Silvergate

Most likely you haven’t heard of Silvergate Bank. They  exclusively serve cryptocurrency exchanges and OTC desks and late last year they listed on the New York Stock Exchange. In their first full report as a listed entity, they share some encouraging details about the ecosystem as a whole.

Their client base has nearly doubled during the year and they bank almost every major player in the space (including Coinbase). They have a tier one capital ratio of 25% compared to most major banks who operate at around 10%, so it’s conservative stuff.

The point of all this? Well, suspicions still exist that cryptocurrency is all a mirage, many people don’t trust what the major players and companies say. So, it is instructive to a look at what their bankers say, and Silvergate say the industry is growing quickly, has a lot of cash, and processes $33 billion dollars in fiat payments through their bank alone.

Silvergate’s market cap is around US$280m and they operate on a PE ratio of about 9.5x. For a strongly growing company, that seems rather reasonable when Apple trade at 25x. Similar to bitcoin though, the market deems risks in this sector very high and assets are discounted accordingly.

Like Grayscale, Binance, Coinbase & Square, the major operators in this space are growing and they are profitable. Maybe it is a mirage, but your banker won’t tell lies for you and now Silvergate is listed, showing over $2 billion in cash holdings on behalf of clients, we are seeing just how profitable some of these businesses are becoming.

Bitcoin ETF gets closer

The world’s largest bitcoin fund, Grayscale, became an SEC Registrant this week. SEC registration is arguably the highest hurdle a listed company can cross, simply because the reporting requirements and cost involved are enormous and the benefits arguably rather limited (cheaper borrowing being one).

The only reason I can see for going through this pain is that it is on the path to the launch of a bitcoin ETF, particularly as Grayscale has no need to borrow money. This might still be a long time coming but with each hurdle different bitcoin companies cross (futures, options, SEC registrations) it gets closer and closer and the reasons the SEC has for saying “no” get fewer and fewer.

Yield Capping

The Wall Street Journal reports this week that the Federal Reserve is considering ‘yield capping’. This ingenious mechanism will keep the yield on US bonds at a rate below that determined by the Fed, specifically in this case for shorter term bonds. In the US the official interest rate is 1.5% and 2 year bond yields are 1.4%. Let’s say the Fed decides that the 2 year bond yield cannot rise above 2%, because it wants to reinforce the low interest rate. Whenever bond prices fall and the yield starts rising, the Federal Reserve simply buys its own bonds.

This will reinforce the low interest rate and it will put a floor under the price of US bonds and so, from that perspective, it will build confidence in the US bond market.

The only downside with the whole plan is that we are now witnessing the direct monetisation of US debt. The Fed isn’t even pretending anymore, they are just printing money and buying their own bonds. It seems this is a response to the spike in the repo market interest rate late last year. Literally hours after the Fed announced the interest rate in September, the overnight market decided it was six times as high, causing a massive intervention that continues today (and has now been extended “until at least April”). If this policy is enacted the Fed will actually front run such issues because the market knows the Fed will take bonds at a fixed price determined by the fixed yield.

The consequences of the plan will likely be that short term US bonds will become even more popular. In effect it is an insurance policy since the price cannot drop beyond a certain level in order to maintain the target yield. Expect a massive bubble in short term US bonds especially if anything wobbles.  Conversely at the other end of the yield curve, who will want five or ten year bills with the amount of USD being printed to sustain the price of shorter term bonds? The risk of bond auction failures rises with every new measure introduced.

Once again, nobody will complain, since the price of bonds will rise and bondholders will cheer. It will help equity markets too since it will keep a lid on interest rates for a while longer. Three cheers then, for yield capping and debt monetisation.

As far as our funds go, we could not ask for any more. The hotter the presses run the better for us.

Vanguard bond fund

Vanguard investments rather proves the point about bonds. They run the Vanguard Total International Bond ETF.  Currently holding an impressive $25 billion under management with a yield of 0.6%. The low yield results from 40% of the fund being invested in negative yielding French, German and Japanese bonds.  So taking into account inflation at 2%, investors are destined to lose money.  The only way this fund can perform is if bond prices rise further, causing yields to drop further and we have $25 billion in bets at Vanguard alone on that happening.

In fact, globally there are trillions of dollars betting this will happen but it can only happen if interest rates keep falling. So much money and so many people are invested in that happening, so many retirees and so many voters, that it will be made to happen by the Fed because if it doesn’t, the situation doesn’t bear thinking about.

On paper then, bonds look like an awful trade, but in many ways they aren’t. The bond market simply will not be allowed to collapse, or even fall meaningfully. Investors will have their principal protected in nominal terms, but they will be poorer.

On September 30th the bitcoin price touched US$7,830 today it is US$9,500, 20% higher.

Completely false. Best performing asset this year, last year, last 10 years.