Words: Arthur Hayes
Compiler: Mary Liu, BitpushNews
U.S. Treasury Secretary Janet Yellen and goofy Fed Chair Jerome Powell oscillated between decisive action and vague rhetoric. When they act, you’d better not confront them, but be careful when they’re just shouting slogans, as many market signals will mislead you down a path that is doomed to losses.
On November 1, 2023, the U.S. Treasury’s quarterly refinancing bulletin (QRA) included a statement that Janet Yellen would move most of her borrowings to short-term Treasury bills (T-bills) with maturities of less than a year. This prompted money market funds (MMFs) to withdraw from the Fed’s reverse repo program (RRP) and invest in higher-yielding Treasuries. The results, described in detail in my article “Bad Gurl,” have provided liquidity injections in the past and present, totaling close to $1 trillion once completed.
In mid-December 2023, at the FOMC press conference, Powell announced that they were discussing a rate cut in 2024. This is a dramatic shift from his rhetoric two weeks ago, when he assured markets that the Fed would remain tight to ensure Inflation does not return. The market believes that this means that the Fed’s first rate cut in this rate hike cycle will occur in March this year. Subsequently, earlier this month, Dallas Fed President Logan threw a smokescreen that the pace of quantitative tightening (QT) would gradually slow down when RRP balances approached zero. The rationale is that the Fed does not want any problems with dollar liquidity when it stops printing money.
Let’s review what is empty talk and what is actually taken. Yellen converted sector borrowing into Treasury bonds, thereby increasing liquidity by hundreds of billions of dollars to date. This is the money that actually flows into the global financial markets. Powell and other Fed governors talked about a big game about cutting interest rates and tapering the pace of QE in the distant future. This conversation did not add any monetary stimulus. However, the market saw actions and words as the same thing and rebounded after November 1 and continued to rise throughout the month.
The markets I’m referring to are the S&P 500 and Nasdaq 100, both of which have hit new all-time highs. But it didn’t go well.
A real alert on the direction of the dollar’s liquidity – Bitcoin – is giving warning signs. Bitcoin has fallen below $40,000 from a high of $48,000 after the launch of the US Spot ETF. In line with Bitcoin’s local highs, the 2-year Treasury yield, which hit a local low of 4.14% in mid-January, is currently rising.
Bitcoin first argument for the recent plunge is the outflow of funds from the Grayscale Bitcoin Trust Fund (GBTC), which is untenable because when you net the outflows from GBTC with the inflows from newly listed SpotBitcoin ETFs, the result is that as of January 22, the net inflows were $820 billion.
The second argument, and my position, is that the Bitcoin market expects the Bank Term Financing Program (BTFP) to be suspended.
This event will not have a positive effect, as the Fed has not yet lowered the Intrerest Rate to the level that led to the 10-year Treasury Intrerest Rate pushing to a range of 2% to 3%. At these levels, the bond portfolios of non-too big to fail (TBTF) banks have returned to profitability, while there are now large unrealized losses on their balance sheets. Until the Intrerest Rate falls to these levels, these banks cannot survive without the support provided by the government through the BTFP. The boom in financial markets has given Yellen and Powell a false confidence that the market will not let some non-TBTF banks rekt once the BTFP is suspended. As a result, they believe that a politically toxic BTFP can be stopped and that there will be no negative market reaction. However, I think it’s the opposite: the cessation of the BTFP will trigger a mini-financial crisis and force the Fed to stop talking and allow Yellen to start cutting interest rates, tapering QT, and/or resuming money printing easing (QE) through quantitative means. Bitcoin’s price action tells me I’m right and they’re wrong.
The Fed prefers to stimulate the market with speeches and Wall Street Journal op-eds because they are extremely afraid of inflation. The belligerent puppets at the helm of America’s peaceful foreign policy are now embroiled in another Middle East war, and the fight against Yemen’s Houthis is never-ending. Later in this article, I’ll elaborate on why this war is important and could lead to a disturbing spike in goods inflation in the run-up to the US election this November.
Contrary to what the mainstream Western financial media tells you, Inflation remains a problem for most Rekt Americans. Voters decide the president based on the economy, and now, US President Joe Biden and his Democrats are destined to be defeated by the red-necked representative Trump, as well as the Republicans.
As I wrote in the article “Signposts”, I believe that Bitcoin will fall before the BTFP update plan is decided on March 12. I didn’t expect it to happen so soon, but I think Bitcoin will find a local bottom between $30,000 and $35,000.
With SPX and NDX falling as a result of the mini-financial crisis in March, Bitcoin will rise as it will represent the Fed’s eventual conversion of interest rate cuts and money printing rhetoric into action to press the “Brrrrr” button.
Now, I’m going to give the reader a quick look at some charts and graphs why I think the Fed needs a mini-financial crisis to stop the talk.
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This is the US dollar liquidity chart. The index plummeted as the Federal Reserve began raising interest rates and quantitative easing in March 2022. However, the index returned to its lowest level since April 2022 as MSRP fell since June 2023.
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The chart, which is a subcomponent of the index, is the net value of changes in RRP and TGA balances. Nearly $800 billion in new liquidity has been added since the U.S. government passed the budget in June 2023.
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On a macro level, despite the $1.2 trillion reduction in the Fed’s balance sheet, there is still an influx of risky assets due to the relatively high level of dollar liquidity.
First Crisis
If we delve into non-TBTF Rekt banks, we find that Yellen and Powell were forced to act to bail out the US banking sector. The chart above shows the white S&P Regional Bank ETF (KRE) with the yellow 2-year Treasury yield. The banks in the index are small and medium-sized banks that do not enjoy government deposit guarantees like the more well-known and more profitable TBTF families. Yields rise sharply in the first quarter of 2023, causing the KRE to plummet, with the big three non-TBTF banks (Silvergate, Signature, and Silicon Valley Bank) Rekt in two weeks. Yields plummeted as the market knew the Fed would have to save the system by printing money through BTFP.
Second Crisis
At one point everything was fine, but the market began to focus on the runaway US deficit and the huge bonds that had to be issued to finance it. The issue was compounded by Powell’s statement at the September 2023 Federal Open Market Committee (FOMC) press conference, where he said financial markets would complete monetary tightening for the Fed. The bond market wants the Fed to fight inflation and raise government borrowing costs by raising interest rates further, rather than just sitting on the sidelines on the data on the Bloomberg terminal. The Intrerest Raterise of the whole curve, the most worrying thing is that the long-term Intrerest Rate rise in a Bear Market steep way, which is fatal for the financial system. The KRE reacted by falling to levels it has seen since April at the height of the banking crisis. Yellen was forced to act in November to convert the borrowing into a national debt. This saved the bond market and triggered a vicious short-covering rebound in equities and bonds.
Hopium
The market is now predicting when the RRP balance will be close to zero and wondering what will happen next. There’s been a lot of discussion on this, including speculation about how the Fed can increase liquidity without being called money printing. But no action has been taken. Two-year Treasury yields have recovered, but KRE prices continue to rise and the market is quenching its thirst. If Yellen and Powell are right, the 10-year Treasury yield will magically fall from 3% to 2%. This would not have happened without the new dollar to buy bonds. That’s the disconnect between the 2-year Treasury yield and the KRE. I believe that the market will face an unpleasant surprise, because it is clear that Powell will only “roar” and will not make any drastic changes.
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This busy chart shows the difference between Bitcoin (white) and 2-year Treasury yields (green), which tell the same story, while SPX (yellow) tells a different story. Since November 1, 2023, Bitcoin and SPX indices have risen as 2-year Treasury yields have fallen. Once the 2-year yield bottoms out and reverses direction, Bitcoin falls while SPX continues to rise.
Bitcoin tells the world that the Fed is caught in a dilemma of Inflation and a banking crisis. The Fed’s solution is to try to convince the market that the banks are sound, without providing the necessary funding to make this fantasy a reality.
Fragile Bottom
Jim Bianco has produced some excellent charts, which will be analyzed in the rest of this article.
As readers know, I spent the northern hemisphere winter in Hokkaido, Japan. One notable change this season is the sheer number of Americans. Traveling to this powder paradise can be a painful affair even for those living in Asia, and if you live in the United States, a vacation to Japan is even more time-consuming and expensive.
However, there has been a noticeable increase in the number of baby boomers skiing at resorts in the United States. Baby boomers are the richest people in their lives. This is because both the stock market and house prices are at historic highs. In addition, their cash reserves are generating gains for the first time in decades, and for a group of humans who have all but missed death during the pandemic (mostly elderly obese people who have died from the flu, i.e., baby boomers), it’s time to travel the world.
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The richest 10% of households in the U.S. own about 65% of the financial assets injected by the Federal Reserve through various money-printing programs. Baby boomers are the wealthiest generation, and their spending is powering a very strong U.S. economy.
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The Atlanta Fed expects a strong +2.4% GDP growth in Q4 2023 – too strong, very strong!
However, the rest of the United States has rekt and is mired in debt.
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The top 10% hold about 65% of financial assets but only about 8% of debt. The bottom 90% hold 92% of the debt, but only 35% of the assets.
This high degree of inequality in the distribution of wealth and debt poses a problem for politicians in democracies. While politicians are determined to do everything in their power to make the rich richer, they need to get elected by gaining the support of Rekt civilians. That’s why it’s a problem when Inflation comes along.
The current Consumer Price Index (CPI) calculation is Fugazi. If we go back to the CPI calculation method in 1980 or 1990, the real inflation rate was about +10%, compared to +3% as you read in the news.
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That’s why, according to the latest polls, Trump has a slight chance of beating Biden.
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In short, American politics is like a circus where the rich buy ads to raise the profile of their favorite clowns, who dance and sing to win the votes of the common people. Biden must distribute the good to the haves and have-nots alike to win. On a cynical macro level, the strategy is to push up the stock market owned by the rich to increase tax revenues, and then provide relief to the poor with the spoils collected from the rich.
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The top 10% pay 74% of income tax. Their huge contribution stems from the huge Capital Gains Tax levied by the government during the stock market rally. As a result, the U.S. government’s finances are tied to the performance of the stock market.
Biden has two “financial generals” with different missions. Yellen must use the power of the U.S. Treasury to boost the stock market. She could do this by adjusting the U.S. Treasury’s bond issuance schedule or scaling back the TGA. Powell must drop inflation to acceptable levels, and he can do this by raising Intrerest Rate and shrinking the Fed’s balance sheet.
Yellen’s job is much easier than Powell’s. Yellen could unilaterally boost the stock market by issuing more Treasuries and bonds, or by reducing the TGA from the current $750 billion to zero. Powell can reduce the money supply and raise Intrerest rates, but he has zero control over geopolitical issues. Nor can he influence the size of government deficits or surpluses. Assuming the government is committed to maintaining a large deficit, Yellen will provide appropriate funding to increase demand for goods and services. In this case, Powell’s anti-inflation actions at the Fed will be weakened.
The reason why inflation in the United States is so pronounced after the pandemic is that the government has issued stimulus measures to the population funded by the Federal Reserve’s money printing at a time when it is difficult to move goods around the world. Due to COVID lockdowns and vaccine policies, there have been work stoppages and labor shortages. As a result, Inflation reached its highest levels since the late 70s and early 1980s of the 20th century.
A similar global supply chain crisis is unfolding, but this time, the difficulties in moving goods are caused by El Niño and the closure of Western ships in the Bab el-Mandeb Strait.
Horn & Hope
Shipping is an old but important business. Sea freight costs the cheapest per kilometer traveled compared to rail, road, or air. Without the Panama Canal or the Bab el-Mandeb Strait, ships would have to circumnavigate Cape Horn or the Cape of Good Hope. The emergence of an El Niño weather pattern has led to a drought in the Panama Canal, resulting in a below-average water level within the canal, which means fewer ships can pass through. The asymmetric drone warfare of the Yemeni Houthis effectively blocked the Bab el-Mandeb Strait for Western ships. They must now sail around the Cape of Good Hope.
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This diversion affects 20 to 30 percent of global shipping and adds a significant amount of time and expense. For Inflation statisticians, all else being equal, anything traveling by boat will become more expensive. Given that Inflation operates with a considerable lag, if this continues, its effects will not be felt until a few months away. While the market is pleased with the decline in year-on-year inflation data in the US and elsewhere, it could be a costly victory.
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The El Niño weather pattern is just getting started. Mild El Niño usually lasts one to two years. No matter how severe this El Niño is, it will still occur this November. Sadly, if you’re a Biden supporter, there’s nothing he can do about the weather, humanity isn’t a Kardashev Type I civilization. El Niño and climate change have generally dropped the water level in the Panama Canal and reduced the number of ships that can cross the border.
It is important to reduce shipping activity through the Panama Canal, as the United States is diverting some cargo through Europe to eastern coastal ports to avoid passing through the Panama Canal. However, given that goods loaded on Western ships from Asia to Europe must now bypass Africa and not through the Red Sea, the cost and time of transportation will increase.
The Houthis have declared that they will attack any ship of any country that supports Israel. They believe that Israel’s war in Gaza is an act of genocide, indicted by Israeli Prime Minister “Bibi” Netanyahu and other war criminals. In solidarity with their fellow Muslims and Arabs, they use $2,000 worth of drones to attack merchant ships. A cheap drone can completely disable a ship worth hundreds of millions of dollars, and that’s the definition of asymmetric warfare. Think about it: in order to disable a $2000 drone, the United States must launch a $2.1 million missile. Even if the Houthis never hit a single target, each drone they send will cost 1,000 times more to defend than the United States. Mathematically, this is an unwinnable war for the United States.
According to three other Defense Department officials, the cost of using expensive naval missiles (up to $2.1 million each) to destroy simple Houthi drones (estimated at thousands of dollars each) is a growing concern. –Politico
Given that the United States, as the issuer of the world’s reserve currency, is responsible for global maritime security, the world is watching to see how the peace under the United States responds to this blatant military strike. Judging by the Houthi statements, the Houthis will stop their attacks if the United States breaks off diplomatic relations with Israel and forces Bibi to end the war. However, even if the U.S. considers Bibi a genocidal maniac, U.S. imperialism will not abandon its allies because the government of a “shithole” country has launched several cheap drones and shut down one of the world’s most important waterways.
Even if Biden shouts for Bibi to end the war and stop murdering so many men, women and children in Gaza, Biden will never end the financial and military blockade of Israelis for fear of losing face. The result is that the whole world is in fear of the outbreak of war.
I predict that we will witness with our own eyes how difficult it will be for the powerful fists of red, white and blue to hit a swarm of drones. In order for shipping companies to have the confidence to cross the Red Sea again, the U.S. Navy must perform perfectly in every engagement. Every drone must be eliminated. Because even a direct impact of the UAV payload can incapacitate a merchant ship. In addition, as the United States is now at war with the Houthis in Yemen, shipping insurance premiums will soar, making it even more uneconomical to sail through the Red Sea.
Rising transportation costs could lead to a spike in inflation in the third and fourth quarters of this year due to weather and geopolitical factors. Since Powell is undoubtedly aware of these issues, he will do everything he can to talk about the big thing about cutting rates without having to actually cut them. Inflation due to increased transportation costs is likely to rise modestly, but interest rate cuts and the resumption of quantitative easing are likely to exacerbate the rise of inflation. The market has not yet realized this fact, but Bitcoin is.
The only thing that is better than fighting Inflation is the financial crisis. That’s why, in order to achieve cuts, QT tapering, and the market thinks QE is likely to resume in March, we first need to have some banks fail when BTFP is not renewed.
Tactical Trading
After the ETF was approved, 30% of the BTC range high of $48,000 was corrected to $33,600. Therefore, I think Bitcoin will form support between $30,000 and $35,000. That’s why I bought $35,000 in put options on March 29, 2024, and also sold off my trading positions in Solana and Bonk with a small loss.
Bitcoin and Crypto Assets as a whole are the last freely traded markets in the world. As a result, they will anticipate changes in dollar liquidity before the TradFi fiat stock and bond markets are manipulated. Bitcoin tells us to look for Yellen, not talk about it.
Yellen has the opportunity to breathe more life into the market in the upcoming QRA, which will be released on January 31. If she announces that she will cut the TGA from $750 billion to zero, then we know that there is another source of liquidity that the market did not anticipate to support the market. Then the question becomes: is it enough to prevent any bank failures once the BTFP is not renewed?
I’m sure the BTFP won’t be updated, as neither Yellen nor Powell mentioned it once. Therefore, the natural assumption is that it will mature and the banks will have to repay nearly $200 billion in borrowings. If the situation changes, and they make it clear that the deadline will be extended, then the race begins. I will close my put options and take advantage of maximum crypto exposure by continuing to sell Treasury bills and buy Crypto Assets.
If my predictions come true, once Bitcoin falls below $35,000, I will start bottoming and continue to buy Solana and WIF.
Source: TechFlow original
