Week of Sep 13, 2022

How The Ethereum Merge Could Impact Bitcoin This Week

The Bitcoin Economic Calendar 🗓

Market Commentary 📺👇

Bitcoin

The Ethereum Merge to Proof-of-Stake is scheduled to happen this week - currently expected by Wednesday evening. To understand how the merge could impact bitcoin prices, we’re going to take a look at how Ethereum prices have performed relative to Bitcoin in recent weeks, and the bitcoin derivatives market to see how investors are positioning themselves leading up to the event. 

First, let’s take a look at bitcoin price performance relative to ethereum.

Since July of this year, ethereum is up by +63% while bitcoin has only risen by +16% in the same time period. The sheer performance of the investment, both in dollar terms and in bitcoin terms, can be enough for some investors to consider taking profits ahead of the merge.

Looking at ethereum prices in bitcoin terms, we see that the current rally brought Ethereum near the historical resistance level of 0.08 BTC - which it tried to surpass on 3 different occasions since June of this year, and failed to do so.

Given the setup with just hours remaining until the merge, bitcoin would stand to benefit from a “catch-up” trade relative ethereum based on the historical price relationship between the assets. 

Keep in mind that the merge will also draw new investors into the space that will be looking at these historical relationships, given that Bitcoin is undoubtedly the asset with the biggest brand name.

The bitcoin derivatives markets are also looking “healthy”

The implied interest on the first and third month futures contracts at the Chicago Mercantile Exchange have now reverted squarely into positive territory from being deeply in the red. This means that bitcoin for future delivery 1 and 3 months out is once again trading at a higher price than the current spot price.

The last 3 times a similar rally occurred, bitcoin saw big moves in price in the weeks that followed.

On a similar vein, the shape of the bitcoin futures curves across most venues remains in a healthy contango - meaning prices are higher the further out the contract month.

This is a positive development as, until recently, the October and September contracts were trading below the price of spot.

Looking at bitcoin option contracts, we also see that the put:call ratio is within its historically normal range. This means that investors are not buying protection or speculating on higher prices at disproportionate levels relative to historical positioning.

Short interest in a “normal” range based on expressed short interest on BitFinex and perpetual swap futures funding rates, which remain positive.

And to close out the section, bitcoin mining hashrate just reached an all-time high last week. These are likely miners that are well capitalized to be deploying hardware in these conditions, and would likely not be inclined to sell at current prices.

S&P 500

The main event in terms of economic data this week will be the highly anticipated Consumer Price Index, or inflation, for the month of August in the U.S.. The expectation is for a reduction from 8.5% in July to 8% in the most recent month. And given the recent rally in both the S&P and Bitcoin, investors seem to be positioning themselves for the number to come in with a surprise to the downside. 

While the headline number will certainly be interesting, it appears as though investors have their minds made up on what the Fed’s next move will be.

According to the CME FedWatch tool, 88% of investors believe that the Fed will announce a 75 Basis Points hike next week. What’s more, similar levels of conviction are shown for the November and December meetings.

Looking at November, over 80% of investors believe the Fed will announce a 50 Basis Points hike, and in December, over 70% of investors believe it will be a 25 basis point hike. All of this would bring the overnight funding rate to 4% by the end of the year. 

This positioning is aligned with the Fed’s stated plans to bring down inflation, and although December feels far away, the fact that investors even have an idea of when the Fed “might” stop raising rates, is a big driver behind the recent optimism in the markets.

Also adding to the recent investor optimism is the fact that governments around the world have started signalling that they will be willing to subsidize the costs of energy to keep the lights on, and China/the International Monetary Fund are negotiating lifelines in emerging market sovereign debt.

A lower-than-expected CPI reading would likely strengthen this view and support the recent rally. Conversely, if the number comes with an up-side surprise, it may front-load some of the hike expectations to November and markets could sell off.

While investors seem optimistic, the Volatility Index (VIX) is currently increasing as stocks rally, which is very rare. It signals that investors are paying more for downside protection. And the VIX levels remain very high relative to historical levels.

Optimistic but ready to react, would be how I’d describe the sentiment heading into next week’s Fed meeting.

Gold

The U.S. dollar rally has lost steam over the last 2 weeks, allowing gold prices to remain stable above the key $1,700/oz level. As central banks around the world continue to increase interest rates, this improves the real return of holding fiat currencies like the U.S. dollar or Euro - which acts as a headwind for gold prices.

It is likely that the U.S. Federal Reserve will continue increasing interest rates gradually until the end of the year - while inflation expectations continue to come down. This should keep gold prices under pressure for the remainder of the year.

DeFi

A very busy upcoming week with expectations around the Merge at all time high towards the community. ETH once again outperformed BTC on the weekly close (+2.48%) reaching the highs from the end of 2021, while DeFi Index still struggled to catch a bid underperforming both BTC and ETH. 

At the time of writing ETH faces a sharp correction against BTC (-5%) with investors being cautious and preparing for the big upgrade event. 

Originally expected on September 15 or 16, the estimated timing of the Merge has been moved ahead to late evening on Wednesday, September 14, 2022.

Ethereum's recent developments and the big demand for derivatives products was reinforced this Monday with CME Group announcing the launch of ETH options:

The high volumes observed on CME's ETH Futures products were among the main reasons to launch ETH options ahead of a very important week - "... 43% increase in average daily volume year over year" as confirmed by Tim McCourt (Global Head of Equity). 

The road seems to be paved for a successful upgrade with the blockchain's final shadow fork confirmed:

Although potentially exposed to known/unknown flaws that might occur during the upgrade, or at least "hiccups" after the Merge, Ethereum core devs are confident regarding the preparedness for the transition after years of simulations trying to game out any scenario that could derail it and affect billions of TVL.

During the upgrade, USDC deposits and withdrawals will be paused on Ledn’s platform. We will work with our custodian, BitGo, to ensure that the update has gone smoothly and then update clients once normal operations have resumed. Other Ledn services, including BTC deposits and withdrawals, will continue to function as normal during that time.

All assets on Ledn’s platform remain secure, and there is no action required by Ledn clients.

While the time approaches, Ledn will continue to provide any updates as needed, and is here to answer any questions or concerns you may have. 

Mining

Last week the White House's Office for Science and Technology Policy issued the first public report related to the Biden administration's executive order on crypto. The report calls for more research, allowing federal agencies to set up standards in an effort to "reduce" energy usage for crypto mining operations.

With the Ethereum Merge around the corner claiming that it will reduce the network's energy consumption by over 90%, it's not coincidental seeing policy makers question the energy-intensive aspects of Proof-of-Work. 

However, it is equally important to address how Bitcoin mining can actually help promote renewable energy, and reduce pollution. Let's take Texas as an example, where last year more renewable energy was wasted than the electricity that all of the state's #Bitcoin miners consumed. 

Why is that? Wind and solar are energy sources that lack a stable power generation, after all you can't have sun and wind all of the time to power solar panels and wind turbines. That is why, at certain times, these forms of renewables can produce more energy than what is actually needed, leading to energy waste, crushing prices to the downside ($0).

This is where Bitcoin miners can come to the rescue. Under the form of a buyer of last resort, miners can improve the economics of solar and wind rich energy grids. Instead of wasting energy, these sites could sell it to the Bitcoin network for a return by setting up the exact number of ASICs needed to balance the grid. 

Last but not least, the network's hash rate climbed back to an all-time-high on Monday. Crossing the 280M TH/s threshold for the first time. Mining continued to expand as Bitcoin's price climbed back above the $20,000 mark.

What's Ahead

This week we get the August inflation reading for the U.S. along with the Producer Price Index, statements from the SEC and CFTC, and the highly anticipated Ethereum merge. We’ll also cover a recent wave of bailouts around the emerging world and Europe, and how they are impacting markets.

Ah the smell of fresh ink and paper… It's that time of the year again, bailout season! And markets seem to have caught the excitement.

Last week we started seeing a wave of bailout and subsidy conversations stemming from the U.K., to Sri Lanka: 

In the U.K. their new prime minister promised to do whatever it takes to keep the lights on and houses warm for U.K. citizens this winter. Even if it means printing a new $172 Billion.

Similarly, both the International Monetary Fund and China made pledges to bailout or assist several emerging countries to ensure they can restructure their debts and shore up their finances. This has greatly reduced the fear of defaults on this debt.

Notably, China said it would forgive a total of 23 interest-free loans to African Nations and direct $10 Billion to the IMF. This is in addition to the $44 Billion stimulus package that it announced for its own economy 3 weeks ago.

The IMF is working on assistance for Sri Lanka, Pakistan, Egypt and Chile.

The first bonds to react to the news were the U.S. dollar denominated debt in Emerging markets. In fact, the spread between the local-currency denominated bonds and their U.S. dollar denominated bonds reached the highest point since the great financial crisis. 

This is both a sign of the strength of the U.S. dollar, and the perceived future weakness of foreign currencies, even after accounting for bailouts. Investors are in some ways expecting a “rinse and repeat”, where the U.S. dollar debt can continue being restructured, while the burden is passed on to citizens by weakening the value of their savings in local currency.

Having access to U.S. dollar savings options in these markets can materially change someone’s financial future. I know this from experience. Once again, this is a great example of why we work so hard to give clients globally access to Savings accounts in both bitcoin and U.S. dollar stablecoins here at Ledn.

To close, it seems that governments around the world are assessing the political consequences of not providing stimulus/bailouts and, to no one’s surprise, are once again deciding to “solve by printing”.

Here’s what you can expect for the week ahead:

Tuesday

12.00 PM EST - U.S. Consumer Price Index for August. The market expects headline inflation to come in at 8.00% Year-over-Year and -0.1% Month-over-Month. Core inflation is expected to come in at 6.1% Year-over-Year and 0.3% Month-over-Month.

Wednesday

12.30 PM EST - U.S. Producer Price Index for August. The market expects headline inflation to come in at 8.8% Year-over-Year and -0.1% Month-over-Month. Core inflation is expected to come in at 7.1% Year-over-Year and 0.3% Month-over-Month.

Thursday

03:00 AM EST - The Ethereum Merge occurs

02.00 PM EST - SEC Chairman Gary Gensler testifies to the Senate Banking Committee

02.00 PM EST - CFTC Chairman Rostin Behman testifies to the Senate Ag. Committee Hearing on Crypto

It's a big week coming up, and as always, we'll keep you posted on any relevant news throughout the week right here and from our Twitter account.

This article is intended for general information, educational and discussion purposes only, it is not an offer, inducement or solicitation of any kind, and is not to be relied upon as constituting legal, financial, investment, tax or other professional advice. This article is not directed to, and the information contained herein is not intended for distribution to, or use by, any person or entity in any jurisdiction or country where such distribution, publication, availability or use would be contrary to law or regulation or prohibited by any reason whatsoever or that would subject Ledn and/or its affiliates to any registration or licensing requirement. This article is expressly not for distribution or dissemination in, and no Ledn product or service is being marketed or offered to residents of, the European Union, the United Kingdom, the United States of America or any jurisdiction in Canada, and such product or service may only be marketed or offered in such jurisdictions pursuant to applicable laws or reliance on regulatory exemptions. A professional advisor should be consulted regarding your specific situation. Digital assets are highly volatile and risky, are not legal tender, and are not backed by the government. The information contained in this publication has been obtained from sources that we believe to be reliable, however we do not represent or warrant that such information is accurate or complete. Past performance and forecasts are not a reliable indicator of future performance. Any opinions or estimates expressed herein are subject to change without notice. This article may contain views or opinions of the author that do not necessarily reflect the opinions, standards or policies of Ledn. We expressly disclaim all liability and all warranties of accuracy, completeness, merchantability or fitness for a particular purpose with respect to this article/communication. Read our Legal Disclaimers at https://ledn.io/legal/en/legal-disclaimers

About the author

Mauricio Di Bartolomeo

Mauricio is the co-founder and Chief Strategy Officer of Ledn.io. He grew up in Venezuela where he and his family learned about Bitcoin. Now based in Canada, Mauricio holds HBA and MBA degrees from the Richard Ivey School of Business in London, Ontario in Canada.