The Mysterious Case of the Mexican Peso

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Bitcoin 

Bitcoin closed down by -4.77% last week on very light volume. The bulk of the move came on Friday as Silvergate Bank, a crypto-focused bank in the U.S., said that it would suspend its crypto-payment network that was used by a large number of industry participants. Most prominent players in the industry, including Ledn, have announced that they have no exposure to Silvergate. However, investors may take this as a sign of more potential trouble to come for U.S. banks involved with crypto assets, and it has impacted crypto asset prices negatively.

In terms of price action, after rejecting the 200-week moving average at ~$25,000 two weeks ago, bitcoin currently finds itself dead in the middle of the “range” at ~$22,500.  

Interestingly, we continue to see very little buildup of bitcoin short interest, and the Bitcoin futures curve is still showing a healthy contango with prices moving upwards and to the right.

In terms of key technical support and resistance levels, we continue to monitor the 200-day moving average price at around $20k as potential support, and the 200-week moving average at around $25k as potential resistance to the upside. We cover potential near-term catalysts for price moves in our “Whats Ahead” section.

Digital Asset Markets:

1. Tools for Bitcoin tax season

It’s the most wonderful time of the year (for accountants) … tax season is upon us. Although last year was brutal for most digital asset portfolios, many investors have some form of taxes that have to be paid every year. 

As an example, even the people that received interest payments from now-bankrupt companies during 2022 have to file and pay taxes for those interest payments - even though their assets are trapped in the bankruptcy proceedings. 

Over time, several companies have developed easy to use tools to help investors calculate their tax obligations. These days, many are compatible with the statements produced by the major companies. As an example, at Ledn, our statements are compatible with Taxbit - which also offers a great solution for clients looking to calculate their obligations. 

Whatever the case may be, with digital asset prices where they are, many people are looking for sources of liquidity to meet their obligations, without having to sacrifice something else in their portfolios.

Here’s where bitcoin-backed loans come in. 

*This is not tax or investment advice - consult with your professional advisor before making any investment decisions.*

In many jurisdictions, when you sell bitcoin, you transfer the ownership of that asset to someone else, and that triggers a taxable event. When you pledge an asset as collateral for a loan, you are not selling the asset, and therefore the transaction is not a taxable event. In fact, in some cases you may even be able to deduct the interest expense generated by the loan from your income.

Using bitcoin as collateral for a loan also allows clients to sell that bitcoin at a later time if they wish to do so. It gives clients flexibility in terms of tax planning. 

Because of these and other reasons, every year around this time, we see a surge of loan requests at Ledn. Typically, our loans are approved within 24 hours of application time and disbursed within 24 hours of receiving the collateral. 

Macro

2. China, Capital Controls, and bitcoin

Perhaps the best example of the U.S. dollar’s dominance over the world of currencies is the fact that most living Americans have never had any limits or restrictions to buy any amount of any country’s foreign currency. 

Those of us from Latin America (and most of the world, for that matter), have likely experienced a bureaucratic process and strict limits when trying to convert our bolivares, pesos, or other into the almighty U.S. dollar. Capital controls are almost synonymous with inflation throughout most of the world.

Even in mighty China, the beacon of international growth, strict limits on the amount of dollars people can buy have existed for decades. 

For instance, Chinese nationals have a $50,000 limit for the foreign currency that they can buy each year. For things like international travel, Chinese nationals are generally allowed to take $5,000 in foreign currency out of the country per trip. And the data shows that Chinese nationals take advantage of every opportunity to get money out of the country. 

In 2017, the U.S. Fed tried to calculate how much money was leaving China through tourism capital flight. To do this, they compared the tourist expenses reported by China in each particular destination country to the destination country’s report of expenses by Chinese tourists. In principle, both numbers should have matched. However, by 2014, a large gap started to appear between the 2 numbers, and it reached USD $100 Billion by 2015 - or 1% of China’s GDP. Researchers found a similar gap when using other models for the calculation.

China’s capital controls took the spotlight again last week with veteran emerging markets investor Mark Mobius stating that he “could not move his money out of China” to U.S. media. In an interview with Mornings with Maria, Mr. Mobius said that China is tightening its controls of capital flows, as he could not withdraw assets from his HSBC account in Shanghai.

As the Chinese economy reopens, Chinese nationals will be likely looking to convert some of their excess COVID savings into foreign currency to diversify their holdings - especially with rumours of a Chinese CBDC to come soon.

Bitcoin and digital assets also provide an avenue for Chinese nationals to diversify away from their local currency. Typically, in the places of the world where bitcoin is working, it tends to get “banned” - i.e. Russia, Turkey, Nigeria, and China. However, regardless of any “bans” - when a tool solves a problem, people use it. And if history is any guide, people in China will continue using bitcoin more and more in the future.

Closing thought: To me, the fact that the world’s second largest economy has to place so many restrictions on the use of its local currency by locals and foreigners alike, exemplifies just how far ahead the U.S. dollar is in terms of being the world’s currency.

3. The Mysterious case of the Mexican Peso

Most world currencies have bent a knee to the U.S. dollar over the last year. The U.S. dollar index (DXY), which represents how the U.S. dollar trades against its main trading partner’s currencies, has risen by more than 8% since 2022. In other words, the U.S. dollar has become more than 8% stronger than the currencies of its main trading partners, on average. The values of the currencies in China, Europe, Canada and Japan have all dropped relative to the U.S. dollar in this period. But there is a mysterious exception…

The Mexican Peso has increased in value vs. the U.S. dollar during the same period. And it has been a significant 11% gain. That means the Peso has strengthened by 11% at the same time as the U.S. dollar index soared by 8%. 

Why is this happening?

A few explanations. 

The Mexican Central bank has kept its benchmark interest rate much higher than its local inflation rate throughout the pandemic. For context, the inflation rate for January was 7.9% and the current overnight interest rate is 11%.  This creates a disincentive to borrow at the bank’s rate and invest into financial assets that appreciate with inflation.

As a comparison, the inflation in the U.S. is north of 6%, and the current interest rate is 4.75%. This, in theory, still incentivizes borrowers to borrow at 4.75% if they could, and invest in the markets which could appreciate at 6%. 

On a related note, the Mexican Central Bank has also kept its interest rate _above_ that of the Federal Reserve. This creates a disincentive to borrow in Mexico and invest in the U.S. In fact, it creates the opposite incentive.

The pandemic exposed the fragility and dependencies of global supply chains. The world realized that retailers in the U.S. and around the world are far too dependent on Chinese manufacturing, international peace on all shipping routes, and the political will of its trading partners.   

To prevent this from happening again in the future, many argue that companies will look to “re-shore” their supply chains locally. Because of this, many thought that American companies would be the first to start setting up factories in the U.S. - and rekindle the “Made in America” meme. 

What has actually been happening in practice, though, is that Chinese companies have become aware of this, and have started taking action so that they are not displaced as the world’s factory. How are they doing this? By setting up new factories in Mexico. 

American companies are not too far behind though. A good example is last week’s headline from Tesla. 

This is a good example of why investors need to put their biases aside and “follow the money”. In theory, Mexico has all the makings of a LatAm country whose currency should be crumbling. A volatile, left-wing ruler with populist antics, a drug cartel problem, a great deal of wealth inequality, and an immigration problem. 

However, they are located next to the U.S., with access to cheap labour, in a time when the world needs a new factory.

Even all of the political red flags imaginable are not enough to deter investment into Mexico at a time when political tensions with China are so high. This trend could continue - and have 2 different impacts: 1) with lower inflation and devaluation rates in Mexico, more Mexicans will have a stronger incentive to stay in Pesos, and 2) more Chinese people will need bitcoin.

The Week Ahead 

It will be a busy week ahead for bitcoin. We get very relevant economic data from China, like balance of trade, growth of money supply and new loan originations. We will also get a new read at U.S. unemployment, and 2 speeches by Fed chair Jerome Powell. We also get 2 speeches from ECB President Christine Lagarde, a speech from SEC commissioner Gary Gensler, and relevant corporate earnings for bitcoin in the likes of Versa Bank, Oracle and more.

As always, here’s a summary of the events and data that could move markets in the week ahead:

Notice for Canadian Residents: As of January 4, 2023, Canadian clients will no longer be able to take out new B2X loans. As of February 1, 2023, Canadian clients will no longer be able to open a new BTC or USDC Savings Account, deposit BTC or USDC to existing Savings Accounts or earn yield on any existing BTC or USDC Savings Account balances.

Notice for U.S. Residents: Effective March 1, 2023, U.S. clients will not earn interest on any BTC and/or USDC balance in their Savings Accounts and/or Legacy Savings Accounts. 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 Disclaimers at https://ledn.io/legal/disclaimers