Novum Digital Asset Alpha – Daily Analysis 4 August 2020 (6-Minute Read)

I hope you’re having a terrific Tuesday because markets have bounced back this week and there are some positive signs of coronavirus containment out of the United States as well. 

In brief (TL:DR)

  • U.S. stocks were firmly higher as tech stocks continued lifting major indices into the green with the S&P 500 (+0.72%), blue-chip Dow Jones Industrial Average (+0.89%), tech-heavy Nasdaq Composite (+1.47%) all up. 
  • Asian stocks also opened higher in the face of a tech-fueled rally in U.S. and on the back of positive economic data with the potential for more U.S. stimulus.
  • U.S. 10-year Treasuries remained more or less unchanged with yields ticking marginally lower to 0.559% from 0.563% in the previous session.
  • Oil continued to inch lower with WTI Crude Oil (Nymex) (-0.51%) at US$40.80 from US$41.01 a day earlier as traders continue to doubt a return of demand in the coming period. 
  • The U.S. dollar hold its gains from its worst July in a decade, with the ICE U.S. Dollar Index (+0.27%) up, on signs that the greenback may be oversold.
  • Gold continued its ascent with Gold (Comex) (+0.38%) at US$1,993.80 from US$1986.30 in the previous session, as gold inches closer and closer to the US$2,000 threshold.
  • Bitcoin (+1.94%) firmed to US$11,334.54 (GMT 0200) to continue its steady climb towards US$12,000 after its flash surge and crash over the weekend, while Bitcoin outflow from cryptocurrency exchanges continue to lead inflows (outflows typically suggest that traders are intending to hold onto Bitcoin for further price appreciation).

In today’s issue…

  1. Can Microsoft Take a Byte Out of TikTok’s Dance?
  2. The Dollar May Be Down, But It’s Far From Out
  3. Russia’s Cryptocurrency Winter Is Over

Market Overview

Politics is hardly ever profitable, said no one ever. 
 
But for politics to be profitable, you’ve got to win first. 
 
And winning is what the markets appear to be what markets are doing as we turn into Tuesday, with growing signs that politicians on both sides of the aisle in Washington are inching closer to resolution on a much-needed stimulus package, as well as unemployment relief for millions of Americans. 
 
Asian markets opened higher on prospects of U.S. stimulus and a resurgence in tech stocks, with Tokyo’s Nikkeei 225 (+1.46%), Seoul’s KOSPI (+1.34%), Sydney’s ASX 200 (+2.18%), and Hong Kong’s Hang Seng index (+0.84%) all rising sharply. 
 
Ironically, tensions between Washington and Beijing over the sale of TikTok to Microsoft (+5.62%) have provided an unexpected boost to Microsoft’s share price and which helped to fuel gains in all major indices. 
 
But the spoils have not been divvied up evenly.
 
Tech companies have continued to outperform, while traditional sectors like airlines, retail and manufacturing have been left far behind in their wake. 
 
That a few large technology stocks are sufficient to more than cover losses from other companies in traditional industries are indication of concentration risk right now for index buyers. 
 
Meanwhile coronavirus infection rates in the U.S. fell to their lowest number in weeks, spurring investor hope that the pandemic may be slowing, but tempered by the reduction in testing. 
 
New economic data showed that U.S. manufacturing activity grew in July, with the Institute for Supply Management’s manufacturing index rising to 54.2 last month, and any number above 50 representing an expansion in activity. 
 
But as the northern hemisphere heads into the autumn flu season, the coronavirus continues to be a ever present risk and threatens to derail any gains made against the pandemic. 
 
Investors however are continuing to soak in positive data and stock markets are rewarding them for now.

1. Can Microsoft Take a Byte Out of TikTok’s Dance? 

  • Microsoft’s potential acquisition of TikTok has sent shares of the technology giant higher
  • Myriad obstacles stand in the way of the TikTok acquisition, not least among which is Microsoft’s warm ties with both Beijing and the U.S. 
2020 has arguably been a first for a lot of things, and in that vein, is probably the first time a sitting U.S. President has demanded a “substantial amount of money” as part of the conditions for approving a deal for Microsoft or any other U.S. company, to buy the American operations TikTok. 
 
A massively popular social media video app, TikTok is owned by Chinese firm ByteDance and was recently caught spying on millions of American iPhone users. 
 
With tensions ratcheting up between China and the U.S., President Donald Trump announced on Monday that TikTok will have up to September 15 to close, unless its parent company ByteDance sells its American operations to Microsoft, or some other U.S. company. 
 
Microsoft meanwhile is scrambling to close a last minute deal for TikTok that would also hand the social media platform’s operations in Canada, Australia and New Zealand, over to the software giant. 
 
And while Microsoft has pledged to add more security, privacy and digital safety protections to the TikTok app, as well as transfer the private data of Americans back to the U.S. while erasing it from servers outside the country, Microsoft’s patchy history in China complicates the deal. 
 
To begin with, it’s not entirely clear that the private data of Americans can even be meaningfully wiped at this stage – a lot like how erasing a hard disk doesn’t mean the data is irretrievable.
 
By now, it’s unclear how many copies of TikTok’s American user data has already been made and stored on other servers. 
 
And Microsoft has long run the gauntlet of trying to grow its business in China, while supplying the U.S. government with key technology. That delicate balance will come into sharp relief in the TikTok deal. 
 
Microsoft’s cozy relationship with Beijing, built up since 1992, may also cause hawks in the Trump administration and in the Republican party which controls the Senate, to question whether TikTok’s purchase by Microsoft is truly in the American interest. 
 
One of the more vocal hawks in the White House, Peter Navarro, has even suggested that Microsoft should divest its Chinese holdings should it acquire TikTok in the U.S. 
 
Investors are however betting that TikTok’s deal with Microsoft will go through, sending shares in the firm to an all-time high. 
 
Given the lack of any other potential suitors, with Apple (+2.52%), Amazon (-1.67%), Facebook (-0.67%) and Google (-0.35%) all under scrutiny for antitrust issues, Microsoft has emerged as the only realistic and viable contender to TikTok not being wiped off American phones. 
 
Despite Microsoft being uniquely suited to navigate the national security and antitrust issues, the firm’s intimacy with both Beijing and Washington is bound to arouse suspicion from both sides. 
 
But given that U.S. President Donald Trump has made a big show about wanting to take a cut of Microsoft’s TikTok deal, and his obsession with his reputation as a dealmaker, Microsoft may still have some more upside in the coming weeks in the lead up to September 15. 
 
There will be personal impetus on Trump to want to close the deal and brand himself as a master deal maker, and for that reason alone, Microsoft may be worth a short term punt. 

2. The Dollar May Be Down, But It’s Far From Out

  • Dollar’s decline masks its centrality to the global financial system and the outsize risks to dollar-denominated asset holders in the event of another economic shock 
“Neither a borrower nor a lender be, For loan oft loses both itself and friend, And borrowing dulls the edge of husbandry..​”
 
– Hamlet, Act 1, Scene 3 
 
But tell that to sovereign governments. 
 
While much has been made about America’s debt, as well as the amount that sits with China, America is also a huge creditor nation to a large swathe of countries, which puts into perspective doomsday prophecies of the dollar. 
 
When the coronavirus pandemic first but the brakes on the global economy in March, it fell to the U.S. Federal Reserve to keep the wheels of finance turning not just in America, but overseas as well. 
 
As funds stopped flowing to many banks and companies offshore, from South Korean brokerages making bets on U.S. derivatives, to Japanese rubber traders needing to pay for imports, the Fed stepped in. 
 
For the longest time, the Fed has resisted becoming the world’s backup lender, but shed its straightjacket after the coronavirus pandemic went global and by April, had lent almost half a trillion dollars to overseas counterparts. 
 
By easing a global dollar shortage, halting a deep market selloff, the Fed continues to support global markets today and as a guarantor of dollar funding, cements the greenback’s role in underpinning the global financial system. 
 
Yet traders don’t seem to have appreciated that fact as in recent weeks, the dollar has tumbled against a basket of other currencies as investors grow more troubled over the economic outlook in the U.S. and its inability to contain the coronavirus pandemic. 
 
To be sure, dollars aren’t being provided in suitcases to overseas counterparties, instead most of the money is supplied via “U.S. dollar liquidity swap lines” which lend dollars for fixed periods to foreign central banks and take in their local currencies at market exchange rates. 
 
At the end of the loan, the Fed swaps back the currencies at the original exchange rate and collects the interest. 
 
And it’s not just any central bank that has been granted such privilege – the Fed is dealing with only the most creditworthy nations and the most advanced central bank, and only 14 central banks have so far enjoyed the privilege, with other borrowers having to resort to borrowing on the basis of their holdings of U.S. Treasuries. 
 
That gives the Fed and the dollar enormous power, leaving the world more tied to a single country’s economic management and central bank than ever before. 
 
And while efforts have persisted for years to dilute the dollar’s central role, whether using the euro or the Chinese yuan, simply knowing that the Fed is willing to step in, has led to banks, businesses and investors, flocking to the greenback. 
 
The dollar’s central role in global finance has led to a familiar cycle where during times of market stress, investors flee to the dollar for its safety, leading to breakdowns in the market, which forces the Fed to step in and provide dollars, which reinforces faith in the dollar. 
 
And that increases risks for investors in assets which are being floated by a short term decline in the dollar. 
 
Low bond yields in the U.S. and unprecedented levels of fiscal and monetary stimulus from Washington are pushing investors to send dollars to emerging markets, stocks and dollar-denominated assets. 
 
Yet the dollar’s decline is not without end, and another shock could soon see investors rush back into the dollar, in particular if the world experiences another wave of coronavirus infections in the autumn. 
 
Investors looking at emerging market assets as well as dollar-denominated commodities must therefore ask how much of the recent price appreciation of these assets has been dollar-driven and how much is underpinned by fundamentals. 
 
The dollar may be down, but it’s far from out, and when it gets back up again, dollar-floated asset holders may be in for a rude shock. 

3. Russia’s Cryptocurrency Winter Is Over

  • Russia provides legal framework for cryptocurrencies, paving the way for greater adoption and institutional participation 
  • Bitcoin and Ethereum likely beneficiaries to renewed interest in cryptocurrencies in Russia 
Stepping into Red Square, you can almost feel what it must have been like for the Tzars to have ruled the vast land that is Russia from these few square miles all those years ago. 
 
And for a country where the centralization of power has been burned into the body politic, the concept of decentralization underpinned by cryptocurrency would almost certainly be anathema. 
 
Yet Russia, contrary to expectation hasn’t banned cryptocurrencies, but instead, clarified their legal status and arguably elevated their status. 

On July 31, Russia’s legislative body, the Duma, signed its first cryptocurrency bill that paved the way for initial coin offerings (ICOs) to issue digital securities as long as they complied with certain regulatory requirements and were registered with the Russian central bank.
 
The Russian bill clarifies that digital and decentralized cryptocurrencies can be used as objects for collateral, a medium of transaction or exchange and can be used to swap from one cryptocurrency into another. 
 
Because cryptocurrency is classified as property under Russian law, cryptocurrency holdings are also subject to tax, but cannot be used to pay for goods or services in Russia. 
 
While many, had feared a complete ban on cryptocurrencies in general, with heavy penalties such as fines and jail terms being touted by Bank of Russia’s Legal Department Director Alexei Guznov, such measures were put down and met with criticism by both members of Russia’s cryptocurrency industry, as well as Russia’s Ministry of Economic Development. 
 
Regulations specific to cryptocurrency-related businesses have yet to be finalized and will likely be addressed in a second bill from Russia’s parliament, but are likely to further formalize the operating theater for cryptocurrency businesses in Russia. 
 
Cryptocurrencies have a long history in Russia, with many ordinary Russians holding on to Bitcoin and Ethereum because of volatility in the Russian ruble and economic uncertainty.
 
And the cryptocurrency industry in Russia is significant as well.
 
Some of the best software talent and blockchain core developers hail from Russia and the cooler climate of Russia has made it a hotbed for cryptocurrency mining facilities. 
 
The unexpected boost for cryptocurrency out of Russia has added to a string of positive data emanating from the cryptocurrency sphere and kept Bitcoin buoyant above US$11,000. 
 
Strong resistance remains for Bitcoin at the US$13,800 level however and it will need to convincingly clear US$12,000 to avoid a retracement back to US$10,400 in the immediate term. 
 
Technicals for now are suggesting that weaker hands have been shaken out from Bitcoin’s previously overbought levels, but failure to clear US$12,000 could see an interim pullback to US$10,400. 

Novum Digital Asset Alpha is a digital asset quantitative trading firm.

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The information and thoughts laid out in this analysis are strictly for information purposes only and should not be regarded as an offer to sell or a solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be in violation of any local laws.

It does not constitute a recommendation or take into account the particular allocation objectives, financial conditions, or needs of specific individuals.

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