The Demand for Non-Correlation, Part One
by Adam Szymanski, PhD
The sharp downside volatility in financial markets thus far in 2022 has increased the demand for investable non-correlated assets.
The NASDAQ and the SP500 are both off to their weakest starts in decades, posting -27% and -18% losses year to date.
Since the fallout of the 2008 financial crisis, Bitcoin and other cryptocurrencies have proven to be an excellent site of diversification for investors looking to allocate capital in a market with its own unique cycles. In the fall of 2021, many crypto analysts including Raoul Pal, Benjamin Cowen and Plan B were expecting the crypto total market cap to accelerate to the upside in what looked to be an echo of the 2017 blow-off top and a 2013-style “double peak” cycle. Instead of pushing exponentially higher right after Bitcoin broke its previous May 2021 high of about $64,000 and the total crypto market cap pushed through its previous high of about $2.5 trillion, digital assets have given up over 50% of their market cap in a prolonged bear market.
One of the most pressing questions for crypto investors is whether the correlation which has emerged between crypto and the equity markets is just a short-term phenomenon or whether it will endure for the long term. There is real concern that crypto could trade like a levered basket of high-growth tech stocks for the foreseeable future, and investors are searching for non-correlated assets to diversify their portfolio holdings to endure through a possible recession.
However, the options available to retail investors are limited:
- The inflationary environment has made holding cash unattractive, even if the 8.3% loss to inflation still bests the losses seen in the indexes so far in 2022.
- Savings accounts offer negative real rates.
- Gold has failed to break out despite a mix of macroeconomic factors which are supposed to be highly favourable to its price appreciation: war and geopolitical tension, currency debasement, inflation, dollarized sanctions and sliding equity prices.
- Oil and soft commodity prices are highly responsive to geopolitical policy and can rarely just be bought and held as a long term inflation hedge.
- The increase in mortgage interest rates has added an additional barrier to real estate investing.
The recent fiasco with the Anchor Protocol shows the extent to which retail investors are searching for a way to save money in real terms. Practically all sustainable stablecoin yields in the crytoverse are significantly less than the 8+% inflation rate. This demand for a positive yielding savings account led to the meteoric rise of the UST algorithmic stablecoin experiment and the Anchor protocol which paid out 20% annual yields on UST. Over the end of 2021 and into 2022, the adoption of UST accelerated as crypto holders looked for ways to earn yield during a stagflationary bear market.
As the popularity of Anchor and UST grew, the market cap of UST approximated the market cap of the underlying base asset LUNA which was designed to back the UST stablecoin. Once there became an imminent risk that the UST market cap could surpass the market cap of LUNA in mid-May (both were approaching $20 billion), the peg on UST began to wobble, leading to a massive rush for the exits and the beginning of a death spiral which decimated the LUNA price through an algorithm that led to exponential dilution through minting of new LUNA tokens.
Unfortunately, many new investors to the crypto space were attracted to the misguided promises of the Anchor protocol and lost their investments entirely, even though they were searching for safe yields on a token that they presumed was stable.
The conclusion that can be drawn from these recent events is that there is a very serious level of demand for safe digital assets which are non-correlated with the price of Bitcoin or the fluctuations of the NASDAQ.
Artfi offers a solution. To read more about how Artfi will combine the historical performance of the blue chip fine art market with the power of NFTs to create a non-correlated investment opportunity, tune in for part two of this Medium series.