Original title: Sasa

Original author: Arthur Hayes, founder of BitMEX

Original translation: Deng Tong, Jinse Finance

The remote areas of Hokkaido ski resorts have superior terrain, most of which can be reached by cable car. In the early skiing season, the most concerning question is when the snow will be sufficient for the ski resorts to open. Skiers face the problem of bamboo everywhere in the bamboo forest. The stems of the bamboo are thin, resembling reeds, but they have sharp green leaves that can cut your skin if you are not careful. Trying to ski in a bamboo forest is dangerous because your edges may slip, putting you in what I call a 'game of man vs. tree.' Therefore, if the snow is insufficient to cover the bamboo forest, the remote areas become extremely dangerous.

The snowfall in Hokkaido has not been seen in nearly seventy years. The snow is thick. Therefore, the remote areas opened their doors in late December instead of the first or second week of January. As 2025 approaches, the question in the minds of cryptocurrency investors is whether the policies that Trump wants to implement can be sustained. In my latest article (Arthur Hayes' new article: The best investment under Trump’s policies is to hold Bitcoin, and the bull market should be bought on dips), I believe that the high expectations for actions from Trump’s camp have disappointed the market. I still see this as a potential negative factor that may put pressure on the market in the short term, but conversely, I must balance this with the liquidity impulse of the dollar. For now, Bitcoin will swing along with the changes in the issuance pace of the dollar. The monetary officials at the U.S. Federal Reserve (Fed) and the U.S. Treasury determine the amount of dollars supplied to the world financial markets.

Bitcoin bottomed in the third quarter of 2022 when the Federal Reserve's reverse repurchase mechanism (RRP) peaked. At the request of U.S. Treasury Secretary Yellen (Bad Gurl Yellen), her department issued fewer long-term coupon bonds and more short-term zero-coupon notes, draining over $2 trillion from the RRP. This was a liquidity injection into the global financial markets. Cryptocurrencies, especially large tech stocks listed in the U.S., therefore fell sharply. The chart above shows Bitcoin (LHS, yellow) against RRP (RHS, white, inverted); as you can see, as RRP falls, Bitcoin rises.

The question I intend to answer is whether the positive dollar liquidity impulse can suppress people's disappointment about the speed and impact of Trump’s so-called pro-crypto and pro-business policies at least until the first quarter of 2025. If so, then it is safe to tear it apart, and Maelstrom should increase its risk on the books.

First, I will discuss the Federal Reserve, which is a secondary consideration in my analysis. Then, I will discuss how the U.S. Treasury will respond to the debt ceiling. If politicians hesitate to raise the debt ceiling, the Treasury will cut its general account (TGA) at the Fed to inject liquidity into the system and create positive momentum for cryptocurrencies.

For the sake of brevity, I will not explain why the debits and credits of the RRP and TGA are negative and positive for U.S. dollar liquidity, respectively.

Federal Reserve

The pace of the Federal Reserve's quantitative tightening (QT) policy continues at a rate of $60 billion per month, meaning its balance sheet size is shrinking. The Fed's forward guidance on the pace of quantitative tightening has not changed. I will explain the reasons later in the article, but my prediction is that the market will peak in mid-to-late March, which corresponds to a reduction of $180 billion in liquidity due to quantitative tightening from January to March.

The RRP has fallen to nearly zero. In order to completely exhaust this tool, the Federal Reserve belatedly changed the policy interest rate of the RRP. At the meeting on December 18, 2024, the Fed lowered the RRP rate by 0.30%, which is 0.05% more than the reduction in the policy rate. This links the RRP rate to the lower bound of the federal funds rate (FFR).

If you want to know why the Federal Reserve is waiting until the RRP is almost exhausted to readjust interest rates to the lower bound of the FFR and decrease the attractiveness of depositing money into that tool, I urge you to read Zoltan Pozar's article 'Teach Me Daddy.' My conclusion from his article is that the Federal Reserve is exhausting all means to stimulate demand for U.S. Treasury issuance before resorting to halting QT, re-allowing supplemental leverage exemptions for U.S. commercial banks, and possibly resuming quantitative easing (QE), a.k.a. 'the money printing machine starts running.'

Currently, there are two pools of funds that will help control bond yields. For the Federal Reserve, the 10-year U.S. Treasury yield cannot exceed 5%, as this is the level at which volatility in the bond market erupts (MOVE index). As long as there is liquidity in RRP and TGA, the Fed does not need to make significant changes to its monetary policy and acknowledge fiscal dominance.

Once the TGA is depleted (positive dollar liquidity) and subsequently replenished due to the debt ceiling being reached and then raised (negative dollar liquidity), the Federal Reserve will no longer take measures to prevent yields from rising in an unstoppable trend after deciding to start a loosening cycle last September. This is not important for the dollar liquidity situation in the first quarter, but it is merely a consideration of how the Fed's policy may change later this year if yields continue to rise.

The comparison of the FFR upper bound (RHS, white, inverted) with the U.S. 10-year yield (LHS, yellow) clearly shows that as the Fed lowers rates in a situation where inflation is above its 2% target, bond yields have risen.

The real question is the speed at which the RRP falls from about $237 billion to zero. I expect it to reach near-zero levels at some point in the first quarter as money market funds (MMFs) maximize their yields by withdrawing funds and purchasing high-yield Treasury bills (T-bills). It is very clear that this represents an injection of $237 billion in dollar liquidity in the first quarter.

After the RRP rate adjustment on December 18, the yield on Treasury bills with maturities of less than 12 months is above 4.25% (white), which is the lower bound of the FFR.

The Federal Reserve will withdraw $180 billion in liquidity due to quantitative tightening policy and encourage an additional $237 billion in liquidity because the Fed's adjustment of reward rates has led to a reduction in RRP balances. This totals a net injection of $57 billion in liquidity.

Treasury

Yellen told the market that she expects the Treasury to begin taking 'extraordinary measures' to fund the U.S. government between January 14 and 23. The Treasury has two options for how to pay the government's bills. They can issue debt (negative dollar liquidity) or spend funds from their checking account at the Federal Reserve (positive dollar liquidity). Since the total amount of debt cannot increase until Congress raises the debt ceiling, the Treasury can only spend funds from its checking account TGA. Currently, the TGA balance is $722 billion.

The first significant assumption is when politicians will agree to raise the debt ceiling. This will be the first test of how much support Trump has among Republican lawmakers. Remember, his governing advantage—i.e., the slim majority of Republicans over Democrats in the House and Senate—is very weak. There is a faction in the Republican Party that loves to puff out their chests, strutting around claiming they care about shrinking the bloated government, every time the debt ceiling is discussed. They will hold firm to vote for an increase in the debt ceiling until they deliver rich returns to their own constituencies. Unless the debt ceiling is raised, Trump will be unable to persuade them to veto the spending bill at the end of 2024. Democrats will be less willing to help Trump release government funds to achieve his policy goals after being beaten badly in gender-neutral bathrooms in the last election. Is there support for Harris in 2028? In reality, the Democratic presidential candidate will be the silver fox Gavin Newsom. Therefore, to get the job done, Trump would wisely exclude the debt ceiling issue from any proposed legislation unless absolutely necessary.

When not raising the debt ceiling leads to a technical default on maturing Treasuries or a complete government shutdown, raising the debt ceiling becomes necessary. Based on the Treasury's published 2024 revenue and expenditure data, I estimate that this situation will occur between May and June of this year, when the TGA balance will be completely depleted.

Visualizing the speed and intensity at which TGA is used to fund the government and predicting when withdrawals will have the greatest impact is helpful. The market is forward-looking. Given that these are public data, and we know how the Treasury operates when accounts are close to depletion and cannot increase the total U.S. debt, the market will look for new sources to obtain dollar liquidity. With 76% consumption, March seems to be when the market will ask, 'What’s next?'

If we sum the amounts of U.S. dollar liquidity at the Federal Reserve and the Treasury at the end of the first quarter, the total is $612 billion.

What will happen next?

Once default and shutdown are imminent, a last-minute agreement will be reached to raise the debt ceiling. At that point, the Treasury will be able to borrow net freely again and must refill the TGA. This will be negative dollar liquidity.

Another important date in the second quarter is April 15, when taxes are due. As seen from the table, the government's financial situation improves significantly in April, which is negative dollar liquidity.

If the factors affecting the TGA balance are the only determinants of cryptocurrency prices, then I expect a market top to occur at the end of the first quarter. In 2024, Bitcoin will hit a local high of about $73,000 in mid-March, then consolidate, and start a months-long decline before April 11, the 15th tax deadline.

Trading strategy

The problem with this analysis is that it assumes that U.S. dollar liquidity is the most important marginal driver of global fiat currency liquidity. Here are some other considerations:

- Will China accelerate or slow down the creation of RMB credit?

- Will the Bank of Japan start raising policy rates, thereby appreciating the dollar against the yen and unwinding leveraged arbitrage trades?

- Will Trump and Besant significantly devalue the dollar against gold or other major fiat currencies overnight?

- How effective will the Trump team be in rapidly cutting government spending and passing legislation?

These major macroeconomic issues cannot be known in advance, but I am confident in the mathematical principles behind the changing RRP and TGA balances over time. The market performance from September 2022 to now has further strengthened my confidence: despite the Federal Reserve and other central banks raising interest rates at the fastest pace since the 1980s, the increase in dollar liquidity due to the decline in RRP balances has directly led to the rise in cryptocurrency and stock prices.

The FFR upper bound (right, green) vs. Bitcoin (right, magenta) vs. S&P 500 index (right, yellow) vs. RRP (left, white, inverted). Bitcoin and stocks bottomed in September 2022 and rose as over $2 trillion in liquidity was injected into global markets with the decline of RRP. This was a deliberate policy choice by Bad Girl Yellen to issue more Treasury bonds to exhaust the RRP. Powell and his actions to tighten the financial environment to combat inflation completely failed.

Considering all these considerations, I believe I have answered the initial question. That is to say, the disappointment of the Trump team regarding their proposed pro-crypto and pro-business legislation can be offset by an extremely positive U.S. dollar liquidity environment, with an increase of up to $612 billion in dollar liquidity in the first quarter. As almost every year, it’s time to sell in the late first quarter, relax on the beach, at the counter, or at ski resorts in the Southern Hemisphere, and wait for positive fiat liquidity conditions to reappear in the third quarter.

As the Chief Investment Officer of Maelstrom, I will encourage risk-takers in the fund to shift their risk toward DEGEN (Degen is short for Degenerate, often used to refer to those who engage in high-risk speculative trades or investments in cryptocurrencies). The first step in this direction is our decision to enter the flourishing decentralized science token space. We prefer undervalued tokens and have purchased $BIO; $VITA; $ATH; $GROW; $PSY; $CRYO; $NEURON. To understand why Maelstrom believes that the narrative for DeSci has matured and can be re-rated, please read 'Degen DeSci.' If things develop at a high level as I describe, I will cut the baseline and ride on 909 open cymbals at some point in March. Of course, anything can happen, but overall, I am optimistic. Did I change my mind from the last article? A bit. Perhaps Trump’s sell-off happens from mid-December to the end of 2024, rather than mid-January 2025. Does this mean I am sometimes a terrible future predictor? Yes, but at least I will absorb new information and perspectives and change them before they lead to significant losses or missed opportunities. That’s why this investment game has intellectual appeal. Imagine if you could hole-in-one every time you played golf, hit every three-pointer in basketball or during breaks, or pocket every ball in billiards. Life would become very boring. Let me fail and succeed, and then be happy. But hopefully, success outweighs failure a little.

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