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CULTURE

Bitcoin Is The Move

Stanislav Kozlovski
By Stanislav Kozlovski

Why A Bitcoin Investment Is A Massively Underrated Opportunity In Today’s Macro Landscape

Preface

We live in interesting times. With the advances in technology and the proliferation of the internet — software is eating the world. Coming out of the Great Recession — the world had seen massive economic growth in what was close to an 11-year bull run largely dominated by U.S. tech equities.

We live in interesting times. With the advances in technology and the proliferation of the internet — software is eating the world. Coming out of the Great Recession — the world had seen massive economic growth in what was close to an 11-year bull run largely dominated by U.S. tech equities.

Along with that, wealth inequality was increasing, central banks across the world had been expanding their balance sheets and global debt was not set to recover from its unhealthy levels — it was growing.

Then came the Coronavirus pandemic.

That is precisely what it felt like — COVID massively propelled all the aforementioned trends, and more, into overdrive. Data from McKinsey has shown that digital adoption has been driven forward five years in the span of eight weeks.

With all of the economic trends being accelerated, the first set of lockdowns which shut down many businesses across the world and an upcoming second set of lockdowns, many economists fear that we are dangerously close to a global depression.

In such unprecedented and uncertain times, the simple act of protecting your wealth can be challenging.

In this article, we are going to explore some of the options investors have in protecting and growing wealth, the many recent events that changed the dynamics of investing and make the case for an underdog asset with the potential to yield large asymmetric rewards.

Cash Is Trash

hy has money lost value?

In the old days, our monetary system had intrinsic value. It was directly linked to gold.

Post World War II, in 1944, the leading Western powers developed the Bretton Woods Agreement which formed a framework for global currency markets.

Every world currency was valued against the U.S. dollar, and the dollar, in turn, was convertible to gold at the fixed rate of $35 per ounce.

In the so-called gold standard, U.S. citizens could convert $35 at a bank for an ounce of gold. By 1976, this system had been completely abandoned — the tie between dollars and gold was cut entirely.

At that point, we firmly entered into the era of fiat money.

Money was no longer backed by an inherently valuable asset (gold) — it was the trust of the government issuing it that stood behind the money and gave it value.

In an age where money is not tied to anything but the government backing it, said government is free to do whatever it pleases with it.

Such monetary policies are controlled by humans — meaning they are prone to greed and error. History has shown that this often leads to governments devaluing their currencies, most often through inflation.

Inflation is cruel, and complex. When the government introduces more money into the system, it eventually trickles down into the economy. At that point, the people who held cash lost part of their purchasing power.

That’s to be expected, after all. If demand is the same, the price of goods and services is generally proportional to the monetary supply in an economy. That is, if you have $100 and 100 apples in an isolated system, one apple would be worth $1. If you are to double the dollars to $200 and nothing else changes, one apple would logically become worth $2.

From the perspective of a single person, this effect isn’t as obvious. If you had $1 at one point, you believed you had enough to buy one apple. But gradually, apple prices rise to $2 and you get left behind. This is because new money in the system does not spread evenly.

If you were to hold your dollar throughout the rise, you would have lost 50 percent of your purchasing power.

A peculiar thing can be observed in markets:

Denominated in gold, the S&P 500 had the same price in February 2007 as it did in November 2019, despite the respective nominal prices in dollars being $1,444 and $3,176.

If you were to sell a share of the S&P 500 in 2007 for $1,444 and held it until November 2019, you would not be able to buy the same share of the S&P anymore — only half. Conversely, if you were to sell a share of the S&P 500 for 2.12 ounces of gold at that time, in November 2019 you could have rebought that S&P share.

Again, if you were to hold your dollar throughout the rise, you would have lost 50 percent of your purchasing power.

While demand and market narrative certainly play a role, a driving cause is the increase of money in the system. For the S&P 500 to grow 100 percent and keep the same price in ounces of gold, it would mean that the price of gold must have risen at the same rate.

While it recently has been the subject of market manipulation, gold’s price rises with inflation in the long term.To help drive the point — look at the monetary supply of U.S. dollars. It has more than doubled from February 2007 to November 2019, just like gold and the S&P 500’s price.

This has a lot to do with money printing — a trend that helped get us out of the last recession, lower unemployment to its lowest mark in history and helped fuel this historical bull market.

This trend was also greatly accelerated by the virus.

Post-COVID Monetary Supply

During the initial COVID-19 shock and lockdowns, the stock market saw its fastest fall in history and the most devastating crash since the Wall Street Crash of 1929 — the so-called “Coronavirus Crash.”

This shock put the central banks and governments in a dicey position — they were forced to provide monetary stimulus in order to both stabilize the markets and provide relief to the unemployed, low-income families and small businesses.

And so they did — the U.S. passed a $2.2 trillion stimulus package, most notably going toward:

  • $600 extra per week going to the unemployed
  • $1,200 checks sent to every American earning less than $99,000/yr
  • A controversial $500 billion in loans to large corporations
  • $377 billion in zero-interest loans for small businesses that can be forgiven

The progress of the stimulus can be tracked via https://www.covidmoneytracker.org.

The rest of the world also printed massive amounts — e.g., Europe approved a €750 billion purchase program.

It’s worth taking a moment to pause and digest how large these numbers are.

One trillion is 1 million million — 1,000,000,000,000, or one thousand billions ($1,000 billion).

This is large both in absolute and in relative terms — our monetary supply was close to $15.5 trillion before COVID. This is most evident in the sudden rise of the U.S. monetary supply:

In essence, we saw the M2 Money Stock increase by more than $3,000 billion (20 percent) in six months (March to September 2020) as much as it did in the previous four years, from 2016 to 2020.

This was because in six months, the Federal Reserve printed more money than it did during the decade after the 2008 financial crisis.

  • On January 1, 2009, it had $2.12 trillion on its balance sheet
  • It started 2020 with $4.17 trillion
  • By June 2020, its balance sheet was at $7.16 trillion

Fed Actions

Central banks typically have two main levers they can pull in order to speed up the economy — they can lower interest rates and they can print money (quantitative easing).

The shock from COVID put the central banks in a dicey position — they were forced to provide monetary stimulus in order to stabilize the markets.

To start with, they lowered the U.S. interest rate to an all-time low target of 0 to 0.25 percent in March.

The world mostly followed — Australia and the Bank of England have both cut their rates down to a record low of 0.1 percent. Some others banks, like the European Central Bank and Bank of Japan, already had negative rates.

Technically, the Bank of England also dipped its toes into negative territory in May.

It seems like the whole world is a feather away from negative rates, a highly-debated and controversial topic.

Finally, it’s worth mentioning that the Fed foresees such rates until at least 2023. A representative has recently been quoted as saying that “they’re not even thinking about thinking about raising rates.”

When the Federal Reserve raises the federal funds rate, newly offered government securities (treasury bills and bonds, widely regarded as the safest investment) usually experience an increase in returns.

In other words, the risk-free rate of return goes up, making these investments more desirable.

Conversely, if rates fall — the risk-free rate decreases.

Additionally, interest rates have an inverse correlation to bond prices, so the more rates fall, the more expensive bonds become and therefore the less they yield.

Both of these incentivize income-oriented investors seeking higher returns to flock to riskier bets.

During the pandemic, the Fed also started buying corporate bonds. Additionally, it also abolished the fractional reserve requirements of banks, a key factor in fractional reserve banking.

Instead, it has shifted to an ample-reserves system, in which the Fed pays member banks interest on reserves that they keep in excess of the required amount.

This all goes to show that we are living through a period of unprecedented monetary policy. If anything, this novelty will likely continue as the International Monetary Fund is urgently calling for a reform of global debt and even asking for a new Bretton Woods-style agreement.

Monetary Supply Outlook

The current flurry of printing is not likely to stop anytime soon.

As of writing (just seven months after the last stimulus) the U.S. is currently negotiating a new package and Europe just hinted at a new package come December. After all, COVID is not over and winter is coming — we may be in for the largest infectious wave yet.

Back in March, the Fed was quick to assure us that it had an infinite amount of cash and that they were ready to do whatever it takes to ensure banks have enough capital.

https://twitter.com/Ben__Rickert/status/1242007814186254336

For decades, part of the Fed’s job was to keep inflation at reasonable levels.

In August it changed its policy to instead prioritize maximum employment. They’re saying they will prioritize low unemployment rather than low inflation. This is a historic shift and profoundly consequential.

Consequential not only for the US.., but also for all of the other central banks in the world that largely follow the Fed. It opened the door for high future inflation throughout the world.

All signs are pointing to the fact that the Fed will act as a constant guardian against unemployment and, therefore, recessions.

If anything, with the rise of market fragility (as we discuss later) some people are predicting that the Fed will have to resort to buying stocks in the future. That’s not far off, especially when it recently started buying corporate bonds and elected officials from the Fed indirectly admit that they are unlikely to be able to stop manipulating the market. By all accounts, it seems like the Fed is trapped — the market is so fragile that the smallest of chips could trigger an avalanche of economic devastation.

Such monetary policies and market interventions carry risk with themselves.

Recency bias tells us that high inflation is unlikely, but an investor only needs to go back to 1980 when the U.S. had an official inflation rate of 10 to 14 percent.

The low inflation rates of today can be explained with the fact that technology is such a massive deflationary force that it’s combating the inflation to reasonable rates.

If you expect an annual 2 percent inflation, which is what most governments target, then the value of your money is halved over 35 years due to the power of compounding.

It is arguable whether these numbers will continue to hold given the policy shift, the 2020 explosion in stimulus and likely continuation into 2021. There is also a separate argument to be made about whether the 2 percent inflation number is accurate at all and whether everybody experiences inflation the same way.

By all accounts, the last couple of decades have shown that holding cash yields no long-term benefits.

The only attractive use case for cash is to take advantage of short-term opportunities — something that is hard to time correctly and unlikely to be done by non-professionals.

If cash is trash, and all the facts are pointing that it’s going to continue to be so for the foreseeable future, then any astute investor would try to move their capital outside of cash and into assets.

In other words: don’t sit on cash!

Assets

Now that an investor is forced to preserve his wealth in assets, the question becomes which assets are the best to pick?

There are many and a lot can be written about the topic, but for purposes of brevity we will go over two very popular ones — stocks and bonds.

Equities

One very common and lucrative asset is company stock.

Economists love and hail shares because they are considered a productive asset — it is something that is working daily to increase its value.

The opportunity and the productivity is partly why the global stock market today is worth close to $100 trillion — a roughly 100 percent increase from 10 years ago (remember how big a trillion was?).

Unfortunately, we are at a very wobbly place in the markets. There is an extremely wide dispersion of revenue multiples between the highest and lowest valuation stocks. The spread ranks in the ninety-third percentile since 1980.

Dangerously Close To Bubble Territory

A growing concern among many is the likelihood that the stock market is in a bubble right now. It’s worth referring to Investopedia’s definition of a market bubble:

This definition is not far off from what we’ve seen so far in 2020. There have certainly been some stocks that have exploded in growth, whose price has greatly exceeded their intrinsic value.

More concretely, we’ve seen some record large price-to-earning (P/E) ratios, mostly in tech stocks, although all growth stocks have been benefitting.

The market has somewhat normalized overvaluing high-growth stocks with many times the actual money they bring in — this is in the hopes that they are positioned to grow and dominate their industry.

Some analysts see these valuations at dot-com bubble levels and are rightfully reluctant to chase the rally.

For example, tech stock P/E ratios were considered in the “normal” range at around 30 — already twice the 15 P/E historical average of the S&P 500.

A large number indeed, but one that has been blown out of the water given some recent highs. We will now go over a selection of popular big-name stocks with absurd P/E ratios:

  • Zoom later settled at a P/E ratio of 647
  • AMD at a P/E ratio of 153
  • Etsy at 117.
  • NVIDIA at a recent high of 100.

While we’re not meant to cherry-pick stocks, it seems like most companies are at recent P/E ratio highs. The whole market’s P/E ratio is the highest it’s been since 1999.

But wait, there’s more!

Because unprofitable companies can’t have a P/E ratio (no earnings), we will look at their valuation compared to their TTM Revenue — the so-called “Price–Sales” ratio (P/S).

It is generally expected that P/S ratios are lower than P/E ratios, since they are measured for a company that is not even profitable yet.

Freshly after going public in June, Nikola was off the charts, reaching a P/S ratio of 66,000 (!!!) at a $29 billion market cap, with only $0.44 million in revenue.

Later, a short seller exposed it to be a fraud — something that even got the U.S. government investigating the company. As of this writing, this stock was still trading at a 19,000 P/S ratio.

We continue with our roundup of questionably valued stocks:

While these numbers certainly pale in comparison with Nikola’s astronomical bubble, it is worth remembering that P/S ratios are a worse indicator than P/E, because the companies are not even profitable yet.

Some experts consider a P/S larger than four as unfavorable.

Take a moment to breathe and digest the numbers presented here, perhaps by going over the section again. These are historical numbers that have been normalized by recent market speculation.

This has resulted in a large dispersion and narrower breadth in the markets. That is, a relatively small group of stocks are driving the upside in the market.

This has resulted in a large dispersion and narrower breadth in the markets. That is, a relatively small group of stocks are driving the upside in the market.

Often, narrow rallies lead to large drawdowns as the handful of market leaders have a high chance of failing to generate enough fundamental earnings strength to justify the elevated valuations and investor crowding for long.

Historically, sharply narrowing breadth has signaled below-average S&P 500 returns as well as larger-than-average prospective drawdowns.

Regardless, some people are resourceful and are making use of the situation. A record number of companies are IPOing in 2020.

As of this writing, there have been 365 IPOs on the U.S. stock market this year. That is 73 percent more than at the same time in 2019.

Others are taking advantage of their pricy stock in order to acquire smaller companies.The Market Is Open To Newbies

The Market Is Open To Newbies

There are multiple theories as to what is causing this price distortion — one of them is the recent influx of retail investors into the market.

During the pandemic, the daily trading activity and number of new signups for online brokerages has more than doubled. A lot of brokerages had trouble keeping up with the traffic.

Robinhood, for example, gained 3 million customers from the January to May period and is predicted to have added at least 5 million year-to-date. This would be 50 percent user growth on top of its already-large 10 million user base.

Many people apparently found themselves day trading in their homes as a means to pass the time. That is reasonable, given the zero commissions on trades, the $1,200 government checks sent to people, the beefed up unemployment benefits, massive volatility in the stock market that is likely to attract people and the fact that other venues for gambling like sports betting were closed.

Look no further than Dave Portnoy, who rose to Twitter fame livestreaming his day-trading activities, gaining 700,000 followers since the start of the year.

https://twitter.com/stoolpresidente/status/1280138497366667265

Other online communities have also grown massively. Reddit’s /r/wallstreetbets subreddit has gained 800,000 followers, doubling to 1.6 million year-to-date.

This horde of new investors can explain the questionable movements in the market, like zombie firm Hertz’s stock soaring after bankruptcy.

Hertz made use of the situation and got approval to sell an additional $1 billion in stock even though it itself warned that the shares are likely to be worth nothing.

Similar things happened to companies like Chesapeake, which filed for bankruptcy, owing $9 billion, but saw a spike in new user positions due to its price rising because of a 1-to-200 reverse stock split.

If it were not for the stock split, shares are predicted to have been worth around 8 cents.

It is intriguing to see what effect these stock splits have on the market’s perception of a stock.

Tesla also did a normal 1-to-5 stock split at the end of August after its stock has been skyrocketing all year, for no reason, reaching the massively inflated 1,019 P/E ratio we alluded to earlier.

Perhaps the split had an effect, because Tesla subsequently saw a record amount of trading in September.

To best end this section, let us explore failing company Kodak, whose stock soared as much as 2,189 percent (!) in two days after the company announced it received a government loan to make drug ingredients to help with the pandemic.

Retail traders piled onto the stock in just a couple of days, driving it up.

Unfortunately, they got wiped out in record time as well.

It is hard to deny that retail investors have a role in some of these irrational rallies.

Bloomberg analysis says individual investors account for 20 percent of daily volume.

Such widespread speculation is likely to cause volatility in the market given that these speculators are quicker to enter and exit stocks than the average person.

It is theorized that these investors have an outsized impact because online brokerages like Robinhood are selling their order data in real-time to hedge funds like Citadel, which are leveraging high-frequency trading bots to front-run the retail investors, amplifying their impact on price in the process.

In any case, these extreme examples showcase that there is a decent amount of irrationality in the markets today, likely spread out to most stocks.

That being said, some people are realizing the ludicrousness in the market.

You know you’re in a weird market when CEOs publicly admit that their companies are overvalued.

Bonds

We’ve concluded that the stock market is at unprecedented levels right now and therefore risky — it would be prudent for us to find something safer.

Bonds have traditionally been considered a safe bet — an incredibly popular portfolio allocation has been the so-called