Original Title: Sasa
Author: Arthur Hayes, Founder of BitMEX; Translated by: Deng Tong, Golden Finance
The terrain of the remote areas of Hokkaido's ski resorts is excellent and most can be accessed by cable car. At the beginning of the ski season, the main concern is when the snow will be sufficient for the ski areas to open. Skiers face the issue 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 the bamboo forest is dangerous, as your edges can slip, putting you in a situation I call 'man vs. tree.' Therefore, if the snow is not enough to cover the bamboo forest, the remote areas become extremely dangerous.
Hokkaido has seen levels of snowfall not seen in nearly seventy years. The snow is thick. Therefore, the doors to the remote areas opened in late December instead of the first or second week of January. With the arrival of 2025, the question in the minds of cryptocurrency investors is whether the policies Trump wants to implement can be sustained. In my latest article (Arthur Hayes: How Trump's New Policies and Responses from Various Countries Will Affect Crypto), I believe the high expectations for actions from Trump’s camp have disappointed the market. I still believe this is a potential negative factor that could put pressure on the market in the short term, but conversely, I must balance the impulse of dollar liquidity. For now, as the pace of dollar issuance changes, Bitcoin will fluctuate. The monetary officials who wield power at the Federal Reserve and the U.S. Treasury determine the amount of dollars supplied to the world financial market.
Bitcoin bottomed out in the third quarter of 2022 when the Fed'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 bills, which siphoned off 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 above chart shows Bitcoin (LHS, yellow) against the RRP (RHS, white, inverted); as you can see, as the RRP fell, Bitcoin rose.
The question I intend to answer is whether the positive impulse of dollar liquidity can suppress disappointment in the speed and impact of the implementation of Trump’s so-called pro-crypto and pro-business policies at least into the first quarter of 2025. If so, then tearing it apart is safe, 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 dollar liquidity, respectively.
Federal Reserve
The Federal Reserve's quantitative tightening (QT) policy continues at a pace of $60 billion per month, which means its balance sheet is being reduced. 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 liquidity reduction of $180 billion due to quantitative tightening from January to March.
The RRP has fallen to nearly zero. To completely exhaust this tool, the Federal Reserve belatedly changed the policy interest rate of the RRP. In the meeting on December 18, 2024, the Fed lowered the RRP rate by 0.30%, which is 0.05% more than the cut 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 Fed waited until the RRP was nearly exhausted to readjust the rates with the lower bound of the FFR and reduced the attractiveness of depositing money into that tool, I urge you to read Zoltan Pozar's article 'Deceiving Cinderella.' My conclusion from his article is that the Fed is exhausting all means to stimulate demand for U.S. Treasury issuance before resorting to stopping QT, providing supplementary leverage ratio exemptions for U.S. commercial bank branches, and possibly resuming quantitative easing (QE), also known as 'the money printing machine starts running.'
Currently, there are two pools of funds that will help control bond yields. For the Fed, the yield on 10-year U.S. Treasury bonds cannot exceed 5%, as this is the level at which bond market volatility explodes (MOVE index). As long as there is liquidity in the RRP and TGA, the Fed does not need to make major changes to its monetary policy and acknowledge fiscal dominance.
Once the TGA is exhausted (positive dollar liquidity) and subsequently replenished due to the debt ceiling being reached and then raised (negative dollar liquidity), the Fed will no longer take measures to prevent yields from rising in the unstoppable trend that began with the decision to start the easing cycle last September. This is not important for the dollar liquidity situation in the first quarter, but it is just a consideration of how the Fed's policy might change later this year if yields continue to rise.
The comparison of the upper bound of the FFR (RHS, white, inverted) with the U.S. 10-year yield (LHS, yellow) clearly shows that as the Fed lowers rates in a situation of inflation above its 2% target, bond yields have risen.
The real issue is the speed at which the RRP has fallen from about $237 billion to zero. I expect it to reach near zero at some point in the first quarter as money market funds (MMFs) maximize their returns 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 adjustment of the RRP rate on December 18, the yield on Treasury bills with maturities of less than 12 months exceeds 4.25% (white), which is the lower bound of the FFR.
The Federal Reserve will withdraw $180 billion in liquidity due to quantitative tightening policies and encourage an additional $237 billion in liquidity due to the Fed's adjustment of reward rates resulting in a decrease in RRP balances. This totals a net injection of $57 billion in liquidity.
U.S. 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 paying government bills. They can issue debt (negative dollar liquidity), or they can spend funds from their checking account at the Fed (positive dollar liquidity). Since the total debt cannot increase before Congress raises the debt ceiling, the Treasury can only spend funds from its checking account, the TGA. Currently, the TGA balance is $722 billion.
The first major assumption is when politicians will agree to raise the debt ceiling. This will be the first test of how high Trump's support is among Republican legislators. Remember, his governing advantage—the slim majority of Republicans over Democrats in the House and Senate—is very weak. There is a faction within the Republican Party that likes to strut around claiming they care about shrinking the size of government, and they do this every time the debt ceiling is discussed. They will insist on voting to support raising the debt ceiling until they bring substantial returns to their constituencies. Unless the debt ceiling is raised, Trump will have a hard time convincing them to reject the spending bill for the end of 2024. After the Democrats were badly beaten in the last election over gender-neutral bathrooms, they will be even less willing to help Trump release government funds to achieve his policy goals. Is there support for Harris in 2028? In reality, the Democratic presidential candidate will be 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 Treasury bonds or a complete government shutdown, raising the debt ceiling becomes necessary. Based on the 2024 revenue and expenditure data released by the Treasury, I estimate 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 nearing depletion and cannot increase the total U.S. debt before Congress raises the debt ceiling, the market will look for new sources to obtain dollar liquidity. At 76% depletion, March seems to be when the market will ask, 'What’s next?'
If we add the amount of dollar liquidity from the Federal Reserve and the Treasury at the end of the first quarter, the total is $612 billion.
What happens next?
Once default and shutdown are imminent, a last-minute agreement will be reached to raise the debt ceiling. At that time, the Treasury will be able to borrow freely again and must refill the TGA. This will result in negative liquidity for the dollar.
Another important date in the second quarter is April 15, when taxes are due. As can be seen from the above table, the government's financial status 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 to see a market peak at the end of the first quarter. In 2024, Bitcoin reached a local high of around $73,000 in mid-March, then consolidated, and began a months-long decline on April 11, just before the 15th tax deadline.
Trading Strategies
The problem with this analysis is that it assumes dollar liquidity is the most important marginal driver of global fiat currency liquidity. Here are some other considerations:
- Will China accelerate or slow the creation of credit in renminbi?
- Will the Bank of Japan begin to raise 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 changes in the RRP and TGA balances over time. The market performance from September 2022 to now has further strengthened my confidence: despite the Fed and other central banks raising interest rates at the fastest pace since the 1980s, the increase in dollar liquidity due to the decline in the RRP has directly led to rising prices for cryptocurrencies and stocks.
The upper bound of the FFR (right, green) vs Bitcoin (right, magenta) vs S&P 500 index (right, yellow) vs RRP (left, white, inverted). Bitcoin and stocks bottomed out in September 2022 and rose as over $2 trillion in liquidity was injected into the global market due to the decline in the RRP. This was a policy choice intentionally made by Bad Girl Yellen to issue more Treasury bonds to exhaust the RRP. Powell and his actions to tighten financial conditions to combat inflation have completely failed.
Considering all these considerations, I believe I have answered the initial question posed. That is, the disappointment of the Trump team regarding its proposed pro-crypto and pro-business legislation can be offset by an extremely positive dollar liquidity environment, with dollar liquidity increasing by as much as $612 billion in the first quarter. As is almost always the case, it is time to sell in the late first quarter, relax on the beach, at the counter, or in ski resorts in the Southern Hemisphere, and wait for positive fiat liquidity conditions to re-emerge in the third quarter.
As the Chief Investment Officer of Maelstrom, I will encourage risk-takers in the fund to shift their risk towards DEGEN (Degen is short for Degenerate, typically used to refer to individuals involved in high-risk speculative trading or investing in cryptocurrencies). The first step in this direction is our decision to enter the thriving decentralized science token space. We are fond of undervalued tokens and have purchased $BIO; $VITA; $ATH; $GROW; $PSY; $CRYO; $NEURON. To understand why Maelstrom believes the narrative of 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 sometime in March and ride the 909 open pedal. Of course, anything can happen, but overall, I am optimistic. Did I change my mind from the previous article? A little. Maybe Trump's sell-off happens between mid-December and the end of 2024, rather than mid-January 2025. Does this mean I am sometimes a bad 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 each time you play golf, hit every three-pointer while playing basketball, or sink every shot in billiards. Life would become very boring. Who cares, let me fail and succeed, and then be happy. But hopefully, success outweighs failure a bit.
