend.tech launched a social app that allows users to bet on the potential of other users by buying shares. Owning shares of a content creator gives that user access to the creator’s content. The app mixes aspects of Twitter and OnlyFans, injects speculation into the core of the application, and gives content creators significant revenue based on the amount of trading they are associated with. The speculative nature of the app seems to rub people the wrong way but it’s clear some version of Friend.tech will have its breakout moment in the coming years. Friend.tech has also prioritized easy onboarding which has historically been a big hangup for crypto applications.

*   Summer 2023 will be remembered as “Onchain Summer”, where volumes and performance of on-exchange assets were abysmal, but a mini bull market carried on in newly launched memecoins and gambling apps.

*   In a highly anticipated decision, Grayscale won its suit against the SEC for wrongfully denying its spot ETF application. It was a huge win and another embarrassment for the SEC. Despite the positive ruling, all Bitcoin ETF decisions slated for September 2nd were delayed until October. There will be eight bitcoin ETFs up for decision between October 8th and October 19th.

#### Onchain Summer

This summer demonstrated a chasm in the crypto market. Large assets listed on exchanges performed poorly but a collection of onchain assets returned hundreds or thousands of percent. For the most part, professional investors missed out on these returns while retail investors and "degens" cleaned up. Projects like Rollbit and Unibot were generating significant revenue but were dismissed early on due, in part, to their speculative nature. Speculation is often treated as a dirty word, but it's impossible to deny that it's a strong use case in the crypto ecosystem. The below shows the impressive growth in volume for Unibot, a trading bot built through Telegram.

![](/images/Screenshot%202023-09-06%20at%209.50.53%20AM.png)

#### Eight Months Until Halving

We are eight months out from the halving and just had a major result with the Grayscale vs SEC win. The people following this most closely estimate that there is a 75% chance of a spot ETF approval by the end of the year. As we've mentioned before, this would be a major catalyst. 

Apart from the ETF news, the market continues to show signs of apathy. Volumes and volatility are low. Absent aggressive monetary or fiscal stimulus, bottoms take time to develop. Using the last cycle as a reference, Bitcoin was trading at $7,000 six months before the halving and at $3,000 three months before the halving. We remain optimistic, slowly adding to long-term fundamental positions. 

Cheers,

Plaintext Capital


Onchain Summer

After the announcement of Blackrock's Bitcoin spot ETF application, Bitcoin seemed poised to outperform. But as often happens, the market got ahead of itself with no new flows entering the ecosystem quite yet. Instead, Ripple benefitted from a positive ruling according to US District Judge Torres. This led altcoins to outperform given the reduced risk that they could be ruled securities. As the chart below demonstrates, an altcoin vs Bitcoin rally was due. Rarely is there such an extended period of Bitcoin outperformance without some period of catch-up by the rest of the market.

![](/images/Screenshot%202023-08-01%20at%2011.00.50%20AM.png)

Source: Vaneck

#### Upcoming ETF news

The market is anticipating some positive information regarding a Bitcoin spot ETF. Sometime between now and mid-September, Grayscale should be receiving a response to oral arguments surrounding their suit against the SEC. If the response is positive, it would indicate that there might be a good chance of an imminent ETF approval. If negative, we can be sure a spot ETF won't be approved anytime soon.

![](/images/etfapps.png)

Ark's ETF is the first of many pending applications and is slated to be approved, denied, or delayed by August 13th. If there is no news regarding Grayscale's suit by then, Ark's ETF is very likely to be delayed. This may have a short-term negative effect on the market so it's worth paying attention to.

#### Cycle commentary

We expect that a spot ETF will be approved in the coming months and likely by early September. The impact of a spot ETF can't be overstated. It will decrease the cost to buy and hold Bitcoin by an order of magnitude, it will open the $100 trillion advisory network, and it will drastically reduce the reputation risk of investing in Bitcoin.

![](/images/advisors.png)

If approved, the ETF would come at the perfect time. Bitcoin is at the tail end of a 2-year bear market where excess leverage has been wiped from the market and stronger buyers have entered. The Bitcoin halving is estimated to occur on April 26, 2024, and will have a significant impact on the supply and demand balance. Daily issuance will drop from 900 BTC to 450 BTC and investment advisors will, for the first time, have access to a viable Bitcoin investment product. It's hard to draw up a better scenario.

But is the halving priced in? While investors know that it's coming, there are structural issues preventing an efficient market. It's difficult to secure long-term financing to purchase Bitcoin, miners don't hedge out their future product, and there simply isn't enough capital earmarked for crypto to price in such a significant event. This is why despite knowledge of the supply change, the price of Bitcoin has historically gone up after the halving. Miners are the market's natural sellers and after the halving, they have half as much to sell.

![](/images/halvingafter.png)

Source: N/A

The Puell Multiple illustrates the marginal demand necessary to support price. It shows the ratio between the current daily issuance and the 1-year trailing mean of issuance. When the Puell multiple is low, it means that less demand is needed to support the price. The red circles represent each having, and the subsequent effect on the Puell multiple. Less demand is needed to support the price, so given constant demand, the price should increase.

![](/images/Screenshot%202023-08-01%20at%2011.14.33%20AM.png)

Additionally, the available supply is extremely tight according to the below chart. 70% of the total Bitcoin supply has not moved in over a year. If market participants haven’t sold during the last year of a brutal bear market, they are unlikely to sell until they see higher prices.

![](/images/hodl.png)

#### Outlook

After rallying nearly 100% to start the year, it's not surprising that Bitcoin is consolidating while major decisions await. The Grayscale ruling and ETF decisions will be pivotal events heading into 2024. If an ETF is approved, it would be a major demand catalyst running in parallel to the halving’s supply shock. Our outlook remains the same; identify asymmetric opportunities that will outperform over the next two years.



Cheers,

Plaintext Capital


The Halving: Supply and Demand

### Q2

After Bitcoin reached $30k in early April, the crypto market trickled downwards for most of the quarter. Altcoins particularly struggled which was at least partially a result of the aggressive action of the SEC. There are many open cases including the SEC v. Bittrex, SEC v. Ripple, SEC v. Genesis & Gemini, SEC v. Coinbase, and SEC v. Binance, among others. Coinbase and Grayscale have also brought cases against the SEC given their ambiguous approach to rulemaking and enforcement.

The SEC's aggressive stance worried the market but it's becoming clear that Gary Gensler may have overreached. The courts have asked tough questions of the SEC and there is an effort by Congressman Warren Davidson to fire Gensler. Even the former SEC Chairman, Jay Clayton, calls the approach the SEC is taking, "un-American." If that wasn't enough, two weeks ago Blackrock announced it would file for a Bitcoin spot ETF, a product the SEC has famously rejected repeatedly. The timing is important. In the coming months, Grayscale is due for a decision on its SEC battle to convert its GBTC product to an ETF. Given that Blackrock has an outstanding ETF approval record of 575-1, they likely have a strong indication a spot ETF will be approved.

Blackrock's interest in a Bitcoin ETF is a major turning point. It is the biggest asset manager in the world with about $9 trillion under management. Blackrock's foray into Bitcoin is a signal to the world that it's kosher. It is an important signal that crypto is here to stay and sets us up for the coming cycle.

### Trading outlook

Given the ETF is specific to Bitcoin, Bitcoin is likely to continue its outperformance in the next few months. Bitcoin strength relative to the market is expected at the end of a bear market and the pattern closely resembles 2019. Bitcoin is the value play, creating wealth that eventually flows downstream into higher-growth crypto. Because of this, we have slowly started allocating to small-cap assets that present exceptional value. A barbell approach is sensible right now - overweight Bitcoin and majors with tail allocations to small, long-term plays that can return multiples on invested capital.

Bitcoin is a safe bet heading into a likely ETF approval later this summer. But Bitcoin dominance had its highest RSI reading ever earlier this week, so altcoins are due for some relative outperformance in the immediate short term.

![](/images/Screenshot%202023-06-30%20at%207.38.29%20PM.png)

In the first half of the year, traders were clearly positioned defensively. That led to a great start to the year for crypto and equities as traders were forced to cover their shorts. That positioning has now flipped bullish indicating the long side might be slightly crowded.

##### Commitment of Traders

The Commitment of Traders report is one of the sentiment readings that showed Large Speculators (green line) had an overly bearish stance until the last few weeks when shorts were forced to cover their shorts. Traders are still defensively positioned according to this reading but have retreated to a more neutral position.

![](/images/Screenshot%202023-06-30%20at%207.47.25%20PM.png)

##### BTC CME Future Open Interest

Traders of the CME Bitcoin futures are the ultimate trend followers. They presumably aren't crypto natives and tend to be a little late to the party. The spike in open interest following Blackrock's ETF news makes sense but increased leverage can sometimes act as fuel for a flush. It’s worth keeping an eye on.

![](https://preview--plaintextcapital-2c6e7.stackbit.dev/_static/app-assets/images/Screenshot%202023-06-30%20at%207.44.21%20PM.png)

##### CPI fireworks

The CPI is expected to read in the high twos or low threes for June. Either way, it's an impressive reduction from 9% last year. After June however, the base effect that has contributed to very low year-over-year readings in the last few months begins to work against us. After what will be twelve consecutive months of lower CPI readings, expect the trend to change. This might have a cooling effect on what have been red-hot markets.

![](/images/Screenshot%202023-06-30%20at%207.44.39%20PM.png)

### Crypto Themes to Watch

The worst of this cycle is over and we're now in what may be a stretch of sideways price action before a new market cycle. As a result, we're beginning to position ourselves in long-term, asymmetric opportunities trading at seed-stage valuations.

##### Vampire attacks on successful protocols

Vampire attacks are growth strategies used by newer protocols to attract liquidity by providing incentives, which we think will be an effective strategy in the coming cycle. EIP-4844 introduces a concept called data blobs which bundles rollup transactions and decreases rollup costs up to 20x and substantially increases throughput. This should both drive usage on rollups and increase profitability due to reduced costs of posting transactions to Ethereum. There are several early-stage projects on Arbitrum and Optimism that stand to benefit. Some use cases that are infeasible on Ethereum will be possible on rollups. But even simple protocols that replicate the stalwarts like Uniswap and AAVE have an opportunity to draw new users by incentivizing them with token rewards. In a bear market, token inflation is a burden for a token's value but in a bull market that inflation can be used as a speculative carrot. The risk-reward profile of these projects is extremely attractive.

##### AI and crypto crossover

AI and crypto is a buzzword headline made in heaven, but the overlap is natural. AI is built on models and compute. Crypto can create efficient markets for both. Crypto is how AI will scale. There are crypto projects focused on every layer of the stack whether it's training, inference, or simply compute. An open-source, incentive-driven AI is likely to outcompete any closed-source competitor, and seeing as OpenAI raised at a $30 billion valuation and is the fastest-growing product ever, the ceiling is quite high. We might have reached a local maximum for hype in the short term, but the AI bubble is only getting started.

##### Crypto games

We continue to be interested in games because they will attract users to the crypto economy and the ability to own your character and your assets is an incredibly powerful psychological draw. There’s one investment we’re extremely excited about that brings an avant-garde culture to online casino play.

##### Solana TVL growth

Solana has been chewed up and spit out. Its close ties to FTX left a hole in development and in its reputation. It's down over 90% from its 2021 highs and the TVL of the protocol has collapsed. But the protocol has a strong ecosystem of projects that leverage the throughput and low transaction costs of Solana. They've fixed issues with downtime and network spam, they will soon have multi-client support, and they've grown a strong NFT ecosystem. State compression on NFTs makes the cost of minting negligible, opening new use cases. A new crop of projects has now launched, and they are beginning to release tokens which will draw interest and capital to the ecosystem. We've talked a lot about Solana throughout the bear market and continue to think the investment opportunity resembles Ethereum in 2019.

### An Optimistic Outlook

Regulation has been a major headwind over the past six months, but the current is shifting. With seemingly every major asset manager filing for a Bitcoin ETF and significant pushback to Gensler's draconian enforcement tactics, the market has been derisked. We continue to believe that right now the most important thing is to remain optimistic and find asymmetric opportunities while most of the market is apathetic or pessimistic.

Cheers,

Plaintext Capital


Blackrock & Bitcoin

Much of the crypto market is up over 50% YTD despite a constant stream of regulatory headlines. Fred Wilson of Union Square Ventures published a short and powerful [blog post](https://avc.com/2023/05/the-freedom-to-innovate/?utm_source=substack&utm_medium=email) where he responded to questions about crypto regulation with “when they want to shut it down, I say double down.” It’s an important message from a VC who invested in the rise of the internet and witnessed what differentiated us from China: the freedom to innovate.

Despite outstanding performance in the crypto markets this year, the sentiment is poor.  We've reached the apathy phase of the crypto cycle where people lose faith, question the future of the industry, and leave. In the public crypto markets, sellers have been exhausted but buyers have not yet been convinced to return. This leads to low volume and a rangebound market. Investors have now turned to the newest shiny thing, AI.

The best time to invest in a market is when it's least popular; when sentiment is negative, we can more easily identify undervalued assets for the long term. During a bear market, lots of reasons appear for why an asset class might never recover, but the reasons why crypto adoption will continue to grow have not changed. In an increasingly digital world blockchains are the best avenue for capital formation, distribution of data, and digital governance.

This feeling of apathy is similar in traditional markets right now. The S&P 500 and NASDAQ are up about 10% and 25%, respectively. But the prevailing sentiment is that this is not the time to invest. This perspective may be right; liquidity has been sucked out of a market that is addicted to it, so a severe withdrawal seems inevitable. But in the short-term, movements are largely dictated by positioning among traders. If everyone is short, who is left to drive the market lower? The below chart illustrates this concept with the sum of futures contracts owned by certain groups. The green and blue lines represent the large and small speculators. When their patterns are extreme on either end of the spectrum, it serves as a good countersignal; sell when everyone is buying and buy when everyone is selling. The “large speculator” segment is more short the S&P 500 than at any time in the last three years.

![](/images/Screenshot%202023-06-01%20at%202.39.30%20PM.png)

Source: Barchart.com

Our long-term sentiment indicator shows a similar story to the above graph; traders are positioned bearishly tends to be a good buy signal.

![](/images/Screenshot%202023-06-01%20at%202.40.51%20PM.png)

Source: Plaintext Capital

This could provide an interesting setup in the next month as CPI comes out on June 13th and the FOMC is on June 14th. I don’t expect a pivot from the Fed, but a favorable CPI reading might be the fuel the market needs to move higher. According to the Cleveland Fed’s Nowcast, inflation is forecast to come in at 4.13%, which would be the first time since before COVID that inflation is below the effective Federal Funds rate, which currently sits at 5.1%. This would be a good sign for the market that the Fed has been effective in bringing down inflation. Further, as of today, inflation is projected to be 2.9%.

![](/images/Screenshot%202023-06-01%20at%202.41.48%20PM.png)

Source: Cleveland Fed

I expect that soon we’ll be hearing a narrative pushing the Fed’s successful “soft landing”, and I expect that narrative to be wrong. The bottom often falls out of the market after the Fed Funds rate has topped, as credit conditions remain tight amidst a deteriorating economy and traders are crowded on the long side.  This is when we may see the best opportunity, as this will trigger the Fed to aggressively step in.

All in all, participants are right to be wary of the current market. “Don’t fight the Fed” is still in play and liquidity isn’t there to support a sustained rally. It remains a trader’s market. Our focus is long-term research and short-term risk management.

Cheers,

Plaintext Capital


Crypto: contrarian once again

#### Macro

Inflation continues to come down which gives the Fed breathing room should the economy deteriorate. The chart below shows the relationship between M2 and CPI with an eighteen-month offset.

![](/images/cpi_m2_lag.png)

The Fed is unlikely to pivot before deterioration because taking the foot off the gas early with inflation still elevated could damage the Fed's credibility. Because the Fed is unlikely to pivot before a deterioration, liquidity will remain tight with trillions stuffed into money market funds and the reverse repo program; rates are too attractive for that capital to flow elsewhere. Additionally, the Treasury General Account has been drawn down since September which has been a net positive for liquidity, but with the account nearly empty this drawdown is set to reverse.

Dollar dominance has weakened over the last six months as China, Russia and other countries have looked to reduce dependence on the bully that is the USD. The DXY started its downtrend in September after a nearly two-year bull market. A weakening dollar is bullish for dollar-denominated assets. Adding fuel to the fire, Stanley Druckenmiller said his sole high-conviction trade right now is "short the US dollar." However, in the short term given the liquidity factors previously mentioned, DXY might see a jump and risk assets a slump. We think patience will be rewarded.

#### Bitcoin

On the crypto front, Bitcoin has a few potential supply overhangs including Mt. Gox distribution and scheduled selling from the US government. There is also a small possibility surrounding the dissolution of GBTC which would result in billions of dollars of Bitcoin being unlocked from the trust and potentially finding their way to the market. Despite these overhangs, Bitcoin dominance remains at the highest levels of the past two years as altcoins have continued to lose value relative to Bitcoin. As mentioned previously, Bitcoin dominance is generally expected to increase in bear markets as the lower beta, value play.

#### Solana

April was an exciting month for Solana with the launch of the Solana Saga mobile phone. The Saga is the first vertically integrated mobile stack designed for crypto, and in this case, Solana. The Apple and Google App stores have historically been hard for crypto businesses to work with, so the Solana team took the matter into their own hands. With the Solana Mobile Stack, developers can more easily build a mobile-first experience for Solana apps. With Solana's fees and speed, these applications might be able to deliver a Web2-like user experience.

Mad Lads, an NFT collection in connection with the Backpack wallet, launched mid-month with tons of excitement. In the first week of trading, it had the most volume of any NFT collection on any chain. The mint was also extremely popular and proved that the Solana network has resolved issues that had previously led the network to crash during times of congestion. NFT compression launched in April, making NFT minting over 1000x cheaper, an important innovation for making blockchains more palatable for consumers. This table shows how cheap it is to mint compressed NFTs on Solana.

<div style="text-align: center">![](/images/compressed_nft_table.jpg)</div>

The chart below shows how popular Bubblegum, the smart contract responsible for NFT compression, has been since its launch. We think Solana is well positioned to be the blockchain of choice in the next adoption cycle.

![](/images/bubblegum%20chart.png)

From an investment perspective, the Solana ecosystem is also primed given that only a handful of projects have launched their tokens. As more projects gain adoption and launch tokens, it will increase overall liquidity and interest in Solana.

#### Music, AI, and Web 3

High-quality, AI-generated songs in the likeness of famous artists like Drake, The Weeknd, and Grimes, among others, are coming to market with greater frequency. Initially, these songs were met with hostility from record labels and taken down from all relevant media platforms. But this game of whack-a-mole is a losing battle, especially with permissionless music enabled by blockchains. Instead of fighting the trend, Grimes decided to lean in, saying she will split 50% of royalties with anyone who uses her voice. People who create AI-generated songs now have an incentive to split the royalties because Grimes is an incredible distribution channel. And what will be the easiest way for AI producers to do this? Through Web 3 protocols. 

<div style="text-align: center">![](/images/grimes.png)</div>

The traditional model that might take months to approve copyright is incompatible with anonymous producers around the world generating new AI tracks daily. Instead, they can publish the music on Nina, [Lens](https://twitter.com/sweetman_eth/status/1653175985506856962?s=46), or Sound, set a distribution fee of 50% on the songs, and share them on the internet. If the music is good, maybe Grimes shares the song earning money for both the producer of the AI song and Grimes. This is a great example of how Web 3 protocols could unleash musical creativity. The free market in action!



Cheers,

Plaintext Capital


Market Commentary

Inflation, Solana, and the Future of AI Music on Web 3

Embedded in the first Bitcoin block on January 3, 2009, was the headline, "The Times 03/Jan/2009 Chancellor on brink of second bailout for banks." This message highlights Bitcoin's inception as a direct response to the financial instability of the time and serves as a reminder of its importance.

Fast forward to today and Silicon Valley Bank, Credit Suisse, Signature, and First Republic Bank, among others, have faced recent crises of confidence and have highlighted bank fragility more broadly. Bitcoin has once again emerged as a possible financial refuge. Bitcoin's significance as a bearer asset has become increasingly evident considering bank customers are now worrying about the safety of their deposits. As a self-custodied digital asset, Bitcoin allows individuals to maintain full control over their wealth, free from the potential collapse of traditional banking systems. Its bearer nature ensures that ownership and access are solely determined by possession, which in turn provides a vital layer of protection and financial sovereignty during times of economic uncertainty.

In the past two weeks, it’s become evident that the Fed and Treasury will backstop deposits to ensure trust in the banking system. However, if these deposits are indefinitely backstopped, it's likely that we will witness another expansion of the money supply.

The Fed and central banks globally are in a tough position because inflation is still high but major cracks are forming in the banking system, and the economy more broadly. With debt-to-GDP near all-time highs, the economy is fragile. There are two options: austerity and an ensuing depression or fiscal and monetary intervention, further eroding trust in fiat monies globally.

Throughout history, austerity is rarely popular because it results in immediate pain. Currency debasement is the preferred path to dealing with debt because it happens more slowly and covertly. The Bank Term Funding Program, which we will talk about in more detail, successfully backstops banks in the short-term but will later result in monetary expansion.

While currency debasement looms as a bleak future, Bitcoin is a much-needed reprieve, offering a decentralized and fixed-supply alternative to preserve value and foster financial stability. Bitcoin was one of the best-performing financial assets in March, moving in a similar fashion to gold but with a stronger force. Meanwhile, the BANK index was down 24% on the month.

![](/images/Screenshot%202023-04-03%20at%202.10.52%20PM.png)

#### The Bank Term Funding Program

The Bank Term Funding Program allows banks to get cash by pledging Treasuries and mortgage-backed securities, which would regularly be discounted heavily in the open market, at par. This shores up $4.4 trillion in cash because that's the par value of those Treasuries and MBSs that banks hold. The problem is regional banks don't hold many of those securities. Instead, they hold commercial real estate loans, loans to small businesses, etc. The chart below illustrates this gap.

![](/images/Screenshot%202023-04-03%20at%202.11.05%20PM.png)

If small banks continue to see deposit outflows, it's likely that BTFP will be expanded to include things other than treasuries and MBS. This could shore up another $5 trillion in cash for banks. It’s important to emphasize, that things likely need to get worse before an expansion like this would be entertained.

In the short-term, BTFP shouldn't be stimulative to the economy or financial markets for a few reasons. First, the program is relatively expensive; banks must pay the overnight rate plus 10 BPs. Since the program is currently focused on Treasuries and MBS, loans in other areas will not be backstopped by the Fed. Also, since short-term rates are still higher than long-term rates, banks can't make money borrowing short-term and lending long-term. Instead, BTFP serves as a safety net as credit dries up, which will be deflationary.

The program becomes interesting if the backstop is expanded to support a wider range of loans. Additionally, if inflation normalizes and the yield curve goes positive, the banks would be able to profitably borrow against what would normally be marked-down securities (at par) at a relatively attractive short-term rate and then lend out at a higher long-term rate. Typically, banks might be weary of lending in such an uncertain environment, but with a hypothetically expanded BTFP in place, the risks associated with these loans will be mitigated. The BTFP is supposed to be a 1-year program but that's unlikely because these problems aren't going to evaporate in a year.

The short story is that while the BTFP is unlikely to be stimulative in the short-term, it could be stimulative long-term for two reasons. First, BTFP will shore up cash for banks to issue profitable loans once the yield curve is positive. Second, the program may de-risk new loans because banks will be able to offload them to the Fed if needed. What’s most important in the short-term is that the program signals that the Fed is ready to backstop the market in creative ways. Over the past year, we've waited for signs of things breaking because that would trigger a response from the Fed. We got our first sign in March.

#### The short-term market outlook for crypto

As mentioned earlier, Bitcoin is one of the best-performing assets of the year and has seemingly responded as a hedge to the banking crisis, maintaining a tight relationship with gold. Despite the tirade of negative regulatory headlines, Bitcoin could not be derailed. Indicators confirm a defensively positioned market, which sets us up for a sustained rally.

In the last month, Bitcoin dominance has shot higher, common behavior in the early stages of a bull market. Participants flock to Bitcoin as a value play and later money trickles down the risk curve. The banking narrative is also very fitting for Bitcoin vs some of the more tech-forward crypto assets. Bitcoin is at long-term resistance at $28k-$30k and the credit contraction could cause some economic stress so while the outlook for Bitcoin and crypto is as constructive as it ever has been, liquidity conditions remain tight.


Chancellor on Brink of Bailout

Bitcoin was sideways during February, failing to break through a big level at $25k. As seen below, a sharp change in risk sentiment preceded the choppy market. The options market went from an aggressive bearish position to an aggressive bullish position in the span of two weeks in January. The market needed time to cool off.

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%206.33.28%20PM.png)</div>

<div style="text-align: center">Source: Laevitas, Plaintext</div>

While Bitcoin cooled, a host of new crypto narratives popped up. These included artificial intelligence, NFT marketplaces, zero-knowledge systems, Bitcoin ordinals, and China coins, among others. Since the start of the year, ACH (China narrative), STX (Ordinals narrative), and RNDR (AI narrative) have outperformed. As the month progressed the narratives became increasingly flimsy, potentially a signal of an overheated altcoin market.

<div style="text-align: center"></div>

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%208.01.57%20PM.png)Source: Tradingview</div>

<div style="text-align: left"></div>

<div style="text-align: left">There was a prevailing narrative that the Chinese market was driving returns, and the data showed that Asian hours accrued a slight outperformance. But coins associated with China seemed to outperform simply because people expected them to outperform rather than any organic Chinese flows.</div>

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%206.33.41%20PM.png)Source: Laevitas, Plaintext</div>

The biggest concern for crypto continues to be the macro environment but for now, the trend appears to have changed for Bitcoin against the S\&P500. This indicates that we may have a constructive environment for Bitcoin relative to equities in the coming months.

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%205.47.26%20PM.png)</div>

<div style="text-align: center">Source: Tradingview</div>

### Bitcoin ordinals

This month something new called Ordinals came to the Bitcoin network. The Ordinal protocol allows users to inscribe data to specific satoshis (the smallest denomination) to create NFTs on Bitcoin. The idea caused controversy in the community with some Bitcoin fundamentalists arguing this new idea would spam the network. However, given that Bitcoin has been suffering from a lack of demand and as a result, a lack of transaction fees, the increased usage is likely a welcome change, especially for Bitcoin miners.  This has also led traders to think about ways to take advantage of any narrative associated with Bitcoin. Stacks, a sidechain built off Bitcoin, saw a surge during February as the market constructed a narrative that it was the best way to benefit from the renewed interest in Bitcoin.

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%205.47.35%20PM.png)</div>

<div style="text-align: center">Source: Dune</div>

### NFT Marketplaces

Bur, the leading NFT aggregator, dropped their token to over 100,000 addresses creating a huge amount of wealth for the NFT ecosystem and drumming up a lot of attention for the exchange. After the initial airdrop, new incentives were released causing thousands of ETH to join the Blur bidding pool. Blur quickly became the dominant NFT marketplace but when filtering for wash trading the stats look a bit different. The phenomenon is reminiscent of DeFi summer of 2020 when token farming first burst on the scene with the likes of SNX, COMP, and YFI, among others. Farming is a great user acquisition strategy but not necessarily a great retention strategy. Blur has a great product but it’s worth considering what dynamics are behind the current growth in volume.

<div style="text-align: center">![](/images/Screenshot%202023-03-01%20at%205.47.47%20PM.png)</div>

<div style="text-align: center">Source: Dune (L), Nansen (R)</div>

### Coinbase L2 launch on Optimism

Coinbase launched its own L2, Base, built using the Optimism tech stack. Coinbase is looking to purpose-build an entire onchain ecosystem for its 100 million users. If executed correctly, this could be the most powerful onboarding experience we’ve had in crypto. Additionally, Coinbase has been planning to roll out an MPC wallet that would allow users to interact directly onchain without needing to withdraw their assets to a fully self-custodial wallet. Key management is one of the biggest hurdles to adoption and this would be a huge step toward making onchain transacting easier and safer for a large swath of users.

### Enterprise Adoption

NFTs continue to be a big money maker for enterprises. Nike brought in $185 million in revenue last year through primary sales and royalties of NFTs. Continuing the trend, Adidas is talking about potentially token-gating sneaker drops for certain NFT communities, and Puma launched an NFT collection called Super Puma. NFTs are the gateway for consumers to learn more about crypto.

### Shanghai

Staked ETH is expected to begin to unlock near the end of March or early April with the Shanghai upgrade on Ethereum. The SEC crackdown on the Kraken staking product may push more users to decentralized solutions like Lido and RocketPool.

There are two competing market dynamics. On the one hand, previously locked ETH with now become available to sell. On the other hand, staking for a 4% yield will become more attractive since users will be able to unlock their tokens more readily. Most users who have staked through a staking service like Lido would likely have already sold their staked ETH derivative tokens if they were desperate for liquidity. But staking that has happened through exchanges or by individual users is more likely to come to market. This [thread](https://twitter.com/WestieCapital/status/1630963438343319558?s=20) does a good job of digging into likely scenarios. Anywhere between $2-$4 billion ETH may come to market, which is a non-trivial amount. For context that’s 10-20x the daily ETH volume on Coinbase. We expect the event to cause volatility for ETH.


Based

This month, we're focusing on themes to watch both in 2023 and 2024. I noted in the most recent Market Commentary that I think we may have a constructive environment for risk assets, primarily crypto, over the next three to six months. Afterward, inflationary worries may transition to recessionary worries and everyone will once again become a macro trader. For now though, crypto.

#### Market leaders; buy what works

This crypto bear market is unique to prior ones because we actually have the opportunity to invest in things that work right now rather than guess about future adoption. From a risk-adjusted perspective, market leaders in each respective vertical are easy bets to outperform the market. It's easy to fool ourselves into thinking we've "missed" something like Uniswap or Aave, but the reality is these and others are down 90% from their peaks and are the definitive leaders in their respective use cases. And most of the world still has not woken up to DeFi, let alone crypto more broadly. For the last decade, FAANG proved how powerful and simple investing in market leaders can be.

I think this is especially relevant for DeFi, which has an established product-market fit, but the idea holds true for the other themes here as well. This entire space is nascent and participating in the markets while most have left, is contrarian.

Since I mentioned DeFi, the core products I'm interested in are spot exchanges, perpetual swaps exchanges, and lending. As the market matures, more exotic offerings like options and structured products will see greater demand. For now, the better risk-adjusted bets are the vanilla pillars of DeFi.

#### Consumer applications will bring more users to crypto

Internally, we talk a lot about "digitally native commerce" or any non-financial use cases. We think most consumers will interact with crypto because it's fun and liberating. The NFT boom in 2021 was the best example of this to date and the phenomenon is only going to grow. The chart below from Electric Capital illustrates this. 80% of first-time crypto transactions were related to NFTs.

<div style="text-align: center">![](/images/Screen%20Shot%202023-02-01%20at%206.25.52%20PM.png)</div>

<div style="text-align: center"><sub>Source: Electric Capital Developer Report</sub></div>

<div style="text-align: center"></div>

<div style="text-align: center"></div>

Most traction has been in the NFT trading space with the leaders being OpenSea, Blur, X2Y2, and LooksRare in that order. Blur is likely to launch a token soon which has contributed to its volume to date. If Blur can maintain traction, it will be worth paying attention given its competitor, OpenSea, raised at $13.3 billion once upon a time. There's clearly an appetite for this market.

<div style="text-align: center">![](/images/Screen%20Shot%202023-02-01%20at%206.20.33%20PM-62c39bbc.png)</div>

<div style="text-align: center"><sub>Source: Nansen</sub></div>

Music, video, writing, social and gaming are also part of this trend but there aren't many clear ways to get exposure in the public market. We've already made an investment into the music space through Nina Protocol and are closely watching how that space progresses. Once curation improves, we should see adoption really accelerate.

For video, Glass.xyz appears to be gaining traction as a Youtube alternative but as of now, there's no way to gain direct exposure. Lens protocol is a social graph leveraging the Polygon blockchain and has shown steady growth with 30k monthly active users across a variety of applications that are built on top, but it's similarly difficult to get direct exposure. Gaming and gambling are areas that are sure to take off at some point and there's some traction across the likes of Magic and Aurory for gaming and Rollbit and Buffer for gambling. These themes have yet to have a breakout application but when they do, interest will pour in.

#### Decentralized storage explodes with NFT interest

Decentralized storage is the natural progression for data storage; simple hardware requirements, easily codified workflow, cryptography to prove storage and payment, and technical and geographic redundancy. Filecoin has by far the most storage capacity of the decentralized storage networks and appears to be growing quickly with around 100 PiB of monthly storage.

We've beaten the drum a lot on Arweave's use case as the permanent storage layer for NFT data. In a market where there are few places to bet on the secular growth of NFTs, Arweave stands out. They announced a partnership with Meta in November and I expect more to come as established brands build out NFT strategies.

#### L1 fees will drive interest in L2s and scaling solutions

If we're optimistic about demand returning to crypto then we need to be optimistic about scaling solutions.

As demand returns, fees on Ethereum will increase and drive usage to Layer 2s and other chains like Solana. The market seems to be front-running this narrative with Optimism's token up 140% on the year. Arbitrum hasn't released a token yet but is likely to do so. Matic was one of the better relative performers in 2022 as it pushed forward on a number of business development initiatives and continues to be a good bet as an EVM competitor. The L2 trend is just beginning.

<div style="text-align: center">![](/images/Screen%20Shot%202023-02-01%20at%206.17.38%20PM-87479413.png)</div>

<div style="text-align: center"><sub>Source: Dune</sub></div>

Solana is unique in that it isn't EVM compatible but it does have a strong developer ecosystem and a unique collection of applications. Of the majors, it was one of the worst performers in 2022 and was tied in with the FTX debacle. Despite the recent stigma, Solana has made improvements to the fee system, has increased uptime, and in many ways mirrors the Ethereum trajectory of 2018.

#### Interoperability solutions take off

If L2s and other chains like Solana have an increased place in the ecosystem, interoperability will continue to be an important theme. Synapse, Hop, Across, and Stargate are competing for market share. Each takes a slightly different approach with respect to tradeoffs but all have aspirations of being more than a simple asset bridge. The holy grail is to be a cross-chain messaging and liquidity layer where applications can build on top.

<div style="text-align: center">7-Day Average Daily Volume</div>

<div style="text-align: center">![](/images/Screen%20Shot%202023-02-01%20at%206.15.49%20PM.png)</div>

<div style="text-align: center"><sub>Source: Flipside</sub></div>

#### 2022 under-performers have their time in the sun

The worst-performing names of 2022 also tend to be the most shorted names. Shorts may be the fuel these names need for their revanchist arcs. GCR on Twitter has talked about this theme and we have already seen it play out in January with Aptos. Despite questionable short-term fundamentals, the heavy shorting on Aptos provided bulls the fuel to ride the name up 450% in a month. A similar theme could play out across the market where under-appreciated names surprise to the upside; Avalanche, Fantom, and dYdX come to mind. I think it's wise to reevaluate biases across the board.

I'm very optimistic about the coming two years in crypto. I expect this year to be volatile in both directions as we prep for a breakout year in 2024 led by a cultural boom that will be tied to new applications, artwork, and communities in crypto.


This month, we're focusing on themes to watch both in 2023 and 2024. I noted in the most recent Market Commentary that I think we may have a constructive environment for risk assets, primarily crypto, over the next three to six months.

Themes for 2023

We're excited to share our investment in Sovereign, a company led by our former partner at Plaintext, Cem Ozer.  Sovereign raised [$7.4 million led by Haun Ventures.](https://www.coindesk.com/business/2023/01/30/blockchain-scaling-project-sovereign-labs-raises-74-million-in-seed-round/?utm_term=organic&utm_content=editorial&utm_medium=social&utm_campaign=coindesk_main&utm_source=twitter)

A year ago, Cem Ozer wrote [Scalability and the Modular Blockchain Stack](https://www.plaintextcapital.com/blog/scalability/) while working as a partner at Plaintext. Cem had previously worked on Ethereum 2.0 research at Consensys so the idea of scaling was very near and dear to him. If you couldn't tell by reading the blog post, Cem became obsessed with the potential to scale blockchains using this modular framework described above. One month later, Cem left Plaintext to start [Sovereign](https://mirror.xyz/sovlabs.eth/V-nUycehpu-cwCRaStz7984mYGOKpRGMyC-tTDaQIsk) and pursue a burning passion to help scale blockchains.

Sovereign aims to make scaling simple by providing an SDK that will abstract away the details of zero-knowledge proofs and make rollups seamlessly interoperable. Importantly, rollups can chose their preferred VM and can communicate with other rollups with only a single block delay all while maintaining safety and liveness with ZK-proofs and DA guarantees.

Blockchain modularity, the idea of separating data availability, settlement, and execution became popular last year when Celestia's approach to scaling the DA layer came into the spotlight. With the increased throughput of a dedicated DA layer, rollups can greatly improve scale and finality.

To onboard the rest of the world to crypto, it's critical that blockchains can increase their throughput at a reasonable cost. Until now, most production-ready solutions increase throughput with faster consensus algorithms, optimized execution environments, or faster block propagation. But all of these approaches require increased hardware resources to improve scaling. Another approach may be to rely on specialized layers to fulfill each of the functions of a monolithic blockchain.

Currently, rollups derive security from smart contract chains like Ethereum, which handle execution, settlement, and data availability/consensus. Because smart contract chains have to handle all of these roles, scalability is limited. But with a trusted data availability layer, a rollup can dump all execution data, the DA layer can guarantee and order transactions, and then a single node can issue a ZK proof that the transactions are valid. Instead of scaling many nodes, we now just have to scale one node.

Using a ZK-rollup to prove a specialized DA layer is a big step forward for easily deploying and scaling rollups. However, up until now full equivalency with virtual machines such as EVM has been difficult to achieve. Additionally, activity across rollups will still face fragmented liquidity and difficulties in cross-chain messaging. This is where Sovereign comes in.

Sovereign is using RISC-Zero's open-source ZK-VM which will allow them to take any execution client and turn it into a ZK-rollup. Developers will be able to write their applications in Rust and the SDK will compile the code to a ZK virtual machine. In other words, developers won't need to have PhDs in cryptography to build a ZK-rollup.

This approach will dramatically improve the accessibility of building blockchain applications at scale. We're thrilled to support Sovereign and excited to see the impact they have on scaling the crypto ecosystem.

*<sub>The information herein was prepared by Plaintext Capital Management LLC (“Plaintext”) and is believed by Plaintext to be reliable and has been obtained from public sources believed to be reliable. Plaintext makes no representation as to the accuracy or completeness of such information. Opinions, estimates and projections in this presentation constitute the current judgment of Plaintext and are subject to change without notice. This is not an offering or the solicitation of an offer to purchase an interest in any fund managed by Plaintext (collectively, the “Fund”). Any such offer or solicitation will only be made to qualified investors by means of a confidential private placement memorandum and only in those jurisdictions where permitted by law. The identified investment does not represent or approximate all of the investments purchased, sold, or recommended for the Fund. It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the identified investment. An investment in the Fund is speculative and involves a high degree of risk. Opportunities for withdrawal, redemption, and transferability of interests are restricted, so investors may not have access to capital when it is needed. There is no secondary market for the interests, and none is expected to develop. The fees and expenses charged in connection with this investment may be higher than the fees and expenses of other investment alternatives and may offset profits. No assurance can be given that the investment objective will be achieved or that an investor will receive a return of all or part of his or her investment. Investment results may vary substantially over any given time period.</sub>*


Our Investment in Sovereign

We're excited to share our investment in [Nina Protocol](https://www.ninaprotocol.com/). We have been thinking a lot about how [web 3.0 can benefit musicians and fans](https://www.plaintextcapital.com/blog/benefits-of-web3-music/), and how it changes the [distribution and ownership models](https://www.plaintextcapital.com/blog/benefits-of-web3-music/) musicians can experiment with. To accomplish this revolution, an open and [permissionless foundation is crucial](https://www.plaintextcapital.com/blog/test/). An open protocol layer allows applications to build on top without guardrails or platform risk - this is an essential building block for revolutionizing music. Nina is that building block.

Nina provides musicians with the tools to publish, monetize, and distribute their music without middlemen.  Nina is a protocol, not a platform. By remaining neutral, Nina empowers artists to establish their own context around their music, something that has been sorely missing with streaming platforms. As a protocol, Nina also encourages third-party applications to build atop, whether that be a streaming service, content curator, or another service we've not yet discovered. Spinamp, and Future Tape are two streaming applications that already leverage Nina's open data to make music easy to listen to.

Nina empowers artists to:

*   **Publish** their music to Arweave, leveraging the permanent storage network that their art lives on.

*   **Monetize** their work using Solana to detail the release price, the number of copies, royalty splits, secondary market fees, distribution incentives, etc.

*   **Distribute** through their hosted marketplace or through third-party applications. Through the release of Hubs, Nina has built a social graph that tracks relationships between curators, collaborators, and releases.

Hubs are a unique and powerful tool for tracking relationships between releases, collaborators, and curators. Hub owners can set publishing and affiliate fees to receive a split anytime a release is published or purchased through the Hub. NFTs unbundle the music industry and Hubs incentivize third parties to curate and aggregate music for fans. In doing so, these emergent curation services can receive a direct share of artist revenue.

![](https://firebasestorage.googleapis.com/v0/b/firescript-577a2.appspot.com/o/imgs%2Fapp%2FPlaintextCapital%2FuvBL4oYrFA.png?alt=media&token=4067d45c-07f6-497e-9be3-d7c503c5be87)

Source: [Nina](https://mirror.xyz/ninaprotocol.eth/5NZv9NduBNNrUh195pvFDqToinZALbaWFXguXxrtR4k)

Imagine a music blogger reviewing a new album and earning a fee anytime a reader purchases the album through their site. Imagine a fan that creates a playlist of their favorite songs, receiving a cut anytime someone buys through their link. Or imagine a DAO music label that receives a cut of sales when an artist publishes through their Hub. Hubs are one of the most exciting developments in music.

A lot has been said about how NFTs can empower artists but they also improve the demand side, the fans. Nina's toolset improves the fan experience. Through streaming apps, music can be free to listen to and valuable to collect. Because the protocol layer is open, fans can interact with the music in a variety of ways. They can select their favorite streaming app based on the user experience and curation it provides, rather than the artist lock-in each app has. Fans can even build their own curation service leveraging Nina's data on the backend.

We've been impressed by the team's vision and their ability to focus on building a long-lasting product despite the immense short-term distractions and hype in the market. They take a music-first approach. As long-time musicians, they're building a product to solve problems they've faced first-hand.

Open systems enable a sort of creative anarchy where it's impossible to predict the resulting innovations. We saw this with the advent of the web and are seeing it again now with innovative projects like Nina Protocol. We're thrilled to be part of the journey and we're excited to see how Nina sparks creativity in the music community.

*<sub>The information herein was prepared by Plaintext Capital Management LLC (“Plaintext”) and is believed by Plaintext to be reliable and has been obtained from public sources believed to be reliable. Plaintext makes no representation as to the accuracy or completeness of such information. Opinions, estimates and projections in this presentation constitute the current judgment of Plaintext and are subject to change without notice. This is not an offering or the solicitation of an offer to purchase an interest in any fund managed by Plaintext (collectively, the “Fund”). Any such offer or solicitation will only be made to qualified investors by means of a confidential private placement memorandum and only in those jurisdictions where permitted by law. The identified investment does not represent or approximate all of the investments purchased, sold, or recommended for the Fund. It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the identified investment. An investment in the Fund is speculative and involves a high degree of risk. Opportunities for withdrawal, redemption, and transferability of interests are restricted, so investors may not have access to capital when it is needed. There is no secondary market for the interests, and none is expected to develop. The fees and expenses charged in connection with this investment may be higher than the fees and expenses of other investment alternatives and may offset profits. No assurance can be given that the investment objective will be achieved or that an investor will receive a return of all or part of his or her investment. Investment results may vary substantially over any given time period.</sub>*


Our Investment in Nina

I'll keep this brief and chart-focused because inboxes are bombarded with 2023 predictions, and we also plan to publish a longer form piece next week.

Crypto on-chain indicators point to a bottoming process. And on the macro front, inflation seems to have topped which may lead to a Fed pause and a subsequent market reversal. But while inflation might not be a worry, recessionary risk will be. In other words, can the Fed achieve its soft landing?

#### Crypto Indicators

There are only a handful of on-chain indicators that I believe are reliable. The MVRV Z-score is one of those indicators. It measures the ratio between the market capitalization of Bitcoin and the realized market capitalization, which is calculated by averaging the most recent cost basis of each respective coin. For example, if I bought a coin at $5000, that price would be added to the average realized price. In some ways, realized price gives a more intuitive read on price if all liquidity was readily available. The MVRV Z-Score has consistently served as a support zone as shown below.

![](/images/Screen%20Shot%202023-01-02%20at%205.59.24%20PM.png)

The Puell multiple is also intuitive. It measures the amount of supply in USD terms generated by Bitcoin mining each day, relative to the 365-day trailing average. This reading shows how much marginal demand must exist relative to the daily supply over the last year; at the top of the market, there needs to be a large increase in demand and at the bottom, far less demand is required to support price.

![](/images/Screen%20Shot%202023-01-02%20at%205.59.38%20PM.png)

#### Inflation Outlook

Milton Friedman said that “inflation is always and everywhere a monetary phenomenon” and it sure looks that way. The largest increase in M2 money supply in history was followed eighteen months later by the largest spike in CPI since the 1970s. And now with nearly negative YoY M2 growth, it appears CPI is poised to aggressively reverse.

![](/images/Screen%20Shot%202023-01-02%20at%205.59.51%20PM.png)

A drastic reversal in the CPI might lead to a more dovish Fed and give risk assets some room to breathe. The 2-year yield just crossed below the Fed Funds rate, indicating that the market believes there will be a pause in rate hikes.

![](/images/Screen%20Shot%202023-01-02%20at%206.00.06%20PM.png)

#### Recession Worries

A deflationary spiral is now a bigger concern than inflation. With the savings rate near all-time lows, global debt at all-time highs, and interest rates steeply higher, the question is whether Powell can succeed in his “soft landing” promise.

![](/images/Screen%20Shot%202023-01-02%20at%206.00.19%20PM.png)

As CPI quickly corrects and possibly goes negative over the next six months, there will be less appetite to tighten. The total outstanding credit card balances shown below illustrate a broad problem in the market: people and organizations are struggling to pay back their debts in a high-rate environment.

![](/images/Screen%20Shot%202023-01-02%20at%206.00.29%20PM.png)

#### Summary

Crypto is showing signs of bottoming and a fast-correcting CPI may be a tailwind for risk assets in the short term. But recessionary worries are likely to take over inflationary worries in the coming year, and we will need to navigate that. While the market is attractive from a value perspective, the coming year will likely require active management as the tides shift.


Inflation has Topped

We’ve [previously discussed](https://www.plaintextcapital.com/blog/benefits-of-web3-music/) the ways web 3.0 can benefit musicians. Given the flexibility with which musicians can encode their art, there's more crossover between ownership and distribution in digital music than there is in the music streaming paradigm. Musicians will want their fans to be stakeholders in their success; they'll be their biggest champions. Musicians will also want to optimize their distribution depending on their goals as an artist.

**Distribution models**

Crypto has enabled a new dimension to music distribution. Because musicians can distribute their music as bearer instruments (a collector can hold the digital copy in their wallet), collection size influences distribution. Collection size influences the behavior of the collectors and the price each sale can demand.

Distribute one - A musician might choose to sell only one original copy, optimizing for scarcity and novelty. Just like scarcity creates prestige around luxury brands, this approach might be ideal for some musicians. Scarce distribution has been popular so far in web 3.0 music because it has led to high price tags for releases. Scarcity is well suited for resale, where the artist may be able to continually earn a royalty for secondary market transactions. A scarce distribution model is a way to make fans stakeholders in the future success of the musician because early collectors might be able to sell the music later on at a higher price. 

Distribute many - Similar to tradition, a musician might choose to sell a large or unlimited number of copies, optimizing for reach, engagement, and relationships. The musician can build a robust social graph that they can continuously leverage for future music, concert tickets, merchandise, etc. The social graph is owned by them, not Spotify or Youtube or TikTok. This model is poorly suited for speculation because presumably there's less resale value for an abundant asset. Instead, super-fans are probably buying for some small additional perks, like high-fidelity audio files.

Distribute a few - A musician could also sell a small collection of original copies of their music, optimizing for a high-quality collector group. Bridging the gap between the above models, this distribution allows artists to have a more curated social graph and distribute their music as a collectible. This model similarly bundles distribution and investment.

**Ownership models**

The simplest ownership structure for musicians is to receive all the revenues from the sales of their music. This makes sense for hobbyists who don't want to worry about the complexity of an organizational structure. Record some great music in your basement, publish it that afternoon, and immediately earn money from your sales. If you have some collaborators, set up a simple royalty split for each song you record, and call it a day!

If a musician opts for limited distribution, the collectors will intrinsically have a stake in the future success of the artist. Limited distribution makes the music more of a collector's item with prospects for monetary appreciation so there is a greater feeling of investing in the musician. Musicians' fans are stakeholders of their success but distribution is likely to be very concentrated.

If a musician has higher aspirations, they might want to structure their digital footprint as a business. They might split revenue (shares) with collaborating musicians, a manager, advisors, early investors, and maybe even a board of directors. The musician would structure deals with each tier of their business. The structuring could get complex: the manager gets a piece of all sales, the collaborating musicians get a cut from certain songs, investors get a share of the revenues from the album they backed, etc. Below, [Corporation Plaza](https://corp-lounge.netlify.app/) illustrates a primitive version of this using Nina as the backend.

![](https://firebasestorage.googleapis.com/v0/b/firescript-577a2.appspot.com/o/imgs%2Fapp%2FPlaintextCapital%2FjfZU1Lguty.png?alt=media\&token=2fe67824-9117-4694-b868-fb43f1208d75)

**Summary**

The music industry is in experimentation mode when it comes to this new paradigm of music ownership and distribution. Hopefully, some of the above examples are helpful for musicians considering their preferred distribution methods. Additionally, it's worth playing around with and publishing music on [Nina](https://www.ninaprotocol.com/), [Sound](https://www.sound.xyz/), and [Catalog](https://beta.catalog.works/). Try out [Spinamp](https://www.spinamp.xyz/), [FutureTape](https://futuretape.xyz/), and [Ooh La La](https://www.oohlala.xyz/) to understand how most fans might interact with this new form of music publishing. If you’re a musician or builder that’s interested in learning more,  please reach out.


Music Distribution and Ownership in Web 3.0

Earlier this month FTX came to light as what *appears* to be one of the largest financial crimes in history. Hundreds of companies and funds will be forced to shut their doors. Hundreds of thousands of users have been severely damaged financially. Politicians and regulators will use the failure as an example. It will take time for the industry to regain the trust it had begun to accrue.

But, this was not a failure of crypto. This was a failure of us as a community to hold a centralized company accountable. For all the suffering that SBF, FTX, and Alameda cast onto the market, this incident serves as a reminder of the principles that make crypto powerful. It's our responsibility to build upon the core principles of crypto and hold companies and protocols accountable.

Four years ago I nearly left the industry after a grueling bear market led me to doubt the short-term future of crypto. The sentiment in late 2019 was similar to right now. It's hard to be optimistic but it's important to remember why we're here and why this industry isn't going anywhere.

##### Don't trust, verify

During easy times, we tend to let our guard down and become complacent. We offload responsibility to others because it's easier. But a core tenet from the early days of Bitcoin is, "don't trust, verify" because cryptography enables this verification. To minimize trust in FTX, and all exchanges for that matter, we need to demand that reserves match liabilities. FTX wouldn't have been able to secretly lend out customer reserves if we had a closer eye on the public addresses that were supposed to contain customer assets.

##### Not your keys, not your coins

Despite current challenges with user experience, decentralized finance provides users the ability to retain control over their assets. DeFi is the path forward to avoid trusting bad actors. Lend, borrow, and exchange using protocols whose code is open and verifiable. Keep control of your collateral and monitor the collateral status of all protocols you use. *Decentralized finance feels scary but is safe. Centralized finance feels safe but is scary*. Regulation can't prevent fraud but verifiable code can. We're closer to widespread adoption than most realize. Consider how amazing it is that Uniswap, an exchange with no operators, has facilitated over $1 trillion of value in its first few years of existence.

##### Separation of money and state

Bitcoin was invented in the wake of the global financial crisis as a way to bring control of money into the hands of the people. The separation of money and state will be looked back upon with similar importance as the separation of church and state (h/t Erik Voorhees). Bitcoin's raison d'etre is even stronger today with $300 trillion of global debt than it was in 2008.

##### Permissionless

The web gave everyone in the world, no matter the age, socioeconomic status, or geography, the ability to access information; no need to ask for permission. Crypto gives everyone in the world the ability to access and coordinate capital.  Combining equal access to information with equal access to capital markets will lead to the next boom in innovation. Crypto is a neutral technology that enables a global meritocracy.

##### Open protocols

Crypto protocols are open by default, removing platform risk and enabling modular innovation. DeFi is a prime example where countless applications are built leveraging Uniswap or AAVE. This further extends to social media - crypto networks can allow users to own their social graphs rather than relying on the likes of Facebook and Twitter.

As the price has plummeted, we need to find pride in crypto's core principles and the future they enable. Crypto is not going away. Traders have lost hope. Tourists have moved on to new grifts. Skeptics have proclaimed the death of the industry. Weak Bitcoin miners have gone bankrupt while strong miners have grown stronger. Everyone that could be broken, has been. There is nobody left to sell and no margin left to liquidate. The risk/reward has not been this attractive in four years. Right now it pays to be an optimist among pessimists.


Focusing on Principles

In the last market commentary, we discussed the overall bearish market positioning. This proved to be true in October evidenced by the spike in short liquidations as the crypto market broke out to the upside. We still see evidence of defensive positioning in the short term, which could be the fuel needed for a continued rally.

![](/images/13.2-da6de7e9.png)

The Nasdaq struggled throughout October as Facebook and Amazon led the way with missed earnings reports. Despite the rocky performance in technology stocks, the Dow Jones recorded its largest month (13.95%) since 1976 and crypto ended the month strong after a choppy start.

![](/images/13.1.png)

##### Trouble for Bitcoin Miners

Bitcoin miners are really struggling with profitability. Hashrate is at an all-time high, while Bitcoin's price is at a two-year low meaning the competition is stronger than ever without commensurate rewards. As a result, some miners like Core Scientific and Argo Blockchain are running into cash flow issues. Miner profitability becomes a concern in each bear market and while short-term painful, the miner ecosystem becomes stronger for it.

![](/images/13.3.png)

*Source: insights.braiins.com/en*

##### NFTs are the Trojan Horse

One of the more fascinating stories of the past few months has been the adoption of Reddit NFTs by 3 million users. Reddit was seemingly able to capture a new cohort of users who had previously been against crypto and NFTs. They did this by addressing the benefits of the Reddit “Digital Collectibles” rather than focusing on the idea of NFTs which sometimes brings a negative connotation.

![](/images/13.4.png)

*Source: Reddit*

Reddit focused on making digital collectibles fun. In doing so, they were able to completely change users’ perspective.

![](/images/13.5.png)

*Source: Reddit*

It’s easy to think of each new iteration of NFTs as just a silly game, but that’s why they’re so powerful. People love collecting, trading, and being part of communities; NFTs enable those things. The number of people that will be interested in digital collectibles far outnumbers those that will be interested in decentralized financial products. Digital collectibles will drive the digital economy, while DeFi will support it in the background. This wealth and interest catalyzed by NFTs flow downstream to other applications and protocols; we can clearly see the effect Reddit had on Polygon in mid-October.

![](/images/13.6.png)

*Source: Gokustats*

To further drive the point, consider the enormous revenue Nike generated last year through NFT sales and royalties. Considering that this revenue was likely produced at extremely high margins, expect Nike and other brands to continue their exploration of digital collectibles.

![](/images/13.7.png)

##### CPI is Rolling Over

Shifting gears to macro, we continue to see signs that CPI has likely topped for the time being. Rent has been one of the stickiest measures and now has negative growth month over month. The .7% dip in the Rent Index in October is the largest on record. As we shared last month, CPI tops tend to correspond with local bottoms in the equity markets.

![](/images/13.8.png)

##### Searching for Value

Another bullish perspective given the carnage of this past year is the correction in P/E ratios. The graph below demonstrates the relationship between a low P/E and the subsequent 10-year annualized returns for the Russel 2000. Although it might not feel like it, the market is in a more attractive place than it was a year ago.

![](/images/13.9.png)

##### No Pain, No Pivot

We’ve been closely watching credit spreads as an indicator of the market “breaking” which would likely trigger some amount of monetary or fiscal intervention. We think it will continue to be important to monitor spreads even if we experience some relief in the short term. Despite the consistent drawdown in equities, rising yields, and US dollar strength, credit spreads are not yet signaling significant financial deterioration. We probably won’t see an aggressive pivot until there’s a clearer sign of things breaking.

![](/images/13.10.png)

Cheers,

Plaintext Capital


October Relief

We previously [published](https://www.plaintextcapital.com/blog/test/) thoughts on what Web 3.0 music is all about. Below we go into more detail on the benefits of this new paradigm. Artists have more control over data, relationships with fans, financial contracts, and IP. 

**Transparent Data** - When an artist publishes and distributes their music, by default the data is open and available. The artist can see what addresses have purchased, how frequently the music is streamed, how quickly their music is sold on the secondary market, etc. Music applications can easily build on top of these open APIs, widely sharing musicians' work without extra work for the musician; this isn't possible in the closed music system. On the surface, you might think sharing music for free diminishes the value of a musician's work. But instead, it increases their reach, recognition, and sales. As music is discovered across applications, it grows a musician's fan base and increases the chances that a fan purchases their music.

Below is an example of two music streaming applications, Spinamp and Future Tape, which pull from the same underlying data sources.

![](/images/Screen%20Shot%202022-10-06%20at%202.12.19%20PM.png)

Source: Spinamp (Left), Future Tape (Right)

**Elevated role of the curator** - Applications don't compete on what music they have because all of the music is published on an open blockchain (API). Instead, applications compete on curation; which algorithms can surface the best music for each fan? The role of an independent curator, such as a music blogger, is also heightened. By gaining a following and promoting music, curators can earn a distribution fee through an embedded referral link or simply elevate the value of the artists they collect.

**Artist-fan connection** - With transparent data, artists can have a closer relationship with fans. That can mean a variety of things from gifting new releases to airdropping concert tickets to the most loyal fans. By purchasing music on-chain, fans recreate the experience of buying a physical record. By owning the music, a fan can get access to data or experiences that are otherwise unavailable to non-owners. Streaming services offer compressed music quality and limited data ownership. iTunes and the like offer higher-quality music files but charge an exorbitant 30% fee on sales. There's a lot of room for experimentation. Fans have better data rights, a stronger connection with the artist, and a financial contract that allows for a collector experience not possible with Spotify or Apple Music.

**Financial contract** - Artists can customize their financial contract. For example, listening to a music NFT could be free but buying it could grant access to a high-fidelity file. Drake has 65 million monthly listeners on Spotify. Maybe only a fraction of those fans choose to buy his music NFT but even at 5% penetration, that could be $3 million if pricing songs at just $1. Or maybe he prices at $20 and only .25% of fans care to buy a song. Whatever direction, the artist owns the monetization strategy.

> Blockchain provides an opportunity for clear agreements that can serve everyone involved. Ownership of recordings and compositions can be clarified, streaming plays accounted for, royalties distributed, tickets issued, memberships governed, and collective workflows enhanced. We’re witnessing the evolution of agreements, which can strengthen trust, efficiency, and creativity. - [*Christopher Willits*](https://www.fwb.help/editorial/future-music-industry-nadya-tolokonnikova-kilo-kish-haleek-maul)

**IP** - The artist can retain their IP and prove origination on-chain. The market does a good job of self-regulating by shaming bad actors in crypto. And due to its transparency, the blockchain record acts as evidence if an artist needs to dispute copyright in meat-space.

**Summary**

Web 3.0 opens new ways for musicians to experiment and capture value because it drastically reduces the cost and time required to publish and monetize music. If you are a musician or looking to innovate in the music space, please reach out.


Benefits of Web 3.0 Music

### "It's all one trade."

For the last year, plummeting prices have been the result of a strengthening dollar and tightening liquidity. Almost everything, in dollar terms, has struggled.

Year-over-year, major currencies of the world are down over double digits against USD such as the Euro (-16%), the Pound (-18%), and the Yen (-23%). As shown below, you would have been better off owning the S\&P 500 than the British Pound or Yen.

![](/images/dxy2.png)

Source: Tradingview

US dollar strength is a mark of economic stress. As liquidity tightens, people and institutions sell their assets for dollars. The year-over-year change in the dollar index (DXY) is near historical highs.

![](https://preview--plaintextcapital-2c6e7.stackbit.dev/\_static/app-assets/images/dxyoy.png)

The US 10-YR yield briefly touched 4%, the highest level since 2008. Yields have respected a 40-year downward trend, in part because inflation expectations have remained low and in part because the growing debt becomes heavier under rising rates; in other words, the economy starts to break.

![](/images/10yryield.png)

Source: Tradingview

The VIX (top) and MOVE (bottom) indices which measure the volatility of the S\&P500 and US Bond Option market, respectively, show slightly different stories. The bond market has been erratic as noted with the rapidly rising yields and that is evident in the spike in bond volatility below. But the volatility in the equity market has been relatively muted despite the -24% YTD performance in the S\&P 500.

![](/images/Screen%20Shot%202022-09-30%20at%203.52.35%20PM.png)

Source: Tradingview

This is all to say that we may be nearing an inflection point in the market, but the market has not broken yet. It’s clear that central banks are on high alert to mitigate the possibility of cascading defaults. The Bank of England announced bond purchases on “whatever scale is necessary” and the Bank of Japan stepped in to purchase Yen to slow the depreciation relative to the US dollar.

Timing is tricky and we could see a short-term reversal after sweeping the lows in the SPX. There are possible tailwinds approaching if CPI continues to fall. The sensitivity analysis below shows possible outcomes based on average MoM changes in CPI. With the assumption that the Fed Funds rate will eclipse the CPI before a pivot, we’re looking at potentially February 2023. If this were to come true, the market would likely price in the expectation much earlier.

![](/images/Screen%20Shot%202022-10-03%20at%209.59.12%20AM.png)

Source: Bespoke Investment Group

Switching gears to crypto-specific events, the Ethereum Merge took place on September 15, at 6:42am (UTC). It was an incredibly impressive engineering upgrade. The engineers managed to transition a $200 billion network securing another $150 billion or so of value, across millions of users and thousands of validators without any issues. The chart below demonstrates the reduced issuance of ETH as a result of switching to Proof of Stake. When on-chain activity increases we’ll likely see ETH become deflationary.

![](/images/mergeissuance-49c3e3d7.png)

Source:  ultrasound.money

Bitcoin gained interest this week as the dollar was surging against the Euro and British Pound. It will be important to watch if a narrative can form around Bitcoin serving as an exit point from depreciating currencies.

![](/images/btcgbp-5c15e62b.png)

In a similar vein, Stanley Druckenmiller commented on Bitcoin in light of central bank actions globally.

> “I could see crypto currency having a big role in a Renaissance because people just aren’t going to trust the central banks.”

It’s a reassuring comment from one of the best investors ever, at a time when a lot of people may be questioning the future of crypto. At the first sight of a Fed pivot, it wouldn't be surprising to see Bitcoin and crypto be the primary benefactors.

### Summary

I feel like a broken record talking about macro factors but unfortunately, they are the driving force in the market right now. Above all, you don't want to be a forced seller. Rather, you likely want to be a buyer when volatility spikes because that will be a sign of a breaking point. The closer we are to a breaking point, the closer we are to a Fed pivot and a reversal in dollar strength. When that happens, crypto should benefit tremendously as the most liquid 24/7 risk market.


Breaking Point

Risk assets retraced ahead of and after the FOMC meeting where Powell stated the following:

*"While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses... Restoring price stability will likely require maintaining a restrictive policy stance for some time. The historical record cautions strongly against prematurely loosening policy."*

Powell proceeded to mention his mentor, Paul Volcker, who was responsible for beating inflation in the early 1980s while also inducing a 10.8% unemployment rate. Powell's comments at FOMC were his clearest yet that the Fed will not prematurely pivot. "Don't fight the Fed". The Fed must maintain credibility and my view has strengthened that they are unlikely to change their stance until major cracks start to form.

A way to visualize these major cracks could be through the VIX or high-yield credit spreads, shown below. A spike in these would indicate the beginning of solvency issues and would likely trigger a concern from the Fed.

##### VIX vs High Yield Spreads

![](/images/vol.png)

Source: Tradingview

To this end, it's been a strange summer because crypto experienced an isolated capitulation in June while other risk markets remained relatively strong. As equities staged a major recovery in July, Bitcoin struggled to follow suit. So, the lingering question was, if Bitcoin was sideways during risk-on, how will it trade risk-off? Macro is a dark cloud that is hanging over the crypto market right now.

SPX vs Bitcoin

![](/images/relative%20val.png)

Source: Tradingview

### Don't Fight the Fed, Don't Fight the Trend

This brings us to the importance of not fighting the trend. The below table illustrates this. RSI is typically used as a mean reversion signal meaning that extremely high values should predict a decrease in price towards the mean and extremely low values should predict an increase in price toward the mean. With Bitcoin, this has not been the case. In fact, it has shown the opposite effect, which is why we typically caution against fighting the trend.

![](/images/rsistud.png)

Source: Tradingview

 

### ETH Merge and Positioning

RSI doesn't demonstrate any predictive power for Bitcoin short-term mean reversion, but funding rates do. Over the last week, ETH had its most negative funding regime of the past year. This is partially due to ETH spot holders hedging their long exposure entering the Merge which is projected to occur on September 13th. When the merge happens, holders of ETH will also receive any forks such as ETHPoW which is currently trading at about 3% of ETH's value. But the current yield is -10%, which may indicate the negative funding is not only hedging but a bearish directional bias in ETH perpetual futures market.

![](/images/eth%20funding-d1887dbf.png)

The merge trade is clearly a focal point in the market, observable in the surge of open interest.

![](/images/ethoi.png)

A significant amount of open interest is positioned for a $3000 strike, a 100% increase in price from current levels.

![](/images/ethexp.png)

### Idiosyncratic Crypto Themes

The Arbitrum Nitro upgrade brought increased addresses, daily transactions, and TVL to the chain and its applications.

Arbitrum Active Addresses and Daily Transactions

![](/images/arbitrum.png)

Source: Gokustats

GMX was one of the primary benefactors. Its TVL, denominated in ETH, reached new highs.

GMX TVL (ETH)

![](/images/gmxtvl.png)

Source: DefiLlama

The 7-day average of fees for GMX surpassed Uniswap, Synthetix, and Bitcoin.

![](/images/gmxfees.png)

Source: cryptofees.info

And open interest for GMX maintained a multi-month uptrend.

![](/images/gmxoi.png)

Source: stats.gmx.io

Atom has struggled with value accrual but is making strides to change that. Cosmos Hub validators will soon be able to stake their ATOM for yield and multiple projects are launching stablecoins that will use ATOM as collateral. As a result, more ATOM is bonded, and ATOM has been one of the best performers in the market.

![](/images/bondedratio.png)

Source: Cosmoscan.net

Some NFTs had an isolated bull market over the last month. DigiGaigaku was the prime example. They launched with a free mint and ended the month with a floor price of over 10 ETH.

![](/images/digidaku.png)

Source: Flip.xyz

### Summary

Macro continues to be a cloud over the crypto market. We expect a high volatility macro event to signal that the coast is clear for crypto. However, a significant amount of leverage has been cleared from the crypto market allowing specific themes such as The Merge, Arbitrum Nitro, ATOM value accrual, and NFTs to outperform.

 

Cheers,

Plaintext
Capital

 

 

 


Cloudy Skies

### Investing in what works vs predicting what’s next

Despite the schadenfreude towards crypto of late, this is the first crypto bear market where we can invest in what's working instead of focusing on what's next. There's a tendency to look for the next great thing, which is a valuable mindset, but we have product market fit across multiple sectors and we can track growth metrics as they change.

### DeFi

A clear example of this is DeFi which has strong product market fit and importantly, attractive supply schedules relative to the rest of the market.

Lending protocols have issued tens of billions of dollars of loans. DEXs have facilitated trillions of dollars of exchange. And this has all happened within a two-year timeframe. Most of these projects are now trading 90% down.

![](/images/Screen%20Shot%202022-08-01%20at%202.58.21%20PM-b7d9e183.png)

###### Source: Dune Analytics

### Proven but battered Layer 1 Protocols

Layer 1 protocols are great index plays that can represent the applications built atop and they are the entry point for many new investors.

Ethereum and Solana are the leaders of distinct ecosystems. Ethereum seems like a boring bet but it's one of the best performers of July and one of the best investments of the last 5 years. Solana has been ridiculed for being too centralized, for having outages and for being owned by VCs – the criticisms are similar to those received by Etheruem in 2018. Solana has a distinct and growing ecosystem, the team does a great job with business development, and the data shows that activity has increased in many aspects despite the bear market. The Saga phone is an interesting avenue to test mobile applications and further bolster interest.

Looking at token transfers and active accounts below, both metrics have been resilient throughout the last six months.

![](/images/Screen%20Shot%202022-08-01%20at%202.59.01%20PM-d67f0030.png)

###### Source: Solscan

NFT launches are increasing dramatically on Solana.

![](/images/Screen%20Shot%202022-08-01%20at%202.59.09%20PM-7618bae7.png)

###### Source: Messari, Solscan

### Web3 Infrastructure

Infrastructure is an interesting corner of the market because so many back-end networks we use today can be made more resilient with incentive-driven, crypto networks. Data storage, which is usually done through a centralized aggregation of machines, can be made more efficient and secure by coordinating storage in a distributed network. Solutions like Arweave have had great success throughout the bear market, partially because the success of the protocol isn't solely dependent on the wealth of the ecosystem, much like DeFi is. Since the beginning of the year, storage on Arweave has doubled.

![](/images/Screen%20Shot%202022-08-01%20at%203.41.43%20PM.png)

###### Source: ViewBlock

Another interesting example is the decentralized wireless movement with projects like Helium which have been able to rapidly grow the supply side of their network due to token incentives. Helium went from 14k hotspots to over 900,000 in under two years, the fastest rollout of a wireless network ever. It remains to be seen if Helium can grow the demand side.

### Keep a long-term outlook

It's easy to get caught in the short-term and ignore the long-term trend. Crypto is part of a generational wealth transfer that is just beginning.

The digital economy is a growing force and crypto is the expression of that idea but remains only a small fraction of most investment portfolios. Not many people would argue with the idea that the digital economy is growing, but not everyone realizes yet that crypto is the way to express that view.

![](/images/Screen%20Shot%202022-08-01%20at%203.07.04%20PM.png)

###### Source: BCG Consulting

Crypto has exhibited massive adoption in a short period of time. Bitcoin is joining the geopolitical conversation as an unstoppable money. DeFi has facilitated trillions of dollars of financial contracts. NFTs, in their first real year of adoption, permeated all corners of society.

### Macro Cracks

And finally, a word on the inescapable macro environment. The recent press conference had a more dovish tone as cracks in the economy have started to form and we have now had two consecutive quarters of GDP decline (recession).

The US dollar is driving markets right now. We are in a denominator-driven market. The denominator (US dollar), has become too strong amid a hawkish Fed. As the dollar becomes too strong, it becomes harder for USD-denominated debt to be serviced resulting in a deflationary spiral. A year ago, the market didn’t believe the Fed could or would tighten. Now the market believes the Fed is willing to crash the economy to fight inflation. That may be true, but the chart below also illustrates how difficult it will be for the Fed to continue this crash course.

![](/images/Screen%20Shot%202022-08-01%20at%203.07.53%20PM.png)

###### Source: St. Louis Fed

Cheers,

Phil Bonello


Cautious Optimism

Despite poor price action over the last 8 months, the setup is not ripe for a V reversal. Recency bias has many betting on a March 2020 outcome, when $4 trillion was pumped into the market with rates at 0. The reality is that if we want a V reversal, it will have to happen at far lower prices because that may create a market distortion and trigger a Fed pivot. In 2018-2019, Bitcoin was accumulated in a low range for around 130 days. Absent an aggressive Fed pivot and a subsequent reversal of risk appetite, it's prudent to let a bottom form.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F8222e9fe-7672-4baa-8810-86e69a17fa15\_1430x702.png)

###### Source: TradingView

It’s also important to see Bitcoin dominance increase as an indication that froth has been cleared from the market. The opposite has happened in the last three weeks, indicative of a short squeeze rather than a long-term trend change.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F7a814028-26cf-4fb6-80cc-644f36fbbd9b\_830x420.png)

###### Source: TradingView

That said, many signals are in rare territory both in crypto and in the traditional markets. Lower prices present greater opportunity.

#### **Bitcoin**

June was the worst month on record for Bitcoin. There are likely to be lingering effects from such a deleveraging in the coming weeks.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F7d7c7e6b-9fb7-47f3-bf6c-f925799fb135\_936x368.png)

###### Source: Coinglass

Bitcoin’s weekly RSI has never been lower, which is saying something given the exceptional volatility over the years. These prices may be attractive to anyone with a multi-year perspective.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fcf12b70f-2b98-44fe-a71e-d91d731bd325\_1356x660.png)

###### Source: TradingView

The chart below estimates the cost of production for a Bitcoin. When Bitcoin breaches the cost-of-production range, it has historically been a good long-term buying opportunity.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fc3d427b1-d100-42b2-907f-115b086dc57b\_936x456.png)

###### Source: TradingView, @caprioleio

Miners are indeed in trouble as supported by the chart below indicating that they have now begun to sell their Bitcoin to cover mining costs.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fb88543f2-be94-4777-9c98-bb5c97fe0fab\_936x502.jpeg)

###### Source: Arcane Research

As miners scramble to cover costs, they shut off their machines as mining is no longer profitable. A sharp decline in hash rate has historically been a marker of bottoms as the operations are taken over by stronger entities. Note the hash rate decline has been tame so far.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fe793d8d2-f345-418b-a72e-b9d3791349b7\_936x432.png)

###### Source: Glassnode

Over the last month large, over-leveraged entities have been wiped out. This can be observed in the 30% decline in Bitcoin open interest. This is once again a sign of wealth transfer from weak hands and over-leveraged entities to well-capitalized, strong hands.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fee7b8665-ee33-47d4-9f88-f813808a0642\_906x500.png)

###### Source: Laevitas

#### **Macro**

Bank of America’s Net Tab indicator reached its most sold-off point. The indicator is an aggregate of “NYSE Stocks > 200-day MA, 5-week A/D Diffusion and 30-day Arms Index) and sentiment (Investors Intelligence % Bears, BofA Short-term Sentiment, and 25-day CBOE Put/Call ratio)”.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F9067acf8-22ad-4102-9f82-89b31fc657d3\_858x564.png)

###### Source: MacroOps, Bank of America

The below table compares forward returns when the indicator reaches the current oversold levels relative to all-period forward performance for the S\&P 500. Given the poor sentiment of late, it’s interesting to note 1) how positive general forward performance is on average and 2) how much **more positive** forward performance is when the reading is this oversold.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2Fe2d6f010-6538-4b41-8517-477e9b24b5ae\_850x652.png)

###### Source: MacroOps, Bank of America

Markets are forward-looking, and as poor economic data becomes known, the less likely it is to negatively affect markets (priced in). The below chart illustrates this point well. Markets are currently pricing in earnings revisions although earnings have barely shown any decline. As indicators of a recession become clearer, it may also be an indication that we’re nearing a turning point in public markets.  

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F834e884b-5b68-4a81-b62d-ffed0493c776\_936x806.png)

###### Source: RENMAC

According to Bank of America’s Fund Manager Survey, cash balances are at historically high levels. As soon as investors are given a reason to buy, we may see a rush back to risk.

![](https://substackcdn.com/image/fetch/w\_1456,c_limit,f_auto,q_auto:good,fl_progressive:steep/https%3A%2F%2Fbucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com%2Fpublic%2Fimages%2F31f307c3-5c09-4661-be7b-9812c67c5061\_854x536.png)

###### Source: Bank of America

### **Conclusion**

Leverage in crypto has thoroughly been wiped from the ecosystem, leaving in its wake Celsius, 3AC, Luna, and many others. Bitcoin miners are capitulating after the price has gone under their cost of production, often a healthy bottom signal. If earnings revisions are already priced in, the historically high levels of sidelined cash may look for the opportunity to rejoin the market. Yet there’s little reason to assume a long-term trend reversal until the Fed changes tune or we see CPI drop aggressively. If the equity market continues down, expect crypto to follow. Selling in the equity market has been controlled — watch for the VIX to blow out as a sign of panic and a potential local bottom. The next two months may be critical.

Cheers,

Phil Bonello


Chart Dump


Visual NFTs proved the demand for digital ownership, but music is a far larger market as the most widely consumed art. Over 500 million users subscribe to music services and virtually everyone listens to music in some form. The Game Boy popularized the use of handheld technology with the sale of 120 million units and was later succeeded by the Blackberry and iPhone. Similarly, music, art, and gaming will drive the adoption of crypto.

Artists have been disenfranchised by streaming — it's estimated that Spotify pays $0.003 per stream meaning that an artist whose music is streamed a million times will receive only $3,000. Streaming is the touch point for the artist-fan relationship but is a price-controlled and inefficient market. Allowing artists to price their music similar to how they already price limited-edition merchandise and concert tickets could dramatically improve the sustainability of creators

The music industry is ripe for disruption.

#### Why NFTs can Help

NFTs are digital signatures. These digital signatures are secured by an underlying public blockchain like Ethereum or Solana, guaranteeing that ownership cannot be taken away and importantly, providing an **open foundation** from which to build. Nobody has to ask for permission.

As a result of this open model, artists can own the creative process, the fan relationship, and the economic model. On the other hand, fans can openly collect, trade, and even build curation businesses for music NFTs and earn a cut of sales, without altering the artist’s earnings. It's a drastically different approach to what has traditionally been an industry with multiple layers of middlemen that extract value from those who create and amplify the reach of music.

There are some attempts to bridge traditional record label models into web 3.0 but it's a difficult task with limited upside — it’s notoriously challenging to connect real-world assets with an immutable public blockchain. What's important and interesting about crypto is the optionality provided at the lowest levels of the tech stack.

Importantly, an open foundation allows artists, curators, and fans to create their own context and platforms around the work that is created, shared, or enjoyed.

#### Enabling this experience

Let's look at the industry through the lens of publishing, monetization, and distribution. These components need to be open source and decentralized so that applications can build on top without permission.

- **Publishing**: creating the "record" of the music — storing the metadata, mp3 file, or maybe high fidelity files for owners of the music NFT. Ideally, this record can be accessed in a way that maintains decentralization and allows third parties to easily interact. In short, this is the foundation for consumption and distribution. In the past, this might have meant publishing sheet music, a vinyl record, a CD, or setting up distribution agreements. Now it's a collection of autonomous applications.

- **Monetization**: creating a digital contract that details the economic rights of all stakeholders. Instead of multiple levels of middlemen and paperwork, the artist can detail how royalties will be split, how many copies will be released, splits on secondary sales, and even the cut distributors receive when purchases occur through their sites. On-chain rights management allows for the resurgence of remixes and mixtapes, as stakeholders of original work can automatically earn on derivatives of their work. The current fragmented model for rights management means there is a mountain of music that is constantly pulled from Spotify, Youtube, and other popular providers, representing a significant amount of economic value missed by artists.

- **Distribution**: getting the music into the fans' ears. Mass consumption of music may still resemble current streaming models because frankly, it's a great user experience that requires little commitment from fans. But the open foundation of NFTs will allow fans to have a deeper relationship with the music and the artist. An artist can gift fans who hold an NFT a release to their new single or tickets to their next concert. Or maybe owning the music NFT gives the fan access to a distinct music file. New models and behaviors will emerge as a result of this open foundation.

#### Possible Implications

Bloggers become distributors.

DAOs crowdfund for artists’ work and replace the capital risk record labels take.

Streaming services sit at the top of the funnel for purchases.

The subscription model dies.

[Bands can be global and headless](https://songcamp.mirror.xyz/nCoVnDm013tqgWUXZTEZ48YQMcVo_x2F9fp8BTxi6gg).

Thousands or millions of micro curation services emerge, pioneered by devoted teenagers.

The form of music and the cadence at which artists release, changes as traditional single/EP/Album models are no longer required.

Traditional copyright is replaced by smart contract logic.

Live music becomes more popular as fan engagement increases.

#### Conclusion

This new model will spark artist creativity and fan loyalty. It's impossible to predict all the ways artists and fans will experiment. Visual art proved the NFT model, and given its reach, music is likely to be far more popular and impactful. Importantly, the foundation for this paradigm needs to be permissionless and decentralized to eliminate platform risk and allow for spontaneous experimentation. We're extremely excited to see this space take off.

Try it for yourself. Buy releases on [Nina](https://www.ninaprotocol.com/), [Sound](https://www.sound.xyz/), or [Catalog](https://beta.catalog.works/). Or browse these releases through an aggregation tool like [FutureTape](https://futuretape.xyz/).

Cheers,

Phil Bonello

_Thanks to Mike Pollard, John Pollard, Francisco Oliva-Velez Cancel, and Andres Garcia for their help and feedback._


A Permissionless Foundation for Music

Music NFTs

What Next?

#### **Correlation**

I look forward to the day when we can pay less attention to traditional markets, but that day is not today. Crypto is currently highly correlated with the equity market, which posted a strong performance in March but has since reversed aggressively. Below shows Bitcoin's price since 2021 and its 30-day correlation with the Nasdaq. They are tied at the hip. It's an important relationship to follow so that we understand the context around what we're trading. Attempting to extrapolate an intraday jump in Bitcoin's price is silly when we know that we're just trading a version of the equity market.

![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images\_09764ad4-6c30-4d2d-b75b-23e835fe55ef\_1585x930.webp)

Source: Tradingview

But this relationship won't last forever and when it breaks, it could bode very well for crypto. For years, skeptics have avoided crypto due to its volatility. But YTD Bitcoin and Ethereum have traded on par with major equity and bond indices and have vastly outperformed popular names such as Netflix, Snapchat, and Facebook. As macro worries subside, where will this capital flow? I think we're likely to see Bitcoin and Ethereum lead a rally as growth capital looks for a new home in assets with positive outlooks.

![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images\_2d862b01-e676-48ff-8d04-c6876bdd9c8b\_1585x931-263135c5.webp)

###### Source: Tradingview

#### **The Fed**

In our February Market Commentary, we discussed the confidence game the Fed plays. The Fed has sufficiently distorted things so that bad economic outlooks are good for public markets and vice versa. Consider the deflationary period after March 2020 when the economy was in shambles, but the public market was skyrocketing. The Fed drives public markets, and economic factors drive the Fed. When economic factors scream danger, the market expects an accommodating Fed.

Aren’t we entering a recession and isn't GDP contracting? Maybe. And in a perverse way, this is good for risk assets. As GDP contracts and employee demand decreases, CPI will come back in line allowing the Fed to take a more dovish stance. Markets are forward-looking and already expecting 12 hikes by year-end. This leaves little room for a hawkish surprise from the Fed.

![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images_b07e60fd-f2c3-4e2f-9fae-6e8b5596940c\_1595x268.webp)

###### Source: Bianco Research

#### **Crypto**

This brings us to managing a crypto portfolio. It’s helpful to frame things in buckets of momentum and value. Momentum should be respected and right now momentum is down. Value is more forward-looking, and it’s beginning to look attractive.

Bitcoin is an indication of general crypto sentiment and flows. Below shows that 64% of the Bitcoin supply has not moved in a year (green line). This indicates that market participants have been unphased by the market volatility and continue to accumulate Bitcoin. This isn't a short-term indicator but one that should dictate overall bias in the next 6-12 months.

![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images\_14317cd5-5289-438c-b755-81a1fdefdf64\_1581x793.webp)

###### Source: Glassnode

During a bull market, almost all protocol metrics look good. During a bear market, we see who's swimming naked. NFTs have remained popular throughout the market downturn. Specific collections have fallen into deep bear markets but aggregate volume for NFTs has been elevated, nonetheless. OpenSea, LooksRare, MagicEden, and NFTX benefit from this persistent volume and may be good outlets for investing in the growth of NFTs without buying a specific collection.

###### ![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images\_3ee08624-ce86-4bd3-99b7-c99926b624d3\_1601x577.webp)Source: Dune

Another sector that has exhibited continued growth is undercollateralized lending, led mostly by the growth of Maple finance. As a point of comparison, [Genesis Trading](https://info.genesistrading.com/hubfs/quarterly-reports/2022/Genesis-Q1-Report-2022.pdf) has a $15B loan portfolio and originated $44 billion of loans in Q1 2022.  This trend is just beginning.

![](/images/https\_\__bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com_public_images_f35aba5d-2848-4a18-99c2-a9ed946e389f\_647x374.webp)

###### Source: Dune

#### **Summary**

Crypto is currently driven by overall risk sentiment. We’re in the later innings of this paradigm as cracks begin to appear in the economy leading to what could be a more dovish Fed outlook. Look for projects where growth statistics charge forward despite a slowdown in activity across the market. These have the potential to outperform amid downward momentum.

Cheers,

Plaintext Capital


Tied at the Hip

March was littered with doomsday headlines while also making the case for crypto crystal clear. The geopolitical climate is increasingly unstable but crypto can act as a stabilizing technology. And from an investment perspective, the trade is extremely positively skewed.

Nation-states are adopting Bitcoin, DeFi is battle-tested and ready to accommodate institutions, NFTs are onboarding millions of consumers, and banks are scrambling to enter the mix. The next few years will trigger mainstream frenzy — we'll reach peak financialization and in doing so attract the builders that will lead the next decade of innovation. It's a chaotic and exciting prospect.



#### **The Bitcoin Trade**

**Sentiment**: Bitcoin is too volatile and risky to be a global currency. In an environment of rate hikes and tapering, it will underperform.

**Reality**: Growth has repeatedly outperformed in the last decade even amid aggressive rate hikes. Bitcoin is demonstrating product-market fit and is being aggressively accumulated by long-term holders.

An apolitical, global, censorship-resistant store of value is increasingly palatable considering the Ruble lost 50% of its value in three weeks while Russia was effectively cut off from the global financial system. This is only weeks after financial surveillance and sanctions were imposed in Canada to combat the trucker protests.

Bitcoin and Ether are ways to protect one's financial freedoms and prevent seizure. If you are a nation-state, there's a strong argument for holding crypto "just in case." Just in case you are on the wrong end of sanctions. Just in case your reserves are seized. And just in case these assets continue to appreciate as they have over the past decade.

Meanwhile, long-dated Bitcoin upside has rarely been cheaper.

![](/images/1.webp)

###### Source: Laevitas



#### **DeFi**

**Sentiment**: DeFi is uninteresting relative to NFTs and has vastly underperformed L1s over the past year.

**Reality**: DeFi is the substrate of the crypto economy and assets that were once considered blue chips are now trading at 80% discounts. These projects have P/S ratios similar to mature businesses despite being early in their life cycles. The average P/S ratio for software businesses is over 16. Many of the most-used exchanges and lending protocols have a P/S under 10 with less than two years of track record.

Finance is an estimated 20-25% of global GDP. DeFi, the most mature sector in crypto represents about 1-2% of the aggregate $1.8 trillion crypto market capitalization. This gap is ripe to close.

Volumes across centralized exchanges in crypto are about 20% of their peak of May 2021 and decentralized exchanges continue to gain market share relative to their centralized counterparts. As volume floods back into the crypto market, expect the decentralized finance economy to boom.

![](/images/2.webp)

###### Source: The Block

Meanwhile, stablecoin interest has skyrocketed. These stablecoins are often lent to generate yield or used to facilitate liquidity in DeFi. But when momentum is favorable, this dry powder might chase in-demand assets.

![](/images/3.webp)

###### Source: The Block

***

#### **Undercollateralized Lending**

On-chain lending in crypto is usually over-collateralized because it's difficult to apply recourse if a borrower defaults. By using off-chain delegates, projects can offer under-collateralized lending and the process more capital efficient and lucrative. As a result, this attracts more capital and increases the GDP of DeFi. This sector is taking off in a big way. As shown below, Maple is leading the charge despite a risk-off market in the last 5 months.

![](/images/4.webp)

###### Source: Dune Analytics



#### **Storage**

**Sentiment**: AWS is too big to fail. The service is cheap and reliable. There's little reason to use a decentralized alternative.

**Reality**: Centralized service providers are targets for censorship and represent single points of failure. Decentralized alternatives offer censorship resistance, anti-fragility, and redundancy that centralized services can't. Digital storage is growing exponentially, and decentralized networks will be able to provide a cheaper, more reliable experience.

Permanent storage, which is the gold standard for NFTs, is not possible through a centralized approach. NFTs are a permanent digital signature but the digital media is often stored on an impermanent AWS instance - if the bills aren't paid, the media is lost. Arweave offers a solution to this with permanent data storage and adoption is skyrocketing.

![](/images/5.webp)

###### Source: ViewBlock



#### **Digital Monetization**

**Sentiment**: JPEGs selling for millions of dollars exemplified NFT mania and the bubble has popped.

**Reality**: We're in the early stages of content monetization.

NFTs are onboarding millions of consumers who otherwise are uninterested in things like decentralized finance. Visual art took off in 2021 and music is finding its footing in 2022.

Projects like Nina, Catalog, and Sound are providing tools for musicians to seamlessly publish, monetize, and distribute their music. There are 443 million global paid streaming accounts and that represents only 11% of smartphone users. And although streaming has been popular among consumers, it has disenfranchised artists. The market is ripe for disruption, and NFTs put the power back into the artists' hands.



#### **Institutionalization**

**Sentiment**: Regulators will crack down and institutions are scared to play in a murky regulatory environment.

**Reality**: Institutions are piling into the space as their clients clamor for access. Regulatory uncertainty is fading and trillions of capital is entering the ecosystem.

JP Morgan, Citi, Goldman Sachs, Citi, Citadel, Point72, Temasek, Black Rock... at this point the question is what institution, is **not** getting involved. Last week, Goldman changed the front page of their website to the below image. Make no mistake, these players have a lot of learning to do but their distribution is wide and will be integral to adoption over the next few years.

![](/images/6.webp)


The Big Picture

Yesterday, the President signed an Executive Order (EO) titled "Ensuring Responsible Development of Digital Assets''. For those interested in the official fact sheet, it is a short and easy [read](https://www.whitehouse.gov/briefing-room/statements-releases/2022/03/09/fact-sheet-president-biden-to-sign-executive-order-on-ensuring-responsible-innovation-in-digital-assets/).

This EO is peculiar as it does not mandate the enforcement of rules but rather, asks several government agencies to study digital assets to present guidance that will "support innovation while mitigating the risks for consumers, businesses...".

The language is encouraging, describing crypto as strategically critical for the nation, and repeatedly emphasizing a desire to ensure "U.S. competitiveness and leadership in, and leveraging of digital asset technologies". Jerry Brito, executive director of leading crypto think-tank Coincenter says:



![](/images/1-6dcfda62.webp)


While strange on the surface, this EO is much needed because a dizzying amount of regulatory ambiguity remains. One obvious example requiring clarity is tokenomics. Developers are currently being forced to either forego equity-like economic benefits for tokens or to sever all ties with the US to elude the wrath of the SEC. This uncertainty is undoubtedly hurting the potential of crypto.

Regulating crypto is tricky. Networks are constantly evolving and seldom fit neatly into pre-existing regulatory molds. Attempts to push regulation have sometimes resulted in nonsensical or unenforceable rules (see [Infrastructure Bill](https://www.crowdfundinsider.com/2021/08/178929-new-infrastructure-bill-amendment-regarding-crypto-bridges-divide-gains-support-of-coincenter/)). While several agencies like the CFTC or SEC do regulate certain corners of the ecosystem, uncharted territory abounds. 

Many of the problems we ascribe to crypto simply reflect issues in society and regulation is no different. Borrowing [from A16Z](https://a16z.com/2021/10/05/our-proposals-to-the-senate-banking-committee/), the chart below portrays the fragmented and intertwined nature of financial regulation today. 



![](/images/2-1e32083d.webp)



It should come as no surprise that it has been so difficult to push regulation in a space so complex and covered by so many regulators. We view this EO as a necessary “nudge” for agencies to design holistic guidelines that can unleash the full potential of crypto. 

A generational investment opportunity cannot exist without uncertainty. Regulation could be the largest remaining hurdle for institutional and many retail investors. Whatever the precise outcome, regulatory clarity is likely to herald a new wave of investors, and with them renewed tail-winds for digital assets.

Fran


Thoughts on the Executive Order

Last month we noted that there was light at the end of the tunnel for risk assets. This month we experienced a shift in momentum, especially for BTC and a select group of altcoins. It was also impossible to ignore the effect the­­­ global political climate had on crypto, both for short-term price action and for long-term validation of the technology. While altcoins have continued to struggle, value is becoming apparent in certain sectors.

#### **Bitcoin and the geopolitical stage**

At the beginning of February, Canada imposed financial sanctions on accounts assisting the trucker protests. As a response, Bitcoin and Ethereum came into the spotlight as censorship resistant avenues for fundraising.

As the Russian invasion in Ukraine has escalated, crypto has again come into the spotlight as a way to fundraise globally and without censorship. According to the chart below, approximately $24 million has been donated to the Ukrainian government and the Come Back Alive NGO, alone.

![](/images/1-2b933be3.webp)

###### Source: Arcane Research

There is likely additional demand from Ukrainian and Russian citizens trying to preserve their wealth. For Ukrainian citizens leaving the country, storing savings on a hardware wallet might be one of their few options. For better or worse, crypto is now center stage in the geopolitical scene.

<https://twitter.com/ercwl/status/1498380832058265607?s=20&t=bIkqH9evme5RrW0zGAPbcQ>

It’s unlikely that the recent Bitcoin move was a direct result of buying in Eastern Europe but it does highlight the long-term value of a global, digital, censorship-resistant, fixed supply asset. Bitcoin cannot be unilaterally controlled which gives its users economic assurances that have never before been possible.

#### **Short term price action**

Exchange volume is about 25% off the highs of last spring indicating the beginning of apathy in the crypto market, generally a decent sign of retail capitulation. This decline in volume also partially contributed to the 15% Bitcoin move on the last day of February

![](/images/3-8729e288.webp)

###### Source: The Block

It wouldn't be surprising to see further corrections in sectors of the crypto economy but many are trading at significant discounts since their highs and since the start of the year. In some cases, prices are down 80% but adoption continues to increase creating the opportunity to buy value.

![](/images/4-a4fc4830.webp)

###### Source: Messari



#### **Signs of value**

In January, Bitcoin neared the bottom of its year-long trading range and again revisited that area in February. Bitcoin is starting to look cheap given its increasing role in the global economy, holding patterns of Bitcoiners, and the amount of stablecoins on exchange. The below chart shows that 76% of circulating Bitcoins have not moved in the last 6-months. The 6-month time period is significant because that is approximately when Bitcoin bottomed in July. In other words, a large amount of supply was purchased in July and has not moved despite the high volatility. I’m often skeptical of the predictive power of Bitcoin’s on-chain metrics but this pattern of long-term holders is very compelling and adds credibility to the thesis that Bitcoin has been in a year-long accumulation pattern.

**% Bitcoin Held for Longer than 6 Months**

***

\*\*\*\*![](/images/5-b79b8c9f.webp)

###### Source: Glassnode

Stablecoins on exchanges have continued to increase, indicating there is a lot of dry power on the sidelines. The recent sharp increase started on January 23rd, just as the market bottomed. If crypto regains positive momentum, we could see a rush from this sidelined capital.

**On-Exchange Stablecoin Supply**

***

\*\*\*\*![](/images/6-c9d7bb92.webp)

###### Source: Glassnode

Given the uncertainty in the market, near term skew was particularly elevated at the lows in January and again at the lows in February. This is a good counter-indicator that can show which side of a trade is crowded. It’s another sign that panic over rate hikes and war may have peaked.

![](/images/7.webp)

###### Source: Laevitas

#### **Summary**

With good reason, there's uncertainty and worry in the market, but Bitcoin is showing early signs of climbing this "wall of worry" and the on-chain holding patterns add confluence to this view. Crypto is front and center in global politics which may cause short-term volatility and long-term adoption as investors realize the power and scope of crypto's use cases.

Cheers,

Phil Bonello


Peak Panic

The crypto market has been in a sustained downtrend for the last three months, seemingly acting as a canary in the coal mine for global risk assets. Only recently have inflation worries caught up to major equities indices triggering a -12% move in the SPX, peak to trough.

Bitcoin and Ethereum retraced over 50%, Solana retraced nearly 70%, and other altcoins 90%+. While we're confident that the crypto market is in its infancy, momentum often supersedes fundamentals in the short term, and it's important to have a risk management strategy.

In the crypto markets, pundits are now calling for a multi-year bear market. In traditional markets, some are calling for the end of a “superbubble”. This [post](https://www.gmo.com/americas/research-library/let-the-wild-rumpus-begin/) by Jeremy Grantham has been referenced repeatedly. These doomsday calls have grown louder as market prices have declined which indicates among other signals, that the downtrend is becoming exhausted. The worst may be behind us.

In our [year-end commentary](https://plaintextcapital.substack.com/p/2021-year-end-market-commentary), we noted the signs of excess of 2021. We are still in a downward trending market, and it should be respected as such. But now is the time to be patient and await exceptional opportunities.

> *The market's attention and capital are scarce, and there are some signs of saturation. In an asset class that is likely to create tens or hundreds of trillions of wealth over the next decade, make sure you don't sacrifice the long term in favor of the short term.*

#### **Bitcoin’s range**

It's important to realize that Bitcoin has been in the same range for over a year now. Multiple sectors in crypto have undergone mini market cycles, all while Bitcoin appears to be undergoing an extended period of accumulation. Typically, the longer the accumulation, the larger the breakout.

![](/images/1-02c3013a.webp)

On-chain readings have limited efficacy for short-term direction but can be useful for understanding the larger market regime. Dormancy flow measures market capitalization relative to the average age of Bitcoins moved on-chain. Dormancy flow has been able to illustrate areas where Bitcoin holders have capitulated, repeatedly marking bottoms.

![](/images/2-2c1ba246.webp)

We’ve discussed in prior letters how funding rates show which side of the trade is more crowded. It’s more effective at extreme readings, but it can provide a possible indication of trend exhaustion. This is especially true with negative funding rates (indicating high short interest) because the market typically is long-biased. Below we see that negative funding has been the dominant paradigm for the last two weeks.

![](/images/3-647e524b.webp)

#### **The Fed's Confidence Game**

The most important factor in global risk assets is the Fed. Following the market shock of March 2020, the Fed cut rates to zero, announced a commitment to backstop Treasuries and mortgage-backed securities, and even bought junk bonds. Since March 2020, the Fed's balance sheet doubled from $4 trillion to over $8.8 trillion. The market became assured that the Fed would maintain market stability.

With the assurances from the Fed, risk assets rallied for the following year and a half. But signs of excess materialized, and in the fall inflation reached 7%, the highest reading since 1982. Whatever the causes, inflation is a problem for the current administration and the Fed. Unsurprisingly, the Fed followed with a more hawkish stance, indicating a reduction in its balance sheet and the potential for rate hikes. As a forward-looking machine, the market has reacted negatively. There is an existential worry that the Fed will not backstop the market as it has in the past, but we don't believe this is true.

The Fed is playing a game of confidence. It's crucial that it maintains legitimacy — when the consensus believes the Fed is an “unhinged money printer”, it must demonstrate conservatism. But ultimately it is bound by the enormous global debt overhang. $60 trillion of this debt is dollar-denominated, meaning that as the dollar strengthens and rates rise, the debt becomes harder to service. This increases the risk of default and a deflationary spiral that would cripple the global economy — it would be catastrophic. Powell is aware of historical precedents: Paul Volcker aggressively raised rates in the 80s leading to recession and Alan Greenspan raised rates to mark the end of the dot com bubble. Powell does not intend to be the poster child for a global recession.

Historically, when governments have debt that is difficult to service, they debase the denominator of that debt — in this case, the US dollar. It's likely that the US will *continue* to follow this path. Inflation is far more palatable than deflation because it happens more slowly, can be disguised, and it's harder to pinpoint the culprit. But deflation happens quickly and painfully, and it is easy to identify a scapegoat.

Finally, it's likely that monetary policy expectations are worse than the reality. The below chart shows eight rate hikes from September 2016 to June 2019 that coincided with a nearly 40% rally in the S\&P500.

![](/images/4-c54f21da.webp)

Short-term volatility aside, chances of catastrophe appear limited for now. Further, Powell continues to repeat his most important phrase:

> "\*We are listening to the market." \* 

If the market signals catastrophe, the Fed will be standing ready.



#### **Crypto developments**

Despite depressed prices across the board, let's not miss the forest for the trees.

DeFi's performance is inherently tied to prices of assets in the ecosystem — the value of reserves decreases when asset prices fall and cashflows decrease alongside. But the sector continues to mature and pass stress tests. Decentralized exchanges, Uniswap and Curve, facilitated $15 billion and $2 billion of weekly volume, respectively. Structured products grew their asset reserves by over 80% month-over-month. Undercollateralized lending platforms like Maple are providing over $500 million of loans to institutions. It's clear that a parallel, 24/7, global, permissionless financial ecosystem is maturing.

Non-financial sectors like decentralized infrastructure are more likely to be countercyclical because their success is less dependent on the price of other assets in the ecosystem. Livepeer, a video transcoding service, recently shared that it processed 30 million minutes of video in Q4 2021, bolstered by partnerships with Korkuma, PlayDJ, and Vimm. Arweave continues to set new usage records with now 45 TB stored. Helium now has over 530k hotspots around the world, up nearly 20% in the last 30 days.

Market segments that have been seemingly unaffected by declining prices are digital content and NFTs. OpenSea did its highest monthly volume in January, $5.3 billion, even amid competition from LooksRare. Music publishing protocols like Nina, Catalog, and Sound have seen growing interest. Hopefully, this is a sign that new participants are entering web 3.0 not for financial speculation but for creative expression. We maintain that the direct artist-fan connection that is enabled by NFTs will catalyze a creative renaissance.



#### **Summary**

Declining prices can have an incredible influence on an investor's perception of value. By all measures, the crypto market is still in a downtrend and for that reason, caution is warranted. But rather than abandon hope, the coming months may yield unique opportunities in the public markets. Investors now have had the benefit of evaluating products, teams, communities, and growth metrics of the best projects in the space. In some cases, valuations are approaching private market levels but with public market liquidity — a fantastic duo. This has been an aggressive reversal, but we ultimately expect it to be transitory.

Best,

Phil Bonello


Light at the end of the tunnel

Scalability, the ability to increase the number of transactions, is **critical** to all blockchains.

It’s critical because to onboard the rest of the world onto web3, and unlock this technology’s full potential, it is necessary to find solutions that can handle ever-increasing transactions-per-second (TPS), and as a result, provide faster and cheaper transactions.

Although many new chains boast high TPS, innovation is limited and the trade-offs are significant. We’re far from enabling the current financial system from running on-chain. As an example, the most optimized layer 1 architecture, Solana, can do about 2,500 (as seen on [Solana Beach](https://solanabeach.io/)) TPS. Impressive as it is, this is orders of magnitude lower than Visa’s claimed 65,000 transactions per second.

I was introduced to crypto in 2017 and since then, the majority of the research has been focused on scaling. I worked on Ethereum 2.0 and hoped sharded execution would be the end-game for all scalability needs, yet there has been little to no progress on improving the losses in composability that occur due to cross-shard communication and has led to the pivot to focus on rollups.

Because scalability is such a concern, developers are moving from Ethereum to new smart contract platforms, but as demand for these platforms increases, block space gets filled and the user experience once again depreciates. (e.g. Avalanche fees [skyrocketing](https://cryptoslate.com/avalanche-fees-spike-to-10-as-backers-ironically-criticize-ethereum/))

Up until this point, development to increase TPS has focused on the following: 

*   faster consensus algorithms (allowing nodes to agree on the order of transactions faster),

*   optimizing the execution environments (making transactions run faster), and 

*   propagating blocks faster

These three things cover almost 99% of the incremental innovations that most chains boast.

To give credit where it’s due, some teams have done an outstanding job researching and implementing the above approaches. Practical, incremental innovations as noted above coupled with writing the whole codebase from scratch to juice out very performant nodes (rather than forking and building on go-ethereum) did improve TPS by almost an order of magnitude. **But for these platforms to continue scaling, they all have to resort to increasing hardware requirements in exchange for meager linear growth.** What if there was a better architecture that allowed for better scaling AND kept decentralization intact?

#### Scalability

The blockchain platforms of today can be considered monolithic. Every node performs all parts that make up a blockchain: execution, consensus, and data availability.

**Execution** is the computation of transactions that are included in a block. Simply put, it’s the process of taking the number of coins a user has on Ethereum, subtracting the amount of Ether she is sending, and saving the result. 

**Consensus** is needed to order these transactions. Without a consensus algorithm, it is impossible for a group of computers to come to an agreement on the order of transactions, and thus reach the same state.

Lastly, **data availability** is the process of guaranteeing blocks are fully published to the network. For light clients (low resource blockchain nodes) to work, the network must be sure that full blocks are being published, so that when there is an invalid block an honest node can create a fraud-proof. Data availability is critical for scaling blockchains, as it allows the network to increase its capacity without requiring all nodes to linearly increase their resources.

Scaling a blockchain today means scaling all three of these components together and at the same time.

Since the agricultural revolution, humans have relied on specialization for ever increased efficiency and productivity. Software is no different. In fact, the Internet protocol stack of today is composed of layers that each serve a single purpose. As a whole, they are the foundation of the Internet that we all use and love today. 

These modular layers also allow for greater flexibility and experimentation. For example, at the transport layer of the Internet protocol suite, which we use in every connection online to send packets from one of our computers to others, there are many different protocols, TCP, UDP, and SCTP being a few examples, that developers can pick and choose from to serve the needs of their applications in the best way possible.

Applying a similar paradigm to blockchains can provide similar scalability benefits.

#### Enter modular blockchain design.

The execution layer is the user-facing layer (called rollups) where transactions get executed.

The settlement layer (optional) provides finality to all rollups on top, allowing them to bridge trustlessly.

The data availability & consensus layer provides ordering of transactions and guarantees all data is published & accessible.

#### Let’s dive deep.

Not every node needs to execute every single transaction in order for all other nodes to provably know that the blockchain is valid. As long as we have a base layer where we can dump all execution data, we can guarantee (through zero-knowledge proofs or game-theoretic mechanisms) that transactions are valid and known by all. So, these transactions can now be executed by just a single node.

If this node acts maliciously, it gets slashed, another node picks up the execution, and we march ahead.

So what does this mean? It means that we have now shifted the focus from scaling many nodes together to scaling one node. This is a much simpler engineering feat. As evidenced by the performance of the big web2 platforms of today, we already know how to scale this type of execution. 

So, the scalability of the execution layer is now out of the way but, there’s a caveat. In order to trust an execution layer, the execution layer must dump all data to a data availability layer. If not, there is no way for light nodes (low resource nodes) to be aware of potential fraud in the execution layer. This is because light nodes do not execute any transactions themselves.

So, we need a cheap way for anyone keeping up with the execution layer to provably know if the operator (rollup block producer) has committed fraud. Fortunately, there are a couple of ways that this can be accomplished.  

#### Sovereign rollups (as [Celestia](https://celestia.org/) team calls them)

Rollups as we know them have to settle on smart contract chains which typically handle data availability *and* settlement. Rollups need to execute either fraud or validity proofs on the smart contract chain from which they derive security and are bound by the capacity and the execution of that chain. Because current smart contracts chains handle the settlement, scalability is limited. 

However, a **sovereign rollup doesn’t require a smart contract chain. Instead, every transaction is published on the data availability layer but settled between the rollup nodes themselves. Importantly, the data availability layer is not responsible for execution and settlement, which allows for improved scale and finality. The execution occurs on the rollup, the data is made available on the DA layer, and the settlement ultimately occurs once again on the rollup. The rollup is kept secure by rollup full nodes that monitor the DA layer and report invalid blocks through fraud-proofs.** 

Once a fraud-proof is generated by any honest full node, it is propagated across the rollup network, and any light/full node that receives the fraud-proof immediately drops the invalid block and slashes the invalid block-producing operator. This keeps block producers honest.

If no light node receives a fraud-proof within the designated time frame, they can be sure that the block is valid.

**Since the rollup isn’t concerned with getting transactions included on a potentially congested or spammable settlement chain, this rollup can provide way better latency to finality.**

***

#### Settlement layer (optional) with a hub and spoke model

In the hub and spoke model, (check out Matthew Di Ferrante’s awesome [post](https://forum.celestia.org/t/an-open-modular-stack-for-evm-based-applications-using-celestia-evmos-and-cosmos/89) where he proposes the idea) a restricted settlement layer sits on top of the data availability layer. 

In total there might be three layers: a typical rollup (execution), a settlement layer (sovereign rollup), and a data availability later. The settlement layer works as a blockchain with its own block producers and execution, but the execution is restricted to certain types of transactions, making it simpler to optimize.

Specifically, the settlement layer only cares about storing execution layer block data and executing fraud proofs for optimistic rollups, or storing state diffs and validity proofs for zk-rollups, and doing transfers between these rollups. 

Simply by following the settlement layer, users get the full guarantee that the execution work is valid. Settlement layer nodes have a small footprint due to their specialized nature since they do not bear the heavy load computed at the execution layer.

A cool thing about the hub and spoke model is that there can be many rollup/execution layers that can be bridged trustlessly. Since the settlement layer provides security for all the executions running on top, in the case of a re-org, all the execution layers also re-org, removing the security risk inherent with bridging. As Vitalik recently [put](https://bit.ly/3FR95TI), the shared security of this model is preferable to the fragmented security of the multi-chain world. In fact, Eth2.0 will function as this hub, providing both settlement and data availability. 

However, this model can also be implemented on top of any specialized DA layer such as Celestia or Polygon Avail. Specifically, the collaboration between Celestia (data availability) and Evmos (settlement/hub) is an interesting example of a hub model.

#### Comparing the two

Both of these models have different trade-offs. In the Hub & Spoke model, the execution layer is bound by the limitations of the underlying settlement layer but benefits from trustless interoperability with other executions. As an example, Arbitrum and Optimism both use Ethereum as their settlement and data availability layer like a hub. In the case of an Ethereum re-org, regardless of the amount of money bridged between them, since both of these execution layers also re-org along with Ethereum, neither of the execution layers is at risk of losing funds.

In the case of sovereign rollups, building an execution layer directly on top of the DA layer takes the fraud-proof processing off-chain. This allows for greater flexibility around latency, upgradeability, and many other things. However, we don’t get interoperability between execution layers. 

#### Scaling the data availability layer

The amount of data that needs to be posted by the execution layer increases linearly with the number of transactions that are executed. **So, we need scalable data layers.**

Turns out, scaling specialized data layers is much easier than scaling monolithic blockchains. 

Using a combination of erasure codes, which is the same technology that allows us to play CDs despite being heavily scratched, and data availability sampling (asking for N random small parts) of block data, each node can probabilistically guarantee that all the block data is available and published to the network. (check out Mustafa Al-Bassam’s [post](https://coinmarketcap.com/alexandria/article/what-is-data-availability) which dives deep into the data availability problem and solutions)

Later on, these nodes can come together and piece out the entire data by combining the samples each light node individually possesses.

The neat thing about this sampling is that the sample size necessary is logarithmic to the DA layer block size (i.e scales incredibly well), and as you add more nodes to the network, the data capacity of the network increases.

The major implication is that we can substantially scale “secure” data availability, in similar ways to a file-sharing network like BitTorrent.

#### Wrapping up

**After years of research and uncertainty, scaling blockchains is FINALLY theoretically solved. I can not overstate how big of a deal this is. I’m literally losing sleep over it.** 

It also means that the era of smart contract blockchains that handle all of consensus, data, and execution is coming to an end.

The next generation of protocols will be much more specialized, cater to different parts of what we call a blockchain today, and provide vastly increased flexibility for experimentation.

We’re in for a wild ride — Ethereum-based rollup teams or their forks will deploy on settlement layers that use Celestia, Eth2.0, or any other specialized DA layer. 

Settlement layers, DA layers, and execution layers will all be optimized in different ways.

I expect many smart contract platforms of today to become individual layers of this new stack, and many new players to rise. There might be big opportunities for teams that have special expertise in certain areas such as VMs, consensus algorithms, and networking.

To a bright & scalable future,

Cem Ozer

*Thanks to Phil Bonello, Fran Oliva, Jonny Rhea, Rene Lubov, Can Gurel, and Alex Beckett for their feedback.*

**Sources:**

*   [**https://cryptoslate.com/avalanche-fees-spike-to-10-as-backers-ironically-criticize-ethereum/**](https://cryptoslate.com/avalanche-fees-spike-to-10-as-backers-ironically-criticize-ethereum/)

*   [**https://coinmarketcap.com/alexandria/article/what-is-data-availability**](https://coinmarketcap.com/alexandria/article/what-is-data-availability)



Did you say data availability?

Scalability & The Modular Blockchain Stack


#### **Overview**

2021 was the biggest year in Web 3.0’s (crypto) lifecycle from the perspective of both mainstream acceptance and absolute dollar growth. The total market cap of the space tripled from approximately $800 billion to $2.4 trillion. Crossing the trillion-dollar market seemed to coincide with interest from sophisticated allocators — volume in the spot and derivatives grew accordingly. Bitcoin and Ethereum futures accounted for $32 trillion of volume in 2021. Spot volume across exchanges was approximately $14 trillion. The options market exploded with nearly $400 billion of notional contracts traded.

![](/images/1-0bab9192.webp)

###### **Source: The Block**

While DeFi was the story in 2020, 2021 saw tremendous growth in non-financial sectors. Gaming was the biggest winner, led by Axie Infinity's price appreciation of more than 170x. Scaling solutions and alternative smart contracting platforms ("Ethereum killers") outperformed by attracting users with cheaper, faster transactions and financial incentives.

![](/images/2-52073803.webp)

###### **Source: Plaintext, Messari**

#### **Bitcoin broke all-time highs**

Bitcoin launched 13 years ago. Since, it has reached $1 trillion+ market capitalization, processed nearly $8 trillion of volume, and this year it reached new highs as institutional adoption has accelerated.

The big financial story this year was inflation reaching nearly 7%, the highest YoY change since the 1980s. There's little doubt this was driven by favorable monetary and fiscal environments, which may not persist in the short term but are likely to persist long-term. Bitcoin certainly benefitted from this environment, especially given its fixed money supply relative to the ever-growing supply of fiat currency.

Bitcoin outperformed major equities and gold by large margins over the past year. Gold is especially notable because it is frequently referenced as an inflation hedge, and despite the highest inflation in nearly 40 years, gold demonstrated negative absolute returns. Most financial transactions happen digitally and there is little place for a heavy metal that aims to be money.

![](/images/3-de91e787.webp)

###### Source: TradingView

Bitcoin started the year up nearly 100% as Tesla announced that it purchased $1.5 billion on its balance sheet. Other companies like Microstrategy had publicly announced Bitcoin purchases but the announcement from the fastest-growing company in the world was a signal that Bitcoin had entered the institutional conversation. Square followed suit later that month with a $170 million purchase. Right on cue, institutions, famous investors, and nation-states announced involvement in crypto:

- Morgan Stanley, Goldman Sachs, Wells Fargo, and JP Morgan Private Wealth announced plans to offer BTC funds

- Goldman restarted its crypto trading desk

- Howard Marks changed his tune on Bitcoin

- Ray Dalio announced Bitcoin position

- Point72 and Millennium entered crypto

- US Bank launched crypto custody

- Citibank launched crypto division

- El Salvador voted to make Bitcoin legal tender

- Soros Fund entered the crypto markets

This year we saw a major change in the Bitcoin mining landscape. In the spring of 2021, China controlled an estimated 65% of Bitcoin mining. Then, in what could be described as a nation-state attack, China banned all Bitcoin mining. Hashrate dropped nearly 70% in the following months before migrating to new jurisdictions, namely the United States. It's now estimated that the United States controls nearly 40% of Bitcoin mining. This event allowed Bitcoin to prove its resiliency against one of the world's superpowers while transferring significant interests to the United States.

![](/images/4-228830e0.webp)

###### Source: [Cambridge Bitcoin Electricity Consumption Index](https://ccaf.io/cbeci/mining_map)

Further mainstream adoption of Bitcoin could be witnessed through open interest on CME futures climbing to over $5B in October. In parallel, the SEC approved futures-based Bitcoin ETFs, a significant step for adoption — a spot ETF has yet to be approved.

Bitcoin is becoming a household name and it will be at the center of this decade’s zeitgeist.

#### **Gaming: the hottest trend of 2021**

The asset prices of crypto games skyrocketed. It was by far the most lucrative sector in 2021. This was led by the idea of play-to-earn, a model pioneered by Axie Infinity, where users can earn income for contributing work to a game. Additionally, with Meta (Facebook) pivoting its focus to the Metaverse, investors began to accumulate projects which are building digital worlds such as Decentraland and The Sandbox.

Most of the development and funding interest for these games occurred on Ethereum but interest has begun to migrate to faster, cheaper networks like Solana, Polygon, or Avalanche.

It's notoriously difficult to build high-quality games and many of these projects have a long way to go. A few weeks ago, I onboarded my younger cousin to crypto because he was interested in playing crypto games. He was disappointed. A majority of the games required owning an expensive NFT before playing and the ones that didn’t simply weren’t fun. There are 3.2 billion gamers in the world and growing — there's little doubt that great blockchain games will be a driving force for crypto adoption and will be one of the greatest sectors for value creation. But it might take time.

#### **NFTs became mainstream**

Demand for digital collectibles like avatars, art, in-game items, and even music saw a huge amount of interest this past year. This is probably best illustrated by the over $1 billion of revenue accrued by OpenSea, the leading NFT exchange platform, **in the last 6 months**. As a point of reference, eBay's revenue was just over $10 billion in 2020, one of the highest marks in its 25-year history. The NFT asset class has only existed for 4 years.

###### ![](/images/5-fed04111.webp)Source: Token Terminal

There continues to be controversy around the value of NFTs. What's the value of a digital image if it can be copied? If unconvinced, consider that a print of your favorite artwork might not be valuable, but that same print signed by the artist might be significantly more prized. NFTs have a digital signature embedded in their creation and distribution. But if I drew a picture and signed it, nobody would buy it. The digital signature (NFT) is only as valuable as the artist or collection it represents. NFTs also can be encoded with additional functionality and permissions — ownership can grant access to various utilities. There's no doubt that digital items (NFTs) as a category will grow enormously as we spend more time online.

NFTs are a crucial part of the development of the crypto industry because they change the economic model for all types of digital media, whether it be visual art, music, movies, articles, or video game items. These use cases will allow crypto to transform from a niche industry of speculation to the conduit for a creative renaissance. Non-financial use cases are necessary for Web 3.0 to mature.

#### **Infrastructure projects found product-market fit**

On the topic of non-financial use cases, decentralized infrastructure like digital storage, digital content delivery, node infrastructure, and even wireless networking is growing at a rapid pace.

When considering NFTs, the digital signature is permanently stored on a blockchain (usually Ethereum), but often the media is stored on a centralized server — if the payments for the server stop, the media is lost. Projects offering permanent decentralized storage attempt to fix this problem — pay once to store a piece of data for a generation. One example is Arweave which went from virtually unused two years ago to storing 40 terabytes of data today.

![](/images/6-ced48f57.webp)

###### Source: [Arweave Viewblock](https://viewblock.io/arweave)

Another example of decentralized infrastructure is Helium which is building a network of IoT (LoRaWAN) and 5G communication. It currently has over 450,000 hotspots around the world. Traditional Telcos struggle to scale new types of networks because the capital expenses are enormous. Using decentralized infrastructure users can set up hotspots to service local networking needs and be rewarded accordingly in crypto. The network can scale organically as demand increases.

![](/images/7-ce1558d8.webp)

###### Source: [Helium Explorer](https://explorer.helium.com/)

These types of networks are still in their infancy but the markets they are disrupting are huge. AWS alone is estimated to be worth over $500 billion. The cumulative market capitalization for telecommunication companies is over $2.5 trillion.

#### **Competition from Layer 1s**

Another big story this year was the competition between smart contracting platforms. Ethereum is relatively slow and expensive to use, yet the network is worth nearly $500 billion. This offered an opportunity for competing networks to provide cheaper, faster solutions to hopefully achieve a fraction of that market capitalization. Nearly all these competing networks offered monetary incentives to use their product with the hope that users would stay. Solana, Avalanche, Fantom, and Polygon proved to be the biggest winners with Solana being the only one to achieve adoption outside the EVM (Ethereum Virtual Machine) network effect.

![](/images/8.webp)

###### Source: TradingView

It's not clear how the smart contracting race with settle. There's no free lunch in scaling these networks — they often achieve high speed and low cost by trading security and decentralization. EVM does appear to have a very strong moat and reduces stress for application developers because they can more easily migrate between blockchains. Because of this, Neon Labs is also trying to bring EVM functionality to Solana. Layer 2s on Ethereum are promising but have so far lacked the aggressive customer acquisition campaigns and incentive programs that other networks have implemented. With the proliferation of networks, bridges between them became a necessary piece of tooling. The iteration of applications will abstract away this cross-chain interaction.

#### **DeFi prices lagged**

After Decentralized Finance on Ethereum emerged in 2020, many expected its momentum to continue in both usage and price appreciation. But competing chains emerged, technical limitations hindered growth, and new shiny objects diverted attention from DeFi.

Below is a chart of monthly decentralized exchange volume throughout 2021. While total volume on Ethereum approximately doubled, the growth wasn't as dramatic as some hoped. High fees and low throughput contributed to the stagnation and competing exchanges on Polygon and Avalanche took advantage.

![](/images/9.webp)

###### Source: Dune Analytics

DeFi was the first sector where most applications had cashflows and these cash flows lulled many market participants to hold their DeFi assets while underperforming ETH to the tune of -60%.

![](/images/10.webp)

###### Source: TradingView

While DeFi lagged in 2021, new applications and partnerships have emerged which are likely to bring more assets and revenue to the ecosystem. As an example, Switzerland’s SEBA Bank is experimenting with the DeFi lending protocol, Aave. Onboarding banks is a huge step for DeFi.

### **Looking forward**

What performed best in 2021 is unlikely to perform best in 2022. Market participants have limited attention and capital, and that capital continues to rotate into fresh themes. The last two years have allowed active investors to capitalize on this market dispersion. It's a welcome change from the simple risk-on/risk-off paradigm of years past.

We generally feel that making predictions can cause anchoring bias, especially dangerous in a market that is so uncertain and rapidly changing. With that said, there are some themes we will monitor closely.

**Cross-chain tooling.** There are now around a dozen networks with legitimate ecosystems and users must rely on (often insecure) bridges between them. We're interested in applications that securely abstract away the complexity of interchain communication. There will likely be a strong network effect for the winning bridge infrastructure.

**Modularity.** We’re approaching a shift in focus when building Web 3.0 networks. Monolithic L1s, which perform all parts of infrastructure (execution, data, consensus) that comprise a smart contract platform today, are being unpacked into modular stacks, similar to the Internet Protocol stack. This modular stack hopes to achieve way higher scalability without trading off decentralization as is usually the case today. This new paradigm promises a wildly different infrastructure landscape, with a few examples being specialized data availability layers or specialized settlement rollups. These specialized modular architecture pieces and rollups may represent many new investment opportunities

**DeFi**. To the surprise of many, DeFi underperformed most crypto sectors in 2021. It's the most mature sector in crypto and throughout 2021 projects made significant headway. **Three areas that we feel are especially important for making DeFi more capital efficient and user-friendly are under-collateralized lending, mature derivatives products, and structured products.** Through partnerships with institutions, undercollateralized lending is already in its testing phase and we may see breakthroughs this year. Derivatives were an area of focus in 2021 but underdelivered. Jurisdictions may tighten their grips on derivatives trading which would force users to decentralized alternatives. Structured products package investment strategies to make them more accessible — protocols are competing to use their capital efficiently and structured products may be the main beneficiary of treasury allocations.

**Layer 2s.** Alternative Layer 1s (AVAX, SOL, FTM, LUNA, etc.) received most of the attention in 2021 and it's become clear that L2s on Ethereum have a marketing problem. They failed to incentivize growth on their networks and as a result, usage lagged. We expect this will change and all prominent Layer 2 networks will launch tokens creating new opportunities for capital rotation.

**Gaming.** It's hard to find value in the current landscape of gaming applications. As euphoria subsides, there will be a new cohort of games that serve as the primary onboarding experience for new entrants to crypto. There will also be significant dispersion in the gaming sector — way more than what we see in other areas of crypto. This will give active investors a lot of opportunities.

**Infrastructure**. Use cases such as digital storage, node infrastructure, decentralized bot networks, IoT networking, etc. are finding product-market fit. As an additional benefit, these use cases are less financially intertwined with other sectors and often exhibit a lower correlation to the broader ecosystem.

This has been the most exciting year of crypto because it's the year it became tangible to everyday users. DeFi provided the rails for NFTs and gaming to flourish, which helped onboard millions of users. It is nearly impossible for an educated individual to argue that crypto is going away — each day more attention is focused on the digital world and crypto is the financial expression of that attention.

With that said, people tend to overestimate what happens in the short term and underestimate the impact in the long term. The market's attention and capital are scarce, and there are some signs of saturation. In an asset class that is likely to create tens or hundreds of trillions of wealth over the next decade, make sure you don't sacrifice the long term in favor of the short term.

It's been an incredible year and we're excited for what the crypto market brings in 2022.


2021 Year End Market Commentary

#### **Market action**

For the second month in a row, Bitcoin breached highs but couldn't sustain the momentum. This is likely due, in part, to inflation worries and what that could mean for the economy — rising yields and tapering from the Fed. This is a headwind for risk assets and Bitcoin and crypto fall into the risk bucket. The market fear was further exasperated by worries of the new COVID variant, Omicron. However, Omicron may serve as a scapegoat for the Fed — the reality is markets need their perpetual support and the possibility of lockdowns gives reason for the Fed to continue this support.

If weakness in the macroeconomy persists, crypto likely will be negatively affected. However, when taking a more isolated look at the crypto markets it's reasonable to remain optimistic. Financing for perpetual swaps (known as funding) has been relatively muted in recent weeks, a sign that the market is healthy with ample cash on the sidelines. In contrast, when financing is high, spot buying is lagging demand for derivatives, a sign there might not be enough new money to support the market. We can see below that funding is sitting at about 8% APR relative to the 130% APR seen last spring.



![](/images/1-0bf273a4.webp)

###### Source: Plaintext Capital, CryptoQuant



Even so, it’s worth taking stock of the performance of crypto since the beginning of the year. Almost all major sectors have shown tremendous performance. It would not be a surprise to see tax-related selling in the new year.



![](/images/2-633136bd.webp)

###### Source: Plaintext Capital, Messari



#### **Miscellaneous**

The Ethereum Name Service is a domain registry protocol that links a readable name with an Ethereum address. While it can be used to point to a typical web domain, it's more popular as a Web3 identity. Nearly 500,000 names have been created using ENS as users claim their identities in the metaverse. Earlier this month to decentralize the protocol, ENS rewarded users and contributors with a token that will be used to govern the protocol moving forward. A total of 137,000 wallets were eligible for the token drop and so far, the median claim value of about $13,000 at current prices. The reward process isn't yet perfect but the ability for users to be rewarded as owners is a powerful force.

The ConsitutionDAO, a decentralized autonomous organization, was created to raise $20 million to purchase a rare copy of the U.S. Constitution at a Sotheby's auction in mid-November. Instead, the crowdfunding effort raised over $40 million and seemingly won the auction before it was announced that Ken Griffin, CEO of Citadel, outbid the ConstitutionDAO. Even though the DAO failed to win the auction, it was a very public display of distributed coordination. A group of internet friends nearly purchased the U.S. Constitution.

Jack Dorsey resigned from Twitter. Dorsey is a well-known Bitcoin supporter but famously uninterested in other crypto projects. There's speculation that Twitter will begin to integrate Ethereum more tightly into its infrastructure for both payments and NFTs. For reference, Twitter has 220 million daily active users.

Funding continues to flood into crypto from the likes of traditional firms like Tiger Global and Softbank but also crypto-specific mega-funds. Paradigm recently raised a $2.5 billion fund and Hivemind raised a $1.5 billion fund. With $3 trillion of dry powder, it seems private capital is making its way into crypto.



![](/images/3-5db1eb4a.webp)

###### Source: [Bain](https://www.bain.com/insights/the-private-equity-market-in-2020/)



### **What we're watching**

EVM wars, which we mentioned in past newsletters, have slowed with the risk-off market of the last few weeks. While Avalanche garnered the most attention and price appreciation, it likely will run into similar scaling challenges as Ethereum if demand for the network increases. This realization might bring some attention back to Ethereum and Ethereum scaling solutions.

One of the key reasons Layer 2 Ethereum solutions haven't yet gained traction is that few of them have a token to incentivize early participants. Attracting speculators might seem like a strange goal, but when these applications are inherently financial it's not a bad user acquisition strategy. Looking at the Google Trends chart below, many users are searching for Solana and AVAX but very few for Arbitrum. When Arbitrum, Optimism, and other Layer2 networks launch tokens, we might expect a rush to those networks.

![](/images/4-4035f80f.webp)

###### Source: Google Trends



#### Closing thoughts

The weakness in Bitcoin and the relative strength in altcoins is reminiscent of last spring before we witnessed a down market through the summer. A key difference is that market participants are already positioned defensively, meaning there will be ample cash to weather a drawdown or they will be forced to purchase back higher. Further, a flurry of recent fundraising is an indication that investors with trillions of dry powder are keeping an eye on the market.



Cheers,

Plaintext Capital



Head Fake

The first two Bitcoin ETFs, $BITO and $BTF launched with huge volume on October 19th and 21st, respectively. The below chart shows BITO had the largest natural volume of any ETF in the first two days of trading.



![](/images/1-988a5a41.webp)

###### Source: Bloomberg

In tandem with the ETF launch, Bitcoin claimed new all-time highs on October 20th. Bitcoin wasn't able to hold the highs, but we observed a common rotation play out in a few days. Bitcoin surged creating a wealth effect, demand for leverage on perpetual swaps spiked making it inefficient to long bitcoin so newly created wealth flowed from Bitcoin into higher beta altcoins, and finally, the leverage was flushed with a nearly 14% move down in Bitcoin. This cyclical flow is a crypto staple.

A temporary spike in leverage is often followed by a retrace but it's generally unwise to buck the dominant Bitcoin trend. As we mentioned in the first market commentary, Bitcoin (and crypto broadly) is a uniquely trending asset because there isn't consensus on how to value it. Because of this, price is the primary input into investors' mental models - higher prices lead investors to forecast higher prices. And as you can see below, funding is sitting within a fairly normal range when compared to the spring.



#### **Bitcoin’s funding rate relative to price.**



![](/images/2-5942a49d.webp)

###### Source: Plaintext Capital, CryptoQuant



The table below shows the average forward-looking returns for each day where funding on perpetual swaps closed within a given range. We can see that Bitcoin's forward performance remained positive (albeit decreasing) despite increases in funding, except for in rare occasions of over 100% indicative APR. The point is that mean reversion is difficult to predict, especially when Bitcoin has established a positive trend.



![](/images/3-8360cab4.webp)

###### Source: Plaintext Capital, CryptoQuant



#### **Market structure thoughts**

Bitcoin breaking its all-time high is an important event because it revives awareness in the formation of a trend. It reminds the market that once again, *Bitcoin did not die when it dropped 50%+*. And now individuals and institutions alike have better access to Bitcoin than ever before. As money continues to flow into Bitcoin, it also finds its way downstream to the rest of the market. Wealth creation in Bitcoin is critical for the secular growth of the entire crypto market.

As wealth flows downstream from Bitcoin it's helpful to consider the market structure as the population of users grows rapidly. First, there’s an obvious structural advantage to operating outside the parameters of centralized exchanges. Centralized exchanges are limited in how quickly they can add assets so using decentralized, open infrastructure allows investors to participate before a vast majority of the market. But make no mistake, centralized exchanges are rushing to add as many assets as they can to meet the demand of the ever-growing user base. Where will the tens of millions of fresh users concentrate their attention?

The growing retail interest for crypto is exemplified by Coinbase claiming the top spot on the App Store on October 28th. Coinbase hosts over 68 million users worldwide.



![](/images/4-907da519.webp)

On the topic of market structure, we're interested in understanding what buyers are driving the market. The analysis of timezones shows significantly more demand by the US over the summer, a structure that has faded since the beginning of the fall.



![](/images/5-8ad18143.webp)

###### Source: Plaintext Capital, Glassnode



#### **EVM battles**

EVM stands for Ethereum Virtual Machine, which is a software execution environment. Ethereum is by far the market leader for decentralized applications, which gives it a considerable moat. However, blockchains that use EVM as their execution environment make it trivial to launch nearly identical Ethereum applications on another blockchain. In the last 6 months, several scalability-focused, EVM-based protocols have launched allowing Ethereum applications to easily be ported to these new protocols. Among them are Avalanche, Fantom, Arbitrum, Matic, Near, Aurora, Secret, and Binance Smart Chain.

These protocols all offer the promise of faster and cheaper transactions and are vying for the attention of users. Activity will likely funnel to a few winners but it's unclear who those winners will be. For now, nearly all these protocols are distributing tokens to early users, helping boost interest and token prices. It's been a profitable trend to follow but we won't be surprised if the momentum slows when rewards run dry.



#### **Facebook and the metaverse**

Last week Facebook announced a company rebrand as "Meta" and a pivot towards building the technology needed to make a virtual universe ubiquitous. During the announcement, Zuckerberg highlighted developments in crypto and NFTs as building blocks for the metaverse. While Facebook's reputation might not blend well with crypto's ethos of personal sovereignty and data privacy, the announcement is validation from one of the largest companies in the world. Following the announcement, metaverse projects significantly outperformed the market as investors looked to front-run potential future integrations. Gaming and metaverse applications are likely to be a key avenue to mainstream crypto adoption.



#### **Regulation**

The SEC continues to express concern over the idea of a spot-based Bitcoin ETF, even though the currently offered futures-based ETFs are far more harmful to investors. This concern stems from spot products using market prices from unregulated exchanges. On the other hand, the underlying futures trade on the CME, a federally regulated market by the CFTC. The enormous interest in the futures-based Bitcoin ETF products is incrementally positive for spot approval but we aren't holding our breath.

The CEO of Terraform Labs, Do Kwon, sues the SEC for unlawful service of process that transpired about a month ago during the Messari Mainnet conference. It's clear that the SEC is beginning to take a firmer stance on DeFi products, but they appear outmatched against the thousands of products that, in many cases, operate without a central party to prosecute. Additionally, crypto firms are now going on the offense, spending huge sums to lobby for the industry’s interests. Though in the short term, SEC actions may have a considerable impact on the market.

Financial Action Task Force (FATF) published updated [guidance](https://www.fatf-gafi.org/media/fatf/documents/recommendations/Updated-Guidance-VA-VASP.pdf) on virtual asset service providers (VASPs). The report was expected to be harsh on the crypto industry but instead, the recommendations were balanced and left room for jurisdictions to make their own determinations.

The President's Working Group on Financial Markets published a [report](https://home.treasury.gov/system/files/136/StableCoinReport_Nov1\_508.pdf) on stablecoins that examines the risks and makes recommendations on how to mitigate them. The report is balanced and calls for stablecoin issuers to become banks. Additionally, custodians would have added regulatory oversight in dealing with stablecoins. The report was in line with expectations and the market rallied on relief that recommendations were not overly harsh.



#### **Conclusion**

Bitcoin's break of all-time high is a positive catalyst for the market and should set the stage for a strong end to the year. Retail interest is returning as indicated by Coinbase’s status as the top App Store app. This has significant implications for asset performance in the short term and is an important signal for where we are in the market. Following Facebook's announcement, we're likely to see additional companies looking to build the metaverse on crypto infrastructure – it’s very exciting but the sector will take a long time to materialize. Finally, the regulatory environment is not overtly negative allowing the market breathing room. We feel confident in the state of the market heading into the end of the year.



Best,

[Plaintext Capital](https://www.plaintextcapital.com/)



Bitcoin's Wealth Effect

Crypto is a $2.5 trillion industry, Bitcoin and Ethereum have yet to reclaim new all-time highs after a summer of consolidation, and the ecosystem is seemingly vacuuming financial and intellectual capital from every other industry. Young tech talent is coming from Silicon Valley powerhouses, top schools, and all over the world – crypto is uniquely global.

Despite the amazing growth of crypto, the $110 trillion investment advisor network has barely had the opportunity to allocate, yet the structural challenges that prevent much of the world from participating are being solved.

The excitement in crypto is palpable — projects are reaching product-market fit, and there’s a collective sense that we’re marching in the right direction. Almost every corner of crypto is winning in its own way.

Memes and narratives play a significant role in traditional markets and likely more so in crypto, where everyone is learning. If you’re aware of the emergent narratives, you can more easily navigate price action. This is especially relevant with the increasing dispersion in crypto and the opportunity for alpha. We want to recap some of what happened over the summer and what is currently happening.



#### **What happened?**

##### **NFT boom**

NFTs gained popularity in the spring and interest has persisted throughout the summer. The interest in NFTs caused transaction fees to spike. The increased transaction fees led the market to discuss more scalable alternatives — Solana, Polygon, Avalanche, and Fantom were among the market favorites. More on these later.

NFTs without permanent storage are just signatures of the items they represent. To mitigate this, some NFT projects have gone fully on-chain or are using permanent data storage solutions like Arweave. The need for decentralized storage solutions will persist as the NFT market matures.

NFTs created demand for non-financial crypto — people like owning things and now they can own them on the internet. The ability for creators to control their distribution has sparked an explosion of artistic experimentation. NFTs have also become a way of signaling crypto ideals, the most important among them being freedom. Because of this, famous athletes, musicians, and entrepreneurs et al. joined the NFT movement. Crypto is cool and NFTs are an expression of the culture.

NFT volume is surging on OpenSea, the leading NFT marketplace.



![](/images/1-2e0fb119.webp)

###### Source: Richard Chen, Dune Analytics



#### **Liquidity wars**

Layer 1s and Layer 2s raised huge sums of money, rewarded users with tokens, and gained newfound traction. Solana raised $314 million led by a16z and Polychain. Avalanche raised $230 million led by Polychain and 3AC.

Polygon kicked off the liquidity mining trend in the spring. Avalanche and Fantom upped the stakes later into the summer and fall with their own liquidity mining programs. Retention has been a mixed bag; some users have stayed for the faster confirmation times and lower transaction fees, but many moved elsewhere once the rewards ran out.

With users chasing rewards on other chains, cross-chain bridges became the meme of the hour, with good reason. Will the need for bridges remain even as rewards stall? EVM chains are currently similar in their offerings; chains like Solana are more differentiated.

The chart below illustrates the outperformance of Layer 1s and Layer 2s since June 1st.



![](/images/2-d8b534d9.webp)

****

#### **Bitcoin has been ignored**

Bitcoin has been a relatively unpopular investment in crypto as traders chased higher beta on altcoins. But over the past few weeks, Bitcoin began to outperform as the deadline for a Bitcoin ETF approval neared. The CME basis was also expanding rapidly, a sign traders were front running the approval of CME futures-based ETFs. It now appears one or many Bitcoin ETFs will [launch](https://twitter.com/EricBalchunas/status/1448838618798346243?s=20) this month.

Additionally, Bitcoin will soon be [offered](https://www.forbes.com/sites/michaeldelcastillo/2021/06/30/6-billion-ncr-opens-bitcoin-purchases-to-650-banks-and-credit-unions/?sh=768dc6103f82) to millions of banking customers and is already rolled out to a few clients such as the JP Morgan Private Wealth platform. The structural challenges of buying crypto are being solved.

It’s worth mentioning that altcoins sometimes act as a short on Bitcoin volatility. When Bitcoin surges or falls, altcoins fall. When Bitcoin ranges, altcoins are better situated to outperform. Bitcoin can suck liquidity from the rest of the ecosystem.  

Below shows that the Bitcoin exchange balance (readily liquid Bitcoin) is historically low, typically positive for price action.



###### ![](/images/3-0ecfa98c.webp)Source: CryptoQuant



Another important metric to track is the funding rate on the perpetual swaps contracts, the most popular product in crypto. Positive funding indicates outsized demand to purchase the perpetual swap product, often on high leverage — it’s a great counter-signal. As Bitcoin approaches its all-time high prices of May 2021, this muted funding rate is indicative of a healthier market structure.



![](/images/4-2ae27f0e.webp)

###### Source: Plaintext, Laevitas



##### **Derivatives are gaining attention**

US customers continue to be restricted from offshore exchanges, namely those that offer derivatives. Perpetual swaps are the most popular product in crypto, producing volumes approximately 4x spot. dYdX has given a glimpse of the potential demand for decentralized perpetual swaps, eclipsing Coinbase's volume last week. There's a lot of room for growth in this sector both in central limit order book models and AMMs. With several products soon launching on layer 2s like Arbitrum, it's not a trend to fade.



##### **Regulation is top of mind**

Gensler seems to be taking a hard stance on securities regulation in crypto and we've begun to see applications restrict US users. It's unclear if this will have any effect on the market, but it's possible Bitcoin and Ethereum could benefit as two clear non-securities in crypto.

What is clear is that the crypto community is emboldened after fighting the overbearing crypto proposals in the [infrastructure bill](https://www.cnbc.com/2021/08/11/crypto-lawmakers-fought-over-the-infrastructure-bill-heres-whats-next.html). With a $2.4 trillion market capitalization and support from some of the biggest companies, the crypto industry is now a force to be reckoned with.



##### **Layer 1 battles continue**

The Layer 1 battles are just beginning. Most activity is still on Ethereum, but scaling continues to be an issue. Developer traction is increasing on Solana, but EVM compatible networks have a head start in porting applications.

Ethereum has underperformed other Layer 1s significantly, even amid high network volumes and decreasing inflation. After EIP-1559, which implemented a burning mechanism in association with transaction fees, ETH inflation has trended down from the prior rate of 4%. This is a significant reduction that has yet to affect the price. Ethereum is on track to burn 2.6 million ETH by the end of the year.



![](/images/5-a24f0b39.webp)

###### Source: The Block

****

##### **So-called DeFi 2.0**

DeFi investments skyrocketed in 2020 have stagnated and underperformed ETH. A new crop of products is labeled “DeFi 2.0.” Many of these products are considered the next step in the evolution of decentralized finance: structured products, futures, options, interest rates swaps, insurance, etc. These new products may catalyze a resurgence in the DeFi sector overall.



##### **Eyes on gaming**

Axie Infinity is leading all protocols by 30D revenue as shown below and recently raised $150 million in a round led by a16z. Axie pioneered the model where video game players can earn money simply by playing (play-to-earn). The model has become especially popular in low-income areas where playing Axie can be more profitable than other types of work. There are nearly three billion gamers globally, and the play-to-earn model could make gaming a popular occupation. The next hundred million crypto users may come from the gaming sector.



![](/images/6-87580c9a.webp)



With so many moving pieces and uncertainty, crypto presents local opportunities within the mega trend of adoption. This mega trend is clear. Tech cycles are driven by innovations that disrupt industries and unseat incumbent powers and in doing so, change the world. Telephony, radio, broadcast, film, and now the internet all followed this trajectory. The marriage of cryptography and game theory enables public and open-source blockchains where coordination can happen at scale without the need for an intermediary. This coordination allows us to recreate centralized systems under shared ownership and governance models — collectively, “crypto.”

Crypto is at the intersection of technology, finance, art, social media, gaming, and political science. Crypto is unbundling nearly every corner of the internet. Long the mega trend.



Cheers,

[Phil Bonello](https://twitter.com/PhilJBonello)



Thanks to [Cem Ozer](https://twitter.com/cemozer\_), [Fran Oliva](https://twitter.com/frenplaintext), and [Andres Garcia](https://twitter.com/AndresFGarciaN) for reviewing this post.
