alternative markets update mid september 2021

In such a highly uncertain environment, cryptocurrencies tend to thrive. Since the middle of July 2021, cryptocurrencies have performed very well. In particular applications on layer one chains, such as Bitcoin (BTC) and Ethereum (ETH), surged during this time. These applications can be split into several categories. These include for example, decentralized exchanges (DeX) and decentralized finance (DeFi). DeX’s are on the rise and are continuously optimized. At the current time, Uniswap v3 is the DeX with the largest trading volume ($800m in 24h), followed by PancakeSwap v2 with around $378m in 24h. In total, 10 different DeX’s have a daily trading volume exceeding $100m. These numbers are quite impressive given that centralized exchanges are young themselves. Binance, by far the largest cryptocurrency exchange, has a daily volume of $23bn. Coinbase, probably the most famous one due to going public, only has a daily volume of around $3bn. DeX’s have two major advantages compared to centralized exchanges. They tend to be cheaper, as only the gas for the transaction needs to be paid and they typically have no downtime, which occur quite frequently for centralized exchange in highly stressed environments. Yet, DeX’s remain a relatively small proportion of cryptocurrency exchanges. Over the last months, FTX was the most talked about exchange for several reasons. FTX is a cryptocurrency derivatives exchange and made headlines with its last funding round. FTX raised $900m and is now valued at $18bn. This is especially remarkable, as the company was valued at $1.2bn a year ago. Furthermore, there is barely any day without announcement about their attempt to increase their brand awareness. Tom Brady, Gisele Bundchen and Stephen Curry are just some brand ambassadors. They have also secured the naming right for stadiums, e.g. the Berkeley stadium, and have entered a multi-year sponsorship deal with the famous e-sport team TSM. Despite the significant spending on their brand awareness, the public seems to react well to their efforts, as their token (FTT) has reached a new record high, as shown in Figure 9. Another significant player among cryptocurrency exchanges is Bakkt, the first exchange that offered physically settled BTC futures and options and being owned by the Intercontinental Exchange (ICE). Although, it is known that Bakkt will go public since January 2021, it is widely anticipated that this should take place relatively soon. It is certainly interesting to find out where the second cryptocurrency company will end up after its SPAC listing valued at $2.1bn. The other category mentioned previously, DeFi, is more well-known since its application are very diverse. DeFi is typically measured by the total value locked (TVL) in DeFi, which is shown in Figure 10. Shortly before the most recent crash, TVL reached almost $100bn. At the time of writing, TVL is around $87bn. This is remarkable as at the beginning of 2020, TVL was only several million. Yet, the metric is not entirely transparent and various sources claim hugely different values. The issue with the metric is the tracking of the capital committed, measured by the collateral to make decentralized applications (DApps) comparable, as some of them are levered. But the measurement of TVL is difficult for several reasons. Firstly, the measure counts all values of different chains and the respective sub-chains. As they launch frequently, there can be mismatches. Secondly, various DApps allow all kinds of collaterals and those can be traded centralized, on-chain or off-chain, which makes their aggregation difficult to track. Lastly, value locked may be misleading, since liquidity can be added and removed very quickly, which poses additional tracking difficulties. DApps in DeFi also have the potential to revolutionize the traditional banking system, as basically any function from traditional banking is already available as DApp. Many early DApps focused on payment solutions, as many see the current payment methods
from the banking system as flawed in particular cross-border transactions, the time they require, and the fees associated with transactions. There are also many non-blockchain based solutions out there already with online banks, such as Revolut, or Wise that recently went public. Newer DApps started focusing on the lending function of the current banks. At the current stage, most capital in DeFi flows into such lending applications. The most valuable ones are Aave, Maker and InstaDApp, which all have around $13bn value locked in the application. InstaDApp is an asset management platform for DeFi platforms. It makes transactions between DeFi platforms easy, and it does not trigger fees, except the gas costs for the movement of assets. InstaDApp has now fully issued their token (INST). The price development of INST is shown in Figure 11.

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RESEARCH PERSPECTIVE VOL. 163 September 2021 Alternative Markets Update September 2021 Inflation remains one of the most important topics in 2021 so far. In the US, inflation remains at 5.4% in July 2021, as it was the case in June 2021. Despite the inflation not increasing last month, the outlook is not promising, as rising wages and a very disappointing job report in August 2021 put further pressure on the inflation in the near future. The tapering from the Fed is said to continue until the end of the year, yet it is unlikely that rates will jump significantly. In the Eurozone, the situation looks a lot better, as shown in Figure 1. The inflation, measured by the CPI, is only at 2.2%, certainly also due to the lesser invention of the ECB compared to the Fed. In 2022 and 2023, it is expected that the inflation will slowly decrease to around 1.5%. The growth rates look very similar around the world. In 2020, there is a severe drop and in the following two years, it is expected that there will be a significant growth followed by normal growth rates afterwards. The situation in the UK is very close to the Eurozone, as the inflation in July 2021 is currently at 2.1%. Nevertheless, the UK’s housing market is under pressure as Figure 2 shows. Over the last year, housing prices have increased by almost 10%. This is partially caused by the increased inflation, the counter-reaction of falling house prices during Brexit and the continued decrease in home sales. Figure 3 shows the increase in house prices even clearer. The average house price increased from £240k in May 2020 to almost £265k in August 2021. The situation with regards to inflation is worse for most emerging countries, as Figure 4 shows. Only Korea, Indonesia and China have a lower inflation than the US, while most other countries are close to an inflation rate of 8% except Turkey with an inflation of 20%. When looking at an average scale over the last ten years, the picture does not look too bad, as inflation was usually between 4% and 6% and the current level is 7%. Figure 1: Growth and Inflation Forecast from the Eurozone, Source: Oxford Economics & ECB, September 2021 Figure 2: Halifax House Price Change in Percentage & Homes for Sale, Source: Halifax & IHS Markit, September 2021 Figure 3: Average Record House Prices in the UK, Source: Halifax, September 2021 Figure 4: Consumer Price Inflation in Emerging Economies in Percentages, Source: Bloomberg & Commerzbank Research, September 2021 The issue of the container shipping puts further pressure on already weakened economies. As a consequence, European and American companies face severe supply chain delays, which is even more important given the holiday season ahead. There are two major issues. Firstly, container ships spend an increased amount of time waiting before being able to drop off their containers, as shown in Figure 5. As visible in the graph, the increase is extremely steep, as over the last two months, the waiting time almost doubled. Secondly, there is the issue of an extremely steep increase for container shipping. Depending on which route, prices for a 40 feet box increased from less than $1k in 2016 to around $15k in September 2021. It is obvious that a major part of the issue stems from China, as the route between Rotterdam and New York increased only to $6k, while any other route from Shanghai increased to at least $10k. Figure 5: Waiting Container Ships in America’s Top Ports, Source: Bloomberg, IHS Markit & Genscape, September 2021 Figure 6: Container Shipping Rates from 2016 to September 2021, Source: Drewry, Bloomberg & Saxo Group, September 2021 Despite the seemingly bad state of the economy, equity markets have done very well. There are many examples that show this, one the most impressive ones might be that the S&P 500 doubled since its drop back in March in 2020. Figure 7 is another impressive example, as it shows the ratio of total US market cap to GDP. At the current stage, this ratio is almost at 2, which is a record by far, especially when considering dotcom bubble, when the ratio was around 1.5 or the housing bubble when it was only at 1.2. This is just another metric that implies being cautious is advisable since the dispersion of the state of the economy and the actual stock market is extremely high. Figure 8 shows the development of the five largest US stocks, which grew substantially during the pandemic. The metric shown in the graph is the ratio between enterprise value and GDP in percentages. Most companies surged extremely strong since 2019 before Covid-19 emerged but it certainly amplified the surge. Compared to the top five stocks from 2000, the stocks nowadays are substantially bigger. The average in 2000 was around 5%, while the average in 2021 is around 7.5%. Figure 7: US Total Equity Market Cap to GDP, Source: Wilshire Associates, Bloomberg, Global Financial Data & Crescat Capital LLC, September 2021 Figure 8: Top 5 US Market Cap Stocks in 2021: Enterprise Value as Percentage of GDP, Source: Bloomberg & Crescat Capital LLC, September 2021 In such a highly uncertain environment, cryptocurrencies tend to thrive. Since the middle of July 2021, cryptocurrencies have performed very well. In particular applications on layer one chains, such as Bitcoin (BTC) and Ethereum (ETH), surged during this time. These applications can be split into several categories. These include for example, decentralized exchanges (DeX) and decentralized finance (DeFi). DeX’s are on the rise and are continuously optimized. At the current time, Uniswap v3 is the DeX with the largest trading volume ($800m in 24h), followed by PancakeSwap v2 with around $378m in 24h. In total, 10 different DeX’s have a daily trading volume exceeding $100m. These numbers are quite impressive given that centralized exchanges are young themselves. Binance, by far the largest cryptocurrency exchange, has a daily volume of $23bn. Coinbase, probably the most famous one due to going public, only has a daily volume of around $3bn. DeX’s have two major advantages compared to centralized exchanges. They tend to be cheaper, as only the gas for the transaction needs to be paid and they typically have no downtime, which occur quite frequently for centralized exchange in highly stressed environments. Yet, DeX’s remain a relatively small proportion of cryptocurrency exchanges. Over the last months, FTX was the most talked about exchange for several reasons. FTX is a cryptocurrency derivatives exchange and made headlines with its last funding round. FTX raised $900m and is now valued at $18bn. This is especially remarkable, as the company was valued at $1.2bn a year ago. Furthermore, there is barely any day without announcement about their attempt to increase their brand awareness. Tom Brady, Gisele Bundchen and Stephen Curry are just some brand ambassadors. They have also secured the naming right for stadiums, e.g. the Berkeley stadium, and have entered a multi-year sponsorship deal with the famous e-sport team TSM. Despite the significant spending on their brand awareness, the public seems to react well to their efforts, as their token (FTT) has reached a new record high, as shown in Figure 9. Another significant player among cryptocurrency exchanges is Bakkt, the first exchange that offered physically settled BTC futures and options and being owned by the Intercontinental Exchange (ICE). Although, it is known that Bakkt will go public since January 2021, it is widely anticipated that this should take place relatively soon. It is certainly interesting to find out where the second cryptocurrency company will end up after its SPAC listing valued at $2.1bn. The other category mentioned previously, DeFi, is more well-known since its application are very diverse. DeFi is typically measured by the total value locked (TVL) in DeFi, which is shown in Figure 10. Shortly before the most recent crash, TVL reached almost $100bn. At the time of writing, TVL is around $87bn. This is remarkable as at the beginning of 2020, TVL was only several million. Yet, the metric is not entirely transparent and various sources claim hugely different values. The issue with the metric is the tracking of the capital committed, measured by the collateral to make decentralized applications (DApps) comparable, as some of them are levered. But the measurement of TVL is difficult for several reasons. Firstly, the measure counts all values of different chains and the respective sub-chains. As they launch frequently, there can be mismatches. Secondly, various DApps allow all kinds of collaterals and those can be traded centralized, on-chain or off-chain, which makes their aggregation difficult to track. Lastly, value locked may be misleading, since liquidity can be added and removed very quickly, which poses additional tracking difficulties. DApps in DeFi also have the potential to revolutionize the traditional banking system, as basically any function from traditional banking is already available as DApp. Many early DApps focused on payment solutions, as many see the current payment methods from the banking system as flawed in particular cross-border transactions, the time they require, and the fees associated with transactions. There are also many non-blockchain based solutions out there already with online banks, such as Revolut, or Wise that recently went public. Newer DApps started focusing on the lending function of the current banks. At the current stage, most capital in DeFi flows into such lending applications. The most valuable ones are Aave, Maker and InstaDApp, which all have around $13bn value locked in the application. InstaDApp is an asset management platform for DeFi platforms. It makes transactions between DeFi platforms easy, and it does not trigger fees, except the gas costs for the movement of assets. InstaDApp has now fully issued their token (INST). The price development of INST is shown in Figure 11. Figure 9: Price Development of the FTX Token (FTT) over the Last Three Months, Source: CoinMarketCap, September 2021 Figure 10: Total Value Locked in DeFi Over the Last Year, Source: DeFi Pulse, September 2021 Figure 11: Price Development of INST Over the Last Three Months, Source: CoinGecko, September 2021 The last few weeks were also great for the layer one chains. Layer one chains are simply those chains that do not use another chain as underlying technology. For example, there are different layers of chains, Polygon (Matic) a token that got wide attention a couple of months ago, is a layer two chain, as it enhances the scalability of its underlying chain, Ethereum. These types of chains can be described as infrastructure providers for the cryptocurrency ecosystem. The overall cryptocurrency market is in a great state with a current market cap of $2.2tn, but this increase was mostly driven by projects like mentioned before and not necessarily by the underlying layer one chains. BTC has recovered quite well from its drop in May 2021 but is still quite far off its previous record high. It reached almost $53k ahead of the announcement from El Salvador to accept BTC as legal tender. Afterwards, there was a selloff, which was most likely caused by people wanting to “sell the hype” and due to the nature of cryptocurrencies, this triggered a chain reaction for the entire market. At the time of writing, BTC is up 57% in 2021 so far. In comparison, ETH is up 361% in 2021 so far. Ethereum almost reached the $4k mark again but fell slightly short and dropped close to $3k. At the current stage, it moves between $3,200 and $3,500. Polkadot (DOT), a chain that enables interoperability among other layer one chains, also had a great 2021 and is up 269% in 2021 so far. Compared to ETH, DOT is far from its high of almost $50 back in May 2021. DOT is currently trading at $34, which is still quite remarkable, as it dropped to $10 just months ago. It seems that DOT is extremely volatile cryptocurrency. Figure 12 to 14 show the price development of the aforementioned coins over the last three months. The newest major coin, Solana (SOL) hit the spotlight at the end of August, when it surged from $60 to almost $190 within two weeks, pushing it into the top ten of cryptocurrencies by market cap. Figure 15 shows the price development of SOL during 2021. Its market cap rose from $75m in January 2021 to $63bn in September 2021, a rise of 839x in just nine months. Solana supports various DeFi solutions including DApps and smart contracts but the true invention lies in its consensus algorithm. It uses a hybrid algorithm based on proof-of-stake (PoS) and proof-of-history (PoH). PoS allows users to combine their computation power to validate transactions instead competing against each other as in the proof-of-work (PoW) algorithm that BTC uses. PoH is an algorithm that verifies transactions using timestamps and proving whether an action occurred before or after a specific event. It can be viewed as a high frequency verifiable delay function that requires a sequential number of steps and produces a unique output that can be publicly verified. This algorithm is highly effective, as SOL is able to process 50k transactions per second, whereas ETH can only process 15 to 45 transactions per second. The algorithms are combined by running them in parallel. PoH is used to ensure that the nodes are synchronize, while PoS is used to validate consensus. Figure 12: Price Development of Bitcoin Over the Last Three Months, Source: CoinMarketCap, September 2021 Figure 13: Price Development of Ethereum Over the Last Three Months, Source: CoinMarketCap, September 2021 Figure 14: Price Development of Polkadot Over the Last Three Months, Source: CoinMarketCap, September 2021 Figure 15: Price Development of Solana (SOL) in 2021, Source: Compound & YCharts, September 2021 STONE MOUNTAIN CAPITAL Stone Mountain Capital is an advisory boutique established in 2012 and headquartered in London with offices Pfaeffikon in Switzerland, Dubai and Umm Al Quwain in United Arab Emirates. We are advising 30+ best in class single hedge fund and multi-strategy managers across equity, credit, and tactical trading (global macro, CTAs and volatility). 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