Fundamentals will be an increasingly important driver of outperformance, especially as crypto captures more capital and investor attention.
The last several weeks have reminded us just how correlated crypto assets are to one another. This was primarily driven by the recent jump in market volatility, strengthening positive correlations between crypto assets regardless of their underlying fundamentals. It’s important to note this isn’t a phenomenon native to crypto. Traditional asset classes like equities, for example, tend to see higher Intermarket correlations during periods of heightened volatility as well.
In these moments of acute uncertainty, macro events still dictate much of the price action in these uncertain times. Over the past month, the correlation between BTC and SPX has increased, as both risk assets were similarly affected by changes in the current macro regime. In other words, BTC and crypto assets appear to be trading more like macro assets, in large part because the most significant tailwinds that propelled them to new highs over the last 18 months have strong crossovers with those driving traditional risk assets like equities.
That said, investors should brace for a world where the sectors within crypto — BTC, ETH, DeFi, NFTs, L1/L2 — start behaving more independently as correlations between different crypto sectors begin to weaken. Fundamentals were almost a running joke in the early days of the crypto market. We’ve reached a point where protocols generate significant value in wholly unique ways. Investors will begin to recognize this the same way they realize that stocks in different sectors will exhibit unique return patterns and be benchmarked accordingly. In the coming years, crypto investing will be no different.
There’s a growing divergence between “macro crypto” and “web3 crypto.” Macro crypto (think BTC) will continue to be impacted by critical macro factors. In contrast, the impact on the broader crypto market will depend more on the type of asset or protocol and whether or not such events directly impact its value proposition. In other words, the success of these dapps and protocols will be determined more by adoption and usage activity rather than the same macro factors impacting BTC. Bitcoin is still a play on network effects, and if the macro backdrop doesn’t encourage new participants to come into the network, its price will reflect that.
For instance, the next viral play-to-earn game will play an outsize role in attracting players and capital to the gaming sector. Meanwhile, the growing prevalence of institutional-compliant liquidity pools via CeFi<>DeFi bridges could grow inflows to DEXes like Uniswap or lending protocols like Aave. The narrative developing around web3, for example, is a diverse collection of project teams focused on building entirely new applications that create step-function improvements over legacy companies and networks. NFTs represents a new paradigm of interactive digital assets with built-in property rights. Those that provide enough value for their target audience will see a reciprocal level of ownership demand, regardless of whether the Fed raises rates or BTC sees a 20% drawdown.
Part of this divergence narrative will be driven by “smart money” recognizing the potential for crypto’s outsized returns. The days of classifying everything as either Bitcoin or “something trying to be Bitcoin” are long gone. Investors will realize that, unlike traditional equity, most crypto assets are designed to be productive assets, and the use cases (or utility) of these assets vary by application or protocol. Sure, you can take a buy-and-hold approach. Still, to participate in many of these networks (or at minimum avoid dilution), you need to do something with the native asset that contributes to its success (such as staking or providing liquidity, for example). One of the big unlocks in crypto is greater capital efficiency, and savvy investors will realize this.
That’s not to say macro factors won’t impact the broader crypto market. After all, we know rapid liquidity growth can be a strong tide that lifts all boats. Specific sectors and their underlying assets will benefit from solid fundamentals, creating a ripe environment for active management if you know how to spot trends early.
Crypto IS Macro
Ownership is one of the critical pillars of crypto and web3. This transition to an Ownership Economy is rooted in secular trends that are years in the making. In an effort not to contradict ourselves, we have repeatedly said that crypto is the most macro thing happening right now. In other words, crypto IS macro. And it’s so much deeper than just the digital gold or inflation hedge narrative surrounding BTC.
Similar to our broader economy, the question of how the pie gets divided up can be contentious. Take the widening wealth inequality gap, for example, which has financial and socioeconomic consequences for all of us, crypto believers. (i honestly believe inequality is one of the biggest challenges our generation currently faces). This shares some parallels with Jack Dorsey’s recent Twitter sparring around the role of investor ownership in primary web3 rails.
Those who contribute to building these decentralized networks and applications should have ownership in the networks they help create. Similarly, those who use these protocols or provide valuable contributions to grow them should have ownership in the networks they’ve helped toward success.
Giving ownership to those responsible for creating value is also rooted in the growing importance of community as a competitive strategy, not just for web3 projects but for many existing industries and businesses. The most tangible examples today are in creative industries like music or media. But any company capable of creating loyalty among its stakeholders will look to build stronger communities around their shared values.
Any brand that isn’t considering a community engagement strategy will likely fall victim to higher customer turnover as people choose to support brands they have a stake in. Brands that leverage web3 to build robust community engagement strategies earlier in their journey are at an advantage in this new world. Those that recognize the power of community and lean into its positive sum forces will be tomorrow’s household names.
A scissor issue
I think we will continue to see the politicization of crypto, which will lead to a friendlier regulatory landscape than some predict in the United States and, by extension, most western markets. The capital controlled by crypto-natives is substantial, Republicans are courting crypto influence, Democrats have low approval ratings, and something like 17% of the populace owns crypto. I predict at some point in 2022 that squeezing the crypto industry with unfriendly regulations will be political suicide, and policymakers will reign in unfriendly regulators.
Hope you had a fantastic reading
