Authors: Zach Pandl, Grayscale;
- Over the past month, crypto's rally has expanded from Bitcoin to other market segments, particularly the smart contract platform – the FTSE Grayscale crypto space, which has been the best performer since mid-October.
- The market is now considering a more optimistic outlook, with active crypto traders appearing to hold long positions as futures open interest increases and leverage costs increase. If the positive news does not continue, the risk of disappointment is even greater.
- Encouragingly, lower-than-expected October inflation should keep the Fed on hold. If real interest rates have peaked and we continue to see progress on spot ETF approvals in the US market, we believe crypto valuations can continue to recover.
The cryptocurrency rally that started with Bitcoin has expanded and is now being reflected in most other market segments. **In addition to optimism about spot Bitcoin ETF approvals and demand for Bitcoin as a digital alternative to gold, recent market performance has highlighted a variety of other themes, including competition between smart contract platforms, advances in blockchain-native video game development, and tokenization efforts from traditional financial firms. **
According to the FTSE Grayscale Crypto Sector Index Series, total crypto valuations rose by 40%** between October 15 and November 13 (Chart 1). Although the monetary cryptocurrency industry led the market until October 2023, it has since lagged as the market rally extended beyond Bitcoin. Conversely, in the last month, the smart contract crypto space has outperformed the broader market, supported by soaring prices for the Solana (SOL) token and several other smart contract platform assets. As of October 15, 2023, the total market capitalization of the FASE Grayscale Cryptocurrency Industry Index series increased from $890 billion to $1.2 trillion.
Exhibit 1: The smart contract platform industry has outperformed recently
! [JIrCeCFQ8wvnXrYUCP3sJhmlUSy2xDYKrfpzOSzE.jpeg] (https://img-cdn.gateio.im/webp-social/moments-40baef27dd-80f24aeb11-dd1a6f-cd5cc0.webp "7137171") Source: FTSE, Grayscale Investments. Data as of November 14, 2023.
Competition between smart contract platforms, a big theme in the cryptocurrency market in 2021, has recently re-emerged. In particular, SOL has appreciated by more than 150% since mid-October (Exhibit 2), likely due to the announcement of Firedancer at the annual Solana Breakpoint conference, a new validator client developed by Jump Crypto to improve the reliability of the network. **Among the Layer 1 smart contract platforms, Solana has the third-largest number of daily active users and the second-largest number of full-time developers, and many investors seem to see the chain as the strongest competitor to market leader Ethereum. **
Exhibit 2: Solana outperforms the competition
! [7p3WXYJW0fwifDNvFb1CEIysgKpXEra4nX9V6NkB.jpeg] (https://img-cdn.gateio.im/webp-social/moments-40baef27dd-33c1873d24-dd1a6f-cd5cc0.webp "7137183")
Source: FTSE, Coin Metrics, Grayscale Investments.
Other stocks that have outperformed include Illuvium (ILV) and ImmutableX (IMX). Illuvium has developed a suite of interoperable sci-fi games based on the ImmutableX blockchain; The project announced that its game will be available on the Epic Game Store on November 28.
In addition, the tokenization of TradFi institutions' assets continues to be a focus for market participants. ** While most of the activity will take place on private/permissioned blockchains, it may also have some impact on the crypto market. In particular, Chainlink developers expect that its Cross-Chain Interoperability Protocol (CCIP) may help connect the two ecosystems. Since October 15th, Chainlink's LINK token has risen by 94%.
In the wake of the price increase, active crypto traders now seem to hold quite a bit of position. Bitcoin futures open interest has reached its highest level since spring 2022, and borrowing costs on both centralized and decentralized platforms soared on November 13 (Chart 3). In recent weeks, there have also been significant inflows into global crypto exchange-traded products (ETPs), both cash products outside the US market and futures products in the US market. Since October 15, Grayscale Research estimates that the total net inflow of crypto ETPs is around $990 million, mostly into Bitcoin products.
Figure 3: Leverage is more expensive on centralized and decentralized platforms
! [g0fcFBkAasH2MLpg7lMDFhtsurgMeZ1uSIt5PE94.jpeg] (https://img-cdn.gateio.im/webp-social/moments-40baef27dd-f03fdb4d6a-dd1a6f-cd5cc0.webp "7137185")
The APY of borrowing USDC on Aave V3 on ETH. Aave is one of the largest decentralized lending platforms. Source: DeFi Llama.
Valuations of cryptocurrencies are now discounted to a more optimistic outlook, which means that if the incoming news becomes less favorable, the risk of disappointment is greater. Fortunately, the latest data continues to move in a positive direction. For example, consumer price inflation came in lower than expected in October, which we expect will raise the likelihood that the Fed will complete its tightening (bond yields fell sharply after the report). In our view, Fed rate hikes are putting pressure on crypto valuations, and ending this process could help support the market recovery. We believe that crypto valuations could continue to recover if real interest rates peak and we continue to see progress on spot ETF approvals in the U.S. market. **
Chart 4: Lower real interest rates should support the crypto recovery
! [iR9lrvwvHbmWOJly1feCv1sk35tWfkPt2mf981Tq.jpeg] (https://img-cdn.gateio.im/webp-social/moments-40baef27dd-af7ea9766a-dd1a6f-cd5cc0.webp "7137186")
Source: Bloomberg. The effective interest rate is the 2-year TIP yield. Data as of November 14, 2023.
