Back on May 7, I made a prediction that Treasury issuance to refill the Treasury General Account (TGA — America’s checking account) was going to suck liquidity out of the market and force a drawdown in stocks.

Wrong!

Stocks proceeded to go on a face-ripping summer rally, driven by Nvidia NVDA 0.00%↑ and the rest of the “Magnificent Seven,” before peaking at the end of July and giving back some of the rally here over the last two months. Meanwhile, the TGA has been rapidly refilled as expected, increasing by $500 billion since May:

And at the same time the Fed has shrunk its balance sheet by another $500 billion:

So that’s net $1 trillion in liquidity that’s been sucked out of the market by the Fed and the TGA in the span of four months, yet risk assets have continued to rally in the face of this liquidity drain.

What explains this? What did I get wrong?

Known as the “ON RRP,” this is the missing piece of the puzzle. It’s a facility where money market funds, commercial banks and other institutions can borrow or lend overnight directly with the Fed at the Fed Funds Rate. Because of it’s (assumed) lack of duration and counter-party risk, it’s a popular choice of investment for many money market funds (MMFs), which have seen mega inflows this year as investors eschew bank deposits earning 0% interest for the ~5% “risk-free” return available in MMFs.

Back in May, my prediction of a summer stock market drawdown was based on the logic that the Treasury expected to borrow a net of $1 trillion over Q2 and Q3, and with the Fed engaging in QT, the domestic commercial banking sector already sucking wind and borrowing from the BTFP to stay liquid, and foreign governments reducing their holdings of U.S. Treasuries, that $1 trillion was going to have to come from somewhere and that somewhere was going to have to be the private sector.

Well, it did, kind of. It came from the ON RRP:

That’s about a $800 billion drawdown in the ON RRP, which nearly matches the $1 trillion combined liquidity draw from the TGA and the Fed balance sheet over the same period.

So the net impact to total market liquidity since May has been about negative $200 billion, a far cry from the $1 trillion I hypothesized would be needed.

What I failed to consider in May is at what tenor would the Treasury seek to borrow at to refill their coffers, and how would that impact where the source of funds would come from?

Treasury Bills are short-term (less than one year) securities, maturing in 13, 26, or 52 weeks from issue date.

Treasury Notes are medium-term securities, maturing between 2-10 years.

Treasury Bonds are long-term securities, maturing between 10-30 years.

If the Treasury issues notes or bonds, MMFs are not a good candidate to purchase the debt because they cannot take that much duration risk. That money must come from medium and long-term lenders/investors, which usually means foreign governments, pensions, and stock market investors.

However, if the Teasury issues primarily bills, money market funds are a candidate to purchase the debt because they can afford to take on a little duration risk to earn a little bit more yield. They can effectively swap a portion of their funds parked at the reverse repo for T-Bills, so long as they keep enough liquid to honor fund redemptions.

Well, over the past four months that’s exactly what’s happened. The Treasury has decided to primarily tap money markets and the reverse repo to refill the TGA by issuing bills, and so far has been reluctant to borrow at the medium- and long-end of the curve despite the fact that it costs them more to borrow short-term (currently ~5.6%) than medium- or long-term (currently ~4.75%). This is the “inverted yield curve” you keep hearing about:

Why would the treasury willingly choose to borrow at higher rates? Well, they might expect long-term rates to come down in the future and not want to lock-in their cost of 10-30 year debt at cycle highs, OR (gasp!) the “deepest, most liquid market in the world” (U.S. Treasuries) might not be as deep and liquid as it is commonly assumed — meaning, there aren’t enough buyers of 10-30 year bonds at 4.75% and the Treasury knows the only purchasers of their debt are at the short-end.

Whatever the answer, the long and the short of it is that so far money market investors have been funding the TGA refill as opposed to stock market investors, and net market liquidity has remained flattish to slightly down over the summer as opposed to being significantly down. In my view this is what has allowed the stock market rally to continue, along with Nvidia selling enough A100s to power a small country with heat dissipation alone (although they might not have anything to drink!).

So, the questions now are: can this continue? For how long? What changes it?

A long, long time ago, in the before times, we experienced a breakdown of sorts in the repo market. On September 16 and 17, 2019, overnight money market rates spiked from the Fed’s target range of 2.25% to over 10%. To my knowledge this type of move was unprecendented, and is believed to have been caused by a shortage of cash due to corporate tax payments and an increase in net treasury issuance. Tax payments plus $54 billion of long-term treasury debt settling on September 16 caused reserves in the banking system to decline by about $120 billion over two business days. The volatility in the overnight rate prompted to Fed to inject $75 billion of liquidity into the repo markets on Tuesday, September 17 and it continued to do so each day for the remainder of the week, resulting in a total $300 billion liquidity injection over four days. The S&P 500 fell 4% over the final two weeks in September on repo market uncertainty and fear.

To further address the apparent lack of liquidity in the system, the Fed announced on October 11, 2019 that it would restart QE and buy $60 billion of T-bills monthly through Q2 2020 (of course we never got that far without far greater Fed intervention needed due to COVID). The Fed’s actions ignited a 15% rally in the S&P 500 from October 2019 - February 2020, before COVID ravaged global markets.

A Fed post-mortem on the entire episode can be found here.

Okay great, who cares?

Well, California tax payers were granted an emergency extension for filing and paying their 2022 taxes due to winter storms. October 16 is tax day this year if you live or do business in California.

And a lot of people live and do business in California, including many of the aforementioned MAG7.

I haven’t seen any estimates on how much in aggregate taxes California individuals and businesses are expected to pay (read: how much money they’re expected to drain from the system) on October 16, but a quick scan of MAG7 balance sheets reveals $25 billion coming from those seven entities alone.

I can’t be sure all of that is due October 16, but Google, Nvidia and Meta are domiciled in California and so I think at least a majority of those taxes will be paid October 16, accounting for ~$20 billion from just four, albeit four very large, corporations. Compare this to the $66 billion tax payment that caused stress in September 2019.

Add on top that individual taxes, and that student loan repayments are restarting in October for the first time since the pandemic struck, and you’ve likely got a material amount of reserves coming out of an already stressed banking system.

Now, you would the Treasury might have learned from 2019 and try and go light on issuance through this period, just to be safe. Those tax payments are going straight into their account, after all! Time will tell, and the smart money probably isn’t on the same exact mix of forces causing a repo market malfunction as last time, but I’m watching the Treasury’s announcements of future auctions and if they announce a large amount of issuance in the mid-October time frame, I’m going to be inclined to lean a little harder on the sell button.

That’s risk factor #1 and has a very tight window. We’ll know whether this is a problem or not in three weeks time.

Risk factor #2 is that, at some point, the Treasury will need to start issuing bonds instead of bills.

The risk, though, of issuing more debt at the long-end of the curve is that you don’t find bidders for that debt and you have a failed auction. This is what happened in the UK Gilts market a year ago this month, and caused the Bank of England to restart QE.

Much like the overnight rate spiked from 2% to 10% in days in 2019, I’m wary we could see this tightening cycle end with 30-year bond yields spiking from 5% to 10%. This would very probably cause a) a large stock market drawdown and b) the Fed to step in and do QE to bring bond yields back down. This would be the green light to go all-in on stocks I’ve been waiting for.

This is essentially my thesis from May eventually playing out. I’m watching the upcoming auctions for large bond issuance to potentially cause a repricing (read: rates up stocks down) in markets.

Indeed, as I write this, rates are breaking out to new highs:

Now, doom porn that sounds smart is one thing, and actually making money is another.

I thought I had a compelling thesis for why stocks were due for a drawdown back in May, and here we are with the S&P up 4% and the Nasdaq up about 11% from May 7 to Septmeber 28 close. I latched onto the TGA rebuild narrative, but missed that it would be funded by the repo markets and be a net neutral event to overall market liquidity.

About two weeks after I penned that thesis, NVDA 0.00%↑ reported the best quarter in history and sent the market into an AI-fueled summer rally that damn near sent the market to new all-time highs before topping out a couple weeks ago.

For full transparency, I used the 2023 YTD rally to bring down exposure and raise cash in June, and hedged 100% of my remaining net long equity exposure with at-the-money QQQ puts bought on June 15 and June 29, for expiration date October 20, 2023. At the time I felt like the October 20 expiry got me through the anticipated TGA rebuild, through September quad-witching, and through the mutual fund year-end and tax-loss harvesting period. If it didn’t happen by then, my thesis was probably wrong.

My current asset allocation looks like this:

As mentioned, I’m currently hedging my net equity exposure out with options. My portfolio beta is 0.31 so I’m still biased long.

I was feeling like an idiot for most of the summer as the QQQs ripped in my face, before the pullback of the last two weeks took away a bit (not all!) of the sting. I plan on holding my puts to expiry unless they pay off before then. You can definitely accuse me of thesis creep, but I picked October expiry for a reason and I’m sticking to it in light of the new information I’ve laid out above.

Nonetheless, over the summer I was cursing myself for trying to time a short-term market plumbing gyration while a dot-com level generational technology and narrative in AI popped up right in my face and sent stocks ripping. It didn’t even just appear out of nowhere either: ChatGPT was released last November and Druckenmiller was touting he was long NVDA since Q1. Then in the middle of it all, there was the discovery of a potential room-temp superconductor!?!? Blimey!

What happens if we wake up one day and the Teslas are actually driving themselves?

The point is that I think the inexorable march of technology will continue to send the stock market higher over time in real terms and it’s hard to time just when a new technology is going to unfold or narrative is going to take hold. I’m now very open to the idea that AI could prove to fuel a stock market bubble of similar or larger magnitude than the dot-com bubble — why not?

One of the hallmarks of the dot-com bubble, otherwise known as the telecom and tech bubble, was the tremendous overbuild of infrastructure and capacity before there were really any scaled applications to turn that capacity into consumer value. But, the overbuild, while creating a boom-bust cycle in the short-term, brought compute, storage and bandwidth costs down to the point where there was a foundation for the Googles, Amazons, and Netflixes of tomorrow to be built upon. I think a similar thing is happening in AI right now, as Sequoia has elegantly put it.

Combine this with the ongoing, inevitable (if uneven) debasement of fiat money sending real assets higher in nominal terms, and I think you definitely want to be biased long if not levered long stocks most of the time.

On the other hand, there is no precedent for a “soft-landing” after a rate-hiking cycle, and we’re in one of the most dramatic in history, following one of the biggest asset “bubbles” in history post-covid. I’m also very open to the idea that this ends with a failed treasury auction and the long end spiking to 10%, sending stocks into a sharp tailspin.

Shrug. This game is hard.

My base case is still at some point (soon-ish) we get a spike in bond yields and a sharp drawdown in stocks, forcing the Fed to step back in with QE and away we go.

Thus the large 25% cash position — 5.5% return in money markets isn’t the worst place to hide while sitting and watching how things play out. I’m also going to weigh a short TLT and/or long PFIX position over the coming days and weeks.

So, in sum, I think the can has been kicked and we’re right back where we were in May but with a little added AI narrative overhang. What I think I learned over the summer is, going forward if I want to hedge/be short something, I don’t want it to be the QQQs. I picked QQQ puts back in June because a) I thought the QQQs would be the most rate sensitive index and b) they had just enjoyed a big run on the back of NVDA.

I’m going to let those ride, but on the back end of all this (QE infinity) that’s the index I want to be long. Even in a higher-for-longer scenario (not my base case), I think high real rates are a rich-get-richer phenomenon. MAG7 has $600 billion in cash sitting on the balance sheet earning 5.5%. That’s $33 billion a year of interest income on top of $270 billion in earnings last year, or a 12% tailwind to earnings absent any growth or margin leverage.

While most of the Russell 2000 is burdened by higher rates, MAG7 is printing.

Moreover, I think AI is potentially a centralizing technology. If AI is fundamentally a compute + data game, nobody has anywhere near the compute + data as MAG7.

As I write I have the most cautious PA positioning I've ever had in my investment career at 85% gross long, 45% gross short and 60% cash.

My trading activity increased dramatically in Q2 as I've been continuously executing small trims to my longs as this market melts up and broadening out my short book. I now have a personal record 25 shorts on. I've also hedged my long portfolio with put options which unfortunately don't reflect on Commonstock.

I wrote on May 7 that I'm fully in on the TGA refill -> lack of liquidity thesis. Since then, markets have ripped, but the time is here as the Treasury began issuing new bills and rebuilding the TGA in earnest on 6/14 and 6/15. I think the risk/reward is heavily skewed to the downside over the next 4 months and my positioning reflects that view, while also allowing for upside participation if I'm wrong.

While in one corner of the market AI stocks are going parabolic, I'm still finding attractively priced stocks in other places. I think the current environment is one of the most favorable set-ups for long/short I can remember, although that might be expected coming off a very challenging 6 months for the strategy.

If I'm wrong, my hedges will expire and I'll get naturally more long. If I'm right, I'll be looking to get back to 100% net long exposure. Regardless of what happens in Q3 and through the rest of 2023, I think the chances the indices are materially higher 2-3 years from now are pretty good.

YTD:

Q2:

Week of 6/12:

As the Treasury runs out of money we're likely in for another round of debt ceiling brinksmanship this month. Here's why I think the danger for markets comes immediately after the ceiling is raised, not before.

Once the banks started going under in March I wrote that I expect this Fed tighening cycle to end in yet another wave of liquidity being pumped into the markets to avoid a total collapse, and that when this happens it will send risk assets back to the moon, but we could be in for a very, very bumpy ride to get from here to there so tread carefully.

Now, about two months have gone by, we’ve had another bank go under last weekend in First Republic and three more are teetering on the brink, and we’ve gotten some incremental information from the Fed (two additional rate hikes ::clownemoji.jpeg::) and the Treasury (tax receipts lower than expected, debt ceiling to be hit in early June), so I think it’s a good time to revisit the thesis and update my expected timeline of events.

Something I’ve learned over this cycle is that while the common market trope is “don’t fight the Fed” there is, indeed, one large account that dutifully fights the Fed whenever the Fed is attempting to unwind some of its balance sheet, and that’s the Treasury General Account. The TGA is the U.S. government’s piggy bank, used to pay things like Social Security, government employee wages, and Ukraine, and it is managed by the Treasury Secretary, who is currently former Fed Chairwoman Janet Yellen.

What ends up happening is that while the Fed is spending money via quantitative easing (QE - the direct purchase of government and corporate debt as well as mortgage backed securities), the Treasury soaks up some of that liquidity and refills its coffers by issuing treasuries it knows the Fed will buy, but while the Fed is sucking liquidity out of the system via quantitative tightening (QT - letting those assets it bought during QE mature and not reinvesting the proceeds), the Treasury counteracts it by spending down the TGA. I’m not sure if this relationship is coordinated or emergent, but it doesn’t really matter.

Here’s the TGA since 2019:

And here’s the Fed balance sheet:

So you can see they’re somewhat correlated, because remember they have an inverse impact on liquidity. Fed balance sheet up/TGA down → liquidity increasing; Fed balance sheet down/TGA up → liquidity decreasing, all else equal.

The huge Fed expansion of $3 trillion in a couple months during covid in March-May 2020 resulted in the Treasury running up the TGA by about $1.4 trillion to a high of about $1.8 trillion, which it subsequently spent all the way down by January 2022 as it funded things such as unemployment, PPP loans, stimmy checks and other fiscal aid during the pandemic. While the Treasury was spending down $1.8 trillion during this period, the Fed continued increasing its balance sheet by about another $2 trillion, so the net impact to liquidity over this period was accomodative to the tune of about $3.8 trillion. That’s why we had a ripping bull market in everything. That $3.8 trilly gotta find a home somewhere.

You can see also that the Treasury refilled the TGA over the first half of 2022 back up to just shy of $1 trillion (on the back of record tax receipts from the capital gains of 2021) while the Fed was conducting the last of its QE, with both the TGA and the Fed balance sheet peaking around May 2022. Since then, for the last year the Fed has been reducing liquidity by shrinking its balance sheet to the tune of ~$500 billion and the TGA has been drawing down by ~$700 billion, acting as a bit of counterweight to the Fed.

All this is to say that, when it comes to market liquidity, the Fed ain’t the only game in town.

So that brings us to where we are today. The Fed is still determined to hike rates and continue with QT despite bank blow-ups; meanwhile, the Treasury is running out of money faster than expected because of lower than expected tax receipts (no cap gains in 2022!) and needs to issue more debt to refill its coffers:

What this says is the Treasury expects to borrow $726 billion in Q2, and basically needs to borrow at least $175 billion or it will run out of money, which would mean some combination of reduced or stopped entitlements (sorry grandma no social security check for you this month), government shut down and skipped interest payments on the country’s debt, otherwise known as a default.

No problem though, they’ll just borrow the money, right?

Yes, right, probably. But this is where the issue of the debt ceiling comes into play. Treasury can’t borrow any more unless congress raises the debt ceiling. So you’re going to see a lot of scary headlines and there’s gonna be a lot of political grandstanding over the next month as Republicans try to coerce concessions out of Democrats in return for voting to raise the debt ceiling. This has happened before.

But I’m not too worried about the market during this phase. While the headlines might be panicky, the fact of the matter is the TGA is going to continue drawing down until congress raises the debt ceiling, because it has to. Again, this is accommodative to liquidity and financial markets, a temporary counter force to QT. Money got to find a home.

Here’s my big prediction then: where it actually gets scary for markets is the moment they raise the debt ceiling, not during all the brinksmanship beforehand.

Here’s why: once they raise the debt ceiling, the Treasury is free to borrow more. But where’s the money gonna come from? The typical big buyers of treasuries are the Fed, foreign central banks, the U.S. commercial banking sector, and private market actors.

Well, the Fed ain’t buying right now.

Foreign central banks have been reducing their holdings of U.S. treasuries and increasingly opting for gold for some time now, led by China. I doubt they’re gonna reverse course and do us a solid by gobbling up $1.5 trillion in treasuries over the next six months.

The domestic banking sector is under severe stress and not in a position to buy treasuries. In fact, the BTFP was instituted just so the banks could survive without selling treasuries. Commercial bank buying of treasuries would need to be funded with new deposits, and as we know all too well deposits are currently fleeing the system.

That leaves us with the good ole free market. Private market actors might be enticed by 5% yields, and indeed when you move your bank deposits to a money market fund, you are de facto buying government debt.

But for the private market to take on another $1.5 trillion of treasuries, they would need to sell $1.5 trillion of other assets. Money gotta come from somewhere.

Do you see?

Absent a sudden reversal in Fed policy, money is going to need to come out of the stock market and other assets in order to finance the U.S. government’s fiscal deficit, and this is going to need to start happening the minute congress raises the debt limit and the Treasury can start borrowing again, likely sometime in late May or early June.

I think this is going to cause a stock market drawdown and I’m prepared for it to get ugly for a brief moment. But only brief.

The Fed tells the market when it’s raising rates and doing QT.

The market tells the Fed when it’s cutting rates and doing QE.

I think a crashing market will force the Fed’s hand back into rate cuts and QE in short order, and away we’ll go.

$ROKU encouragingly continues to grow active accounts:

And engagement:

Leading to growth in total platform streaming hours:

ARPU is back to pre-covid trend after 3 straight quarters of sequential decline. It will be key to see ARPU re-accelerate back to trend from here.

Platform revenue down YoY for first time in Q123:

And platform gross margins have been declining (more on this below).

Roku is monetizing time spent on their platform at $0.025/hour. Linear TV was at $0.25 in 2017.

Nice to see they were able to achieve a significant decrease in opex sequentially for the first time:

But YoY opex growth is still far outpacing platform revenue growth:

The business showed it had inherent operating leverage when they reduced costs due to covid uncertainty during 2020-21. I believe they will be able to get opex under control.

So, I think the business levers on which investors must form a view on are:

-Active accounts (largely a function of growth internationally)

-Engagement (specifically: streaming hours per account)

-Platform monetization rate (specifically: revenue per streaming hour)

-Platform gross margin

Active accounts and engagement have been growing steadily, and I see no reason to believe they won't continue to until it starts to show up in the numbers.

Platform gross margins remain the most perplexing to me. To my knowledge, mangement has given no formal guide as to what investors should expect gross margin to be at maturity (please let me know if they have!). Management attributes Q123 decline to "weakness in the ad scatter market, along with a greater mix away from M&E in Q1 2023 compared to a year ago period." This trend has been going on since 2016 IPO with a brief interruption during covid. M&E stands for Media & Entertainment and consists primarily of content publishers' promotional spending on the Roku platform, such as buying branded buttons on the remote or real estate on the home screen, which comes with ~100% gross margin. My view is that "greater mix away from M&E" explains the ongoing decrease of platform gross margin over time, as more and more of Roku's platform revenue comes from digital ads and less from content distribution services, which inclues M&E revenue as well as revenue shares on on-platform new subscription sign-ups and transactions.

Right now, the (maybe variant?) take I'm MOST comfortable with is that monetization should close the gap over time from today's $0.025/hour to linear cable's $0.25/hour. That's a 10x increase just to match linear, and Roku should have much better viewer data and ad targeting, and thus higher CPMs. On the other hand, ad inventory shares with content publishers are negotiated on a case by case basis, and Roku may be sharing 70%+ of ad inventory with certain publishers. This data is not disclosed. So, today's $0.025/hour might not be an apples to apples comp to cable's $0.25/hour. In a bear case, assume 30% * $0.25 = $0.075 is the actual monetization gap to be closed. That's still a decade of double digit growth in monetization rate ahead for the business.

Since both monetization rate and platform gross margin would seem to be largely driven by the terms of Roku's ad inventory/revenue share agreements with content publishers, there is probably an inherent trade-off between the two, i.e. a lower monetization rate will feed through into higher gross margins and vice-versa. As such, growth in platform gross profit dollars is probably the key metric to hone in on, and that has been deteriorating since Q2 22 and declining YoY since Q3 22:

Curious to get your thoughts @tsoh_investing @ccm_brett as well as others!

Bitcoin is making new all-time highs in Argentina today:

It has already happened in Lebanon:

The New York Times was out this past week with a hit piece on bitcoin mining.

When receiving propaganda, one must ask themselves: “Why am I hearing this now?”

Especially when high profile Pentagon employee and bitcoin advocate Jason Lowery was publicly predicting this smear campaign a month ago, giving us tomorrow’s news, today.

In the linked tweet above, Jason speculates this is just the beginning of a targeted bitcoin ESG FUD campaign (environmental, social, governance and fear, uncertainty, doubt for the uninitiated) and, as such, we need to be on high alert as the denial of the right to physically secure the property we value by non-lethal means would be unethical state overreach and arguably a violation of the 2nd amendment. Moreover, I don’t think it is any grand coincidence that this campaign is being waged in congruence with Operation Chokepoint 2.0.

As always, bad takes must be combatted with better takes.

I want to hit on what I think are actually the only two important points to make in response to the article — so important that they dwarf all the other good things about bitcoin and bitcoin mining in importance — up top so as to not bury the lede. But I’ll grant these two points are a bit esoteric, so I’ll respond to specific points in the Times article with tangible examples below.

The title of the piece is The Real World Costs of the Digital Race for Bitcoin. Any evaluation of the costs of anything is not complete nor useful without an evaluation of the corresponding benefits. So, in order to justify the costs of bitcoin mining one must develop an understanding and appreciation for the fundamental role of money in coordinating human activity, what happens to societies when the money they use reveals itself as bad (typically via hyperinflation), and why bitcoin is good, sound money. Otherwise, you will never get there.

A full discussion of these topics is beyond the scope of this post, but if you’ll grant me that money is the coordination function of society and is _the thing_ that allows our global population to cooperate, then you might agree that the importance of having good money cannot be overstated and almost no cost is too high to secure it, and the last step is to simply agree that bitcoin is the best money we’ve ever had.

Beyond that, suffice to say that on the premise that no accounting of costs is useful without an accounting of benefits, the NYT piece is definitively not useful in that regard.

In response to the piece, I’d offer the below quote from a post titled Bitcoin Does Not Waste Energy by Parker Lewis:

And, quickly, before you go saying “bro I’ve got electricity right now, money we got seem to be doing fine?” I’ll suggest that, like life for a Thanksgiving turkey, things appear to be just great until one day they are not.

Take Venezuela as an unfortunate, living example of what happens when money fails:

The entire piece, and narrative around climate change generally and bitcoin mining specifically, assumes that the consumption of energy is wasteful, harmful, evil even.

Consuming energy is not bad.

Say it with me.

Consuming energy is not bad. Consuming energy is not bad.

In fact, it has always been historically, and will be in the future, breakthoughs in energy technology that will allow humans to progress and flourish.

From fire. To coal and the steam engine. To fossil fuels and the internal combustion engine. To nuclear fission. To hydro, wind, solar and batteries. And perhaps in the future to nuclear fusion or some other yet unknown breakthrough, all advances in energy technology have propelled the human race above and beyond the standard of living they were at previously.

Energy scarcity is always the primary gating factor holding us back. Imagine what we could do with cheap, abundant energy. Desalinate ocean water to make it potable. Pull carbon out of the air to stop and reverse the effects of climate change.

Control the weather:

You can argue cause and effect in the below charts, but consider, for a second, that it may have been the discovery of fossil fuels as a cheap, dense energy source in the early 20th century that was the precursor to the explosion in global population and GDP per capita in the latter half of the 20th century. I don’t think it is a coincidence that world population quadrupled and GDP per capita increased 27x (1960-2021) in the fossil fuel age.

source: Our Finite World

source: Our World in Data

source: Our World in Data

Bitcoin is going to usher in an age of energy abundance, partly for the reasons described above and below.

To delve a bit more into specifics, the NYT article mentions throughout how bitcoin miners profit from selling the energy they’ve previously contracted to buy back to the grid in times of peak stress:

Think about why utilities would enter into such contracts with bitcoin miners, offering to pay them to shut down at peak times. The last sentence in the top quote above gets at why bitcoin miners are not just not a drain, but actually incredibly valuable customers for utilities — it’s precisely because they can turn off their power during times of peak demand, even as they are a guaranteed purchaser of power during times when nobody else wants to buy it. You can thus see how bitcoin miners only demand the cheapest power available. They are not using power when there is any better use for it, not out of the good of their hearts (though I’m sure they would!) but because of their economic incentives. Moreover, having bitcoin miners as an economic buyer of last resort makes it economically feasible for utilities to expand so that there is enough power to go around in times of peak demand.

Bitcoin miners aren’t a drain on the grid, they strengthen it.

And green it.

Think of a potential new wind and solar development. One of the main challenges with renewables is intermittency: the fact that the wind might not be blowing and the sun might not be shining when the local population demands power. This makes the economics of renewable plants challenging — they might not have any buyers when they are able to generate a lot of power — even as the development may not be as useful as, say, a traditional coal fired power plant that can be guaranteed to be generating power when a town needs it most.

Battery storage helps alleviate this challenge. Generate power now while the wind is blowing/sun is shining and store it for later use in a battery. Of course battery storage comes with additional costs.

But, bitcoin mining also helps alleviate this challenge by giving utilities a long-term customer who will buy as much power as they can produce at a specified price all the time. As such, bitcoin mining actually promotes the development of renewable energy by making the economics more attractive to developers.

A free market solution to combat climate change? My God.

What’s more, bitcoin miners are location agnostic. They’ll set up a server farm anywhere the power is cheap and abundant. This means, for example, that a hydroplant at a remote location in the Congo River Basin can be developed with a bitcoin mining facility as its anchor customer, paying the bills until transmission can be built to electrify the nearest towns, at which point the bitcoin miner packs up in search of the next, cheapest power supply.

This new dynamic, which didn’t exist before bitcoin, makes energy development projects and the electrification of certain regions of the world economical for the first time.

The NYT, in my opinion, displays a lack of understanding of the appropriate way to tackle the challenge of carbon emissions and climate change.

_“They’re adding hundreds of megawatts of new demand when we already face the need to rapidly cut fossil power,” said Jesse Jenkins, a Princeton professor who studies electrical grid emissions.

_

Bitcoin miners drawing energy from the grid emit no more or less pollutants than anyone else drawing energy from the grid for any other reason, including you cooking dinner and cloud hyperscaler data centers. The grid is the grid and we are generally aware of the emissions associated with it. The goal should not be to reduce demand for energy but rather to make the supply of energy sustainable.

As mentioned, bitcoin miners, being completely agnostic to time and location and unique demanding only the cheapest power which by definition is the power that nobody else wants to buy, are valuable anchor tenants for renewables projects and can by themsleves make the economics of such developments feasible. Bitcoin mining, completely by happy accident, represents an elegant free market solution to a problem that used to need to be solved by taxing and spending. We should be embracing it!

With respect to carbon emissions, the solution is not to reduce demand for energy. That is simply not going to happen, nor is it desirable (as we know energy consumption = human flourishing), and the sooner our policy makers can wrap their heads around that intractable fact the better.

The solution, rather, is to focus on supply, not demand. More and cheaper energy of sustainble origin combats climate change, not less and more expensive energy from fossil fuels.

Anyways, that’s enough for this post. At some point I’ll write up a more complete analysis of the beauty and benefits of bitcoin mining with respect to energy and climate.

Again, I encourage you read the NYT piece in full, read this, and draw your own conclusions.

Some states (Texas, North Dakota) and countries (El Salvador) will get it, bitcoin mining will usher in a renewable energy renaissance in those jurisdictions, and their economies and constituents will benefit. Others won’t, they’ll eschew the industry, and they’ll suffer.

Such is life and the game of power projection and evolution.

Bitcoin is Resilient.

I was pretty shocked when I learned recently that 2022 was the only the 5th year ever that U.S. stocks and bonds both declined in the same calendar year.

Here's the full data set from Aswath Damodaran at NYU: https://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histretSP.html

In taking a look at that table, I realized something subtle: The U.S. effectively defaulted on its debts within 2-3 years following the 1931 and 1969 occurrences.

"But the U.S. has never defaulted on its debts!?" Au contraire, mon frere...

What I'm referring to, specifically, are the currency devaluations of 1934 and 1971.

In 1934, three years after both stocks and declined for the first time in U.S. history, the Gold Reserve Act revalued gold from $20.67/oz to $35/oz, defaulting on the U.S. government's promise to exchange USD for gold at a fixed rate of $20.67/oz. This is effectively a debt default. And, what's more, the U.S. did this one year after confiscating all the gold held by private citizens, punishable by fines and/or imprisonment, in return for $20.67/oz via Executive Order 6102. Nice move from our government!

In 1971, two years after both stocks and bonds declined for just the third time in U.S. history, President Nixon famously took the USD off the gold standard, defaulting on the government's long-standing promise to exchange USD for gold at a fixed rate of $35/oz. Another historic currency devaluation occuring in the wake of U.S. stocks and bonds both declining.

The only other time U.S. stocks and bonds both declined outside of these two occurences was in the middle of WWII...until 2018.

And wouldn't you know it, within two years of the 2018 occurence we had another, massive if stealth currency devaulation in the form of QE expanding the Fed's balance sheet from ~$4 trillion to ~$9 trillion in 2020-2021. Now, I'll admit, the global pandemic represents a pretty significant confounding variable. And, a -0.02% decline for bonds in 2018 barely makes the cut. But, luckily (or not) we're going to get to get another test of the money_printer_go_brrr hypothesis in the next 2-3 years.

That's because in 2022, U.S. stocks and bonds both declined for just the 5th time ever. And what's more, the traditional 60/40 stock/bond portfolio had its third-worst performance ever), trailing only 1931 (captured above) and 1937.

In case you were wondering, asset prices have faired pretty well in the wake of such declines historically:

It is my prediction that history repeats, and the U.S. will again need to devalue their currency in the wake of 2022's historically poor performance for domestic stock and bond markets.

Although it won't be as explicit as revaluing gold, or depegging from gold entirely, I think there will be more stealth devaluation in the form of QE, or whatever the Fed decides to call it this time.

After all, it's just math!

And, I also predict that while the path is uncertain and potentially frought with risk and volatility, the ultimate outcome on the other side will again be phenomenal (if only nominal!) across the board asset class performance.

Brace yourselves for what I think might be the biggest head fake of all time.

Careful out there and GLTA.