Hey there!
Has the month of June flown by or what? A little crazy to think the fourth of July is this upcoming weekend, but here we are! The markets were pretty exciting this month. Equity markets saw some strong momentum carrying us higher throughout the month while Bitcoin and broader crypto markets, not so much. Let’s talk about it and what you should be thinking about in this environment.
First though, these newsletters are meant to be informational and educational only. They are not financial advice, and I am not a financial advisor. Always do your own research before investing any of your hard-earned money into something!
Monthly Highlights
· Inflation persists but the Fed gives the green light for gains in the equity markets
· Bitcoin on the global stage
Index Year to Date Gains Through End of June
· S&P 500 +16.25% (+2% mo./mo.)
· Nasdaq +14.6% (+6.5% mo./mo.)
· Dow Jones +14.2% (-0.5% mo./mo.)
· Russel 2000 +19.6% (+1.8% mo./mo.)
· Bitcoin +26.25% (-1% mo./mo.)
· Ethereum +205% (-14%% mo./mo.)
Inflation Persists – Markets Get the Green Light
Inflation has been the talk of the town recently. We have seen companies cite rising costs and supply restrictions as reasoning for price increases in their products in a multitude of quarterly earnings reports. I’m sure you’ve noticed it yourself. Whether it’s the price increase in your Chipotle order, your diet-coke, groceries, used cars, required building materials for a project or virtually any other consumer good, price increases have been seen across the board.
Housing data released this week shows that housing prices have risen the most year over year in 30 years! The June FHFA House Price Index report shows a rise of 1.8% month over month vs the consensus of 1.2%. This puts us +15.7% year over year vs 13.9% prior.
Check out the report here: FHFA House Price Index Report
What that means is that housing prices on average have risen 1.8% in the past month alone.
In previous newsletters I spoke about the consumer price index (CPI). This is used to calculate inflation experienced by consumers through basic consumer needs. The CPI only considers consumer good prices for households such as food, shelter, and clothing. The CPI does not include data for manufacturing, raw materials, or asset appreciation.
This is a problem because inflation does not only show up in consumer goods prices, but also affects asset prices like stocks, bonds, real estate, etc. For first time home buyers, a 1.8% increase over a month in the property they are pursuing can easily price them out of the market.
Regardless of the flawed CPI metric, the data presented within it is still alarming. Over the last 12 months, the all-items index increased 5% before seasonal adjustment; this was the largest 12-month increase since a 5.4% increase for the period ending August 2008.
Keep in mind the data has been trending up every month since January, when the 12-month change was 1.4%.
The index for all items less food and energy rose 3.8% over the last 12-months, the largest 12-month increase since the period ending June 1992. The energy index rose 28.5% over the last 12-months, and the food index increased 2.2%.
Here’s the report: CPI Report
Ok so this is insane. We have an already flawed inflation metric showing us a 5% inflation number.
All things considered the true inflation rate we are seeing is without a doubt north of 5% for the middle class. Furthermore, the true inflation rate for the bottom 10% of Americans is more accurately over 10%.
The poor and middle class are continuing to see their purchasing power decrease in this insanely inflationary environment. Many will be priced out of opportunities to better their lives like purchasing a home or car and will continue to see their living conditions deteriorate with higher consumer prices and low wages.
For those paying attention to the Federal Reserve comments on inflation expectations, its laughable to hear them continuously tweak the narrative on the economic reality.
When the stimulus started flying last year the Fed strongly insisted inflation was not an issue and was under control. As time has gone by however, the Fed has dramatically shifted their tone.
We went from “There’s no inflation!” to “Inflation may be higher than we projected.” to “Any inflation we see will be temporary.” to now,
“Inflation may be more persistent and permanent.”
That’s quite the full circle on expectations. Like I said previously, once the genie is out of the bottle there’s no putting it back in. Inflation is here and prices certainly are in no place to come back down significantly anytime soon.
What’s also laughable is now the Fed is pushing data from the “Trimmed Mean PCE Inflation Rate” rather than the CPI. This rate is an alternative measure of core inflation in the price index for personal consumption expenditures (PCE).
Why are they doing this? Well, the data is a little better showing 3.9% inflation rate year over year. Still not great…They are literally removing datasets and deciding what should and should not be included in an inflation measurement to fit their agenda. Not a good look.
Market Gets the Green Light
Alright so with all this inflation clearly occurring, why did the market rally 2% over the past month? What we saw over the past month is a digestion of inflation expectations from investors coupled by some re-assurance from the Federal Reserve and easing of treasury yields.
Through numerous statements by the Federal Reserve this past month, indication was given that not only do they expect inflation to occur and be more persistent, but they will not act by raising interest rates or even tapering asset purchases until a strong labor market is consistently presented in the jobs report data. They also indicated they would be extremely transparent in their intended actions ahead of time. These statements are what allowed markets to trend higher over the past month.
Right now, interest rate hikes are being projected occurring in late 2022 and 2023. With Fed intervention being pushed further out, markets have been free to rally alongside inflation.
The larger concern for investors presently is when will the Fed will start tapering their asset purchases. Keep in mind the Federal Reserve is buying BILLIONS of dollars’ worth of treasuries and mortgage-backed securities monthly, ever expanding their balance sheet.
It’s somewhat ironic that the housing market is extremely hot, yet the Federal Reserve feels the need to continuously plow BILLIONS of dollars into mortgage securities monthly. Tapering these purchases is the first step in “normalizing” their balance sheet and leads us ever closer to an actual rate hike.
Investors will be keeping a close eye on jobs data moving forward, looking to see if any significant changes prompt the Federal Reserve to consider tightening monetary policy sooner than expected. If unemployment remains high and new jobs numbers remain sub-par, equity markets could see continued upside in the mid-term.
Again, the Federal Reserve is looking for strong jobs’ growth and sustained data. Any blowout job numbers may prompt a market pull back with tech and growth names leading the plunge in particular. Especially so if we continue to trend higher in the near term without any downside momentum. For now, investors have turned a blind eye to the inevitable effect’s inflation will have as time progresses.
I fully expect the market to throw a tantrum when the Federal Reserve actually starts to “normalize” perhaps even later this year. We could see a significant amount of downside depending on how the jobs market outlook evolves. Definitely worth keeping an eye on.
It also doesn’t bode well for continued upside given the S&P500 has had the best 6 month start to a year since the early 90’s. We are already up over 16% on the year.
Bitcoin on the Global Stage
Ok Bitcoin has had an absolute historic month. The start of June kicked off “Bitcoin Miami”, a conference dedicated to all things Bitcoin with huge name key-note speakers and tons of attendees. It was during this conference that Jack Mallers, CEO of ZAP, announced he had been working with the El Salvadorian government to adopt Bitcoin as legal tender through the utilization of the Bitcoin lightning network. His announcement was followed by a speech by El Salvadorian President Nayib Bukele and his intention to present legislation to Congress in the coming week.
A week later the El Salvadorian Congress passed the legislation officially making Bitcoin legal tender. The law is set to go into effect September 7th, with the government airdropping $30 worth of Bitcoin to every citizen.
This is an absolute game changer. Especially so for poor countries, countries that have been impacted by hyper-inflation, and countries with a large percentage of unbanked citizens.
As in many countries in the developing world, nations in Latin America are intermittently beset by political and economic crises and the crippling hardships caused by them. In the face of soaring inflation and in the absence of traditional banking services for large swathes of the population, Bitcoin is being embraced as a solution.
It may not be as obvious to those living in the U.S., but in Latin American countries where you have a combination of inflation or hyperinflation cycles and then you have very high friction for financial transactions and a high percentage of people who are unbanked, Bitcoin makes total sense. You only need to have a phone really to use it, and in these countries most people do have phones.
For example, approximately 70% of El Salvador does not have access to traditional financial services, yet most have phones. Bitcoin allows individuals to be their own bank.
It also allows for individuals to have basic property rights that are unimpacted by government policy and foreign government monetary influence.
Furthermore, Bitcoin allows remittances from family living in the US to be sent back home across borders without unfair tax implications or fees eroding most of the purchasing power being sent.
As with most developing nations, Latin America and El Salvador particularly are heavily reliant on remittances. In 2019, transfers using traditional money totaled nearly $6 billion in El Salvador, around a fifth of their total GDP and one of the highest ratios in the world, according to the World Bank.
With Bitcoin eliminating a lot of the unjust cost associated with sending money home, families living in El Salvador will be able to keep significantly more of their purchasing power. Not only will this raise the living quality for its citizens, but remittance transfers from Bitcoin alone is expected to significantly upsize El Salvador’s GDP. This outcome can be replicated in almost every developing nation.
Game theory is now vividly on display and El Salvador is the first domino to fall in the inevitable adoption of the Bitcoin standard. Shortly after the announcement by El Salvador, we witnessed politicians from numerous other South American and even African countries openly embrace the idea of adopting Bitcoin as legal tender. Countries like Paraguay, Mexico, Panama, Argentina, Tanzania, and Venezuela, to name a few, have all shown support with many politicians intending to propose similar legislation in their respective homelands. Looking back on history we will point to El Salvador’s official adoption of Bitcoin as legal tender as an absolute game changer for the asset.
However, as smaller, and poorer countries look to adopt Bitcoin as a way to liberate themselves from financial oppression, larger authoritative countries are imposing restrictions and bans.
China Deals Itself a Massive Self-inflicted Wound
Leave it up to China to try to kill Bitcoin for the thousandth time. I spoke a lot last month about the mining power coming out of China and their moves to crack down on the energy it consumes. Since then, China has aggressively pushed most mining operations to fully shut down. This is causing the largest drop in the network processing power (hash rate) Bitcoin has ever witnessed.
The beauty of the Bitcoin network is that the ability for active miners to actually mine blocks lies within the difficulty ratio of the network. As more miners come online or go offline for that matter, the difficulty in the ability to mine blocks adjusts to allow for a 10-minute block creation schedule. The network performs a self-adjustment roughly every two weeks to stay on track.
With the massive amount of processing power going offline in China, we are set to experience the largest network difficulty decrease in Bitcoin history. The adjustment is set to occur in a few days and will make it roughly 25% easier for active miners to pursue profits. That’s right, the China shut down has instantly made it 25% more profitable for active miners around the world.
So here we have a massive infrastructure upheaval (the largest in history) and yet the Bitcoin network has been able to continuously run at 100% up time with no issues whatsoever and absolutely no compromise to network security. I can’t think of any other infrastructure system that can suffer a 25% power loss and continue to run 100% uninterrupted.
Processing power that has been pushed out of China will quickly find a home in more accommodative countries. Miners are quickly relocating their farms and will actively be re-deploying their processing power in short order. It should be expected for the network hash power to begin to trend back up as mining farms become operational once again.
This self-imposed ban from China will prove to be a massive geopolitical mistake and a brutal a self-inflicted wound.
One historical example of self-inflicted wounds is internet access in North Korea. According to Wikipedia, “Internet access is available in North Korea, but is only permitted with special authorization. It is primarily used for government purposes, and also by foreigners. The country has some broadband infrastructure, including fiber optic links between major institutions. Online services for most individuals and institutions are provided through a free domestic-only network known as Kwangmyong, with access to the global Internet limited to a much smaller group.”
The country’s leadership essentially made the decision that the internet would only be used by the government and ruling family. The everyday citizens and business owners are not allowed to access the open internet without special permission. However, they are allowed to use an intranet that mimics the value proposition of the internet yet has none of the freedoms or true value that an open system provides.
It doesn’t take a rocket scientist to see that the decision from North Korea has been a big mistake. They chose to pursue authoritarian control of the country and population over economic prosperity. While this likely has been a key decision to consolidating power, it has spelled disaster for the citizens of the country.
China is in the process of repeating this mistake with Bitcoin.
This move by China is a significant blow to the Bitcoin critics as well. The anti-bitcoin argument historically revolved around China’s market share of mining or the ability for the country to control/manipulate the network. As we are watching miners move out of the country, this argument is becoming even more invalidated. China doesn’t control Bitcoin and it never has.
The free market of economic incentives will always lead Bitcoin miners to seek the lowest cost power, specifically in regions where there is the greatest political and regulatory stability.
The United States is a massive winner in this situation. While China is losing market share in bitcoin mining, the United States is gaining market share. It won’t necessarily be one-for-one because some Chinese miners will not come to the US, but it is hard to argue any country is going to benefit more from this than the United States.
China has chosen a path that will become an obvious self-inflicted wound, while simultaneously handing a large, non-violent victory to a Western superpower. It may not be obvious for years, but this is what we are watching occur in real-time.
Historians will write that China had a majority of hash rate within their geographic borders, yet they made decisions that pushed that hash rate into more democratic and capitalistic societies. Just as North Korea chose to embrace the internet only for the elites, China is making a similar mistake here.
As if that wasn’t bad enough, China’s plan for a nation state digital currency is similar to North Korea’s internal “internet.”
Open systems beat closed systems all day. The Chinese approach of banning an open monetary network in pursuit of a tightly controlled monetary system is unlikely to be seen as an advantageous strategic move for their citizens. Just like North Korea, this decision will be helpful in continuing to consolidate power and ensure the longevity of the dictatorship.
The United States has chosen to embrace the open monetary system. It is crucial that we continue to encourage our political and regulatory leadership teams to become the global leader in this open monetary network. Whether we embrace it or not, the bitcoin network will be adopted by countries around the world.
This is the beauty of bitcoin. It doesn’t care about geopolitics. It doesn’t care about monetary policy. It doesn’t care about sentiment. The bitcoin network will continue to produce block after block after block of transactions. The network will continue doing what it was designed to do; provide a decentralized payment system that can be used by anyone in the world with an internet connection.
Despite weak price action out of Bitcoin over the past month, we are truly on the way to a global adoption of the asset class. With time the asset will appreciate substantially and those who embrace this open network system will be rewarded greatly. Take a step back and look at the long term and bigger picture. Bitcoin has already won and there is nowhere to go but up.
Final Thoughts
The markets appreciated substantially through June. Although July is historically one of the strongest months of the year, don’t assume the upward momentum will continue forever. Job’s data and inflation expectations coupled by the Federal Reserve’s statements and actions will drive the price action moving forward. Be patient in your endeavor to put your money to work and stay diligent in your understanding of market sentiment.
Continue to take the time to learn about Bitcoin and the impact it is going to have on the world. It is here to stay. Zero exposure to the asset is the wrong answer.
With that said, we live in an age where education and information on anything we want to know is accessible at our fingertips through the internet. You owe it to your future-self to become educated in money management.
By signing up for this newsletter you have already taken steps to accomplish that. Stay consistent on your journey and don’t stop learning.
Thank you for spending the time to read this month’s newsletter! Enjoy your fourth of July!
Bryan Craig
Lefty Group Capital Chief Investment Officer
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