Blood in the Water in AI: Deleveraging Hits Bitcoin First, but the Rotation Should Come Back

The Midterms: A Catastrophic Election for the Republicans

It is safe to say it has been a catastrophic election for the Republicans, and Russell thinks it is likely to be the end of MAGA as we know it. In the Senate the Democrats are at 54 against 44 Republicans, with two races uncalled in Alaska and Mississippi, the latter apparently subject to some investigation. Either way that is clearly a majority. In the House there are 19 races still outstanding, with 254 to the Democrats against 162 to the Republicans. Those are quite strong majorities in both chambers, and they carry implications for the US, for crypto, for global macro and for the world economy.

Impeachment: The Arithmetic Says No, the Noise Says Yes

Senior Democrats spent the weekend talking about impeaching Hegseth, who they intend to use as the scapegoat for the Iran war, and ironically that impeachment is being led by a senior Republican at odds with Trump. That will increase the chatter around an attempt to impeach President Trump himself.

The mechanics matter. Impeachment is led by the House, where a simple majority is enough to put a sitting president up for trial. Conviction then requires a two thirds majority in the Senate. That is not going to happen. The House may well move forward with an impeachment vote for the optics, knowing it will never succeed, because although the Democrats hold the Senate they do not hold two thirds and will not get Republican senators, perhaps bar one, to cross the aisle. Russell regards conviction as extremely unlikely but expects it to cause some gyrations in markets. More likely, in his view, are back room deals in which this does not happen in exchange for a more conciliatory attitude from Trump and the Republicans on policy the Democrats want. Congress comes back today, so expect choppy, headline driven markets, with impeachment quotes and lawyering up already starting.

Crypto Policy: Warren Against 69 Percent

The big implication for crypto is Elizabeth Warren. She is the ranking Democrat on the Senate Banking Committee and is now a shoo-in to head it up. That does not mean she can swing policy votes, but she can set the agenda, and her position on crypto is well known. She gave an interview over the weekend saying it was destroying the US economy, or something to that effect.

Broadly overlooked on the positive side is that 69 percent of new senators and congressmen are pro crypto, which can be tracked on the Stand With Crypto website, where members are graded by how strongly they lean either way. So there has been an injection of pro crypto advocates into Congress off the back of this election, and it is not all doom and gloom. The party political lines are nonetheless drawn: the Democrats are broadly negative on crypto, or at least favour much more significant and severe regulation, which Russell notes is probably no bad thing at the end of the day.

AI: Blood in the Water

Off the back of the midterms, but also worries about funding for second tier AI and chip firms, there was a really significant selloff in US equity markets and particularly the Nasdaq, which fell 6 percent on Thursday. Russell thinks there is blood in the water: some big hits are coming and will be announced, and there are some really significant problems for some quite well known hedge funds.

That is worth watching closely, because it could mean deleveraging and margin calls, which is typically not a good environment for Bitcoin. If margin calls start, portfolios shed what is not core, and that usually means Bitcoin. So there is a chance of deleveraging leading to Bitcoin selling.

Globally and the Data: Hot, With One Exception

Globally things are not looking great either. The Bank of England hiked for the first time in a couple of years, and inflation accelerated in the eurozone, so there is a chance of another move before Christmas. Not brilliant on the inflation front.

US data last week was generally hot. ISM manufacturing PMI beat at 55.5 against 54.6, though prices paid was a small miss. Factory orders were hot and JOLTS, the job openings indicator, was hot. ISM services PMI missed. The monster numbers were average hourly earnings, which materially beat at 0.4 percent monthly against 0.3 expected and 3.1 percent annually against 2.9, suggesting a pickup in wage inflation. Non farm payrolls beat materially at 165,000 against 65,000 expected, and consumer sentiment rose to 51 against 48.

The exception is inflation expectations, which continue to be well anchored and in fact missed. The University of Michigan one year reading was 4.7 percent last month and is now 4.3, and the five year has gone lower at 3.4 against 3.5. Inflation expectations are not yet a worry, which is something the Fed looks hard at.

The Fed: December at 77 Percent

All of that has definitely put the December Fed meeting into live territory, now at 23 percent on hold and 77 percent on a hike. One year out, pricing is pretty much at zero for a cut, about 0.8 percent, and around 80 percent for hikes, with two hikes between now and next year the favourite, though there are three and four hike bets out there in Fed funds futures. This week is relatively light on data, with CPI on Tuesday, which will be very closely watched, and PPI on Friday.

Markets: VIX Up 70 Percent, Break Evens Lower

US ten year Treasuries rallied and are at 4.85 percent, with two years at 4.51, so 2s10s has steepened to 34 basis points, three wider on the week. Nasdaq is at roughly 26,850, down around 1,500 on the month, and it needs to hold here: 26,500 to 26,800 is trend line support, and if that area goes Russell expects 24,000 to be the target. The S&P is at 7,392 and gold at 4,100, not doing very much. The dollar index is at 102. WTI is at 90 dollars and Brent at 97, so oil came off last week. Natural gas is at 3.28.

There has been a massive spike in VIX after Thursday which has not backed off, leaving it at 25.6, up 70 percent from a week ago. In contrast MOVE is lower, down 8 percent on the week. Five year break evens are lower at 2.29, down eight basis points, and ten year break evens at 2.23, down twelve. Between inflation expectations and break evens, that is going to be one of the big headwinds to a Fed rate hike, because the Fed typically is not reacting to what is right in front of it but looking at its projections and where it thinks the market is going. On that measure things still look relatively calm.

Liquidity: Coming Off

Global liquidity indicators have come off as well. The Hilbert five factor model is down at 2.61 and the six factor model at 3.02. On this scale, crisis liquidity sits below 1 and abundant liquidity north of 9, and the reading reflects how much liquidity is in US markets. Russell notes this is not good for Bitcoin either.

Bitcoin: 71,900 Is the Line

The technicals remain bearish short term. The 7/21 cross turned bearish in early October and is still firmly bearish. Bitcoin is trading around 74,200. There is support at 72,800, the middle of the breakout range from April, with moving average support just below at 72,700, and the very big trend line support at around 71,900. That is some work to do, and there will be buying under here for sure.

If the trend line support breaks, the next level is the headline number of 70,000, where Russell does not see a huge amount of support beyond the fact that it is a round number. If 71,900 goes, he would be worried about 65,000 becoming the target. There certainly feel like headwinds given what is going on in the world, potential deleveraging and liquidity tightening.

The Rotation Thesis: Why Medium Term Still Works

Russell still thinks Bitcoin is okay medium term, and the argument comes from client conversations over the past week. His view is that the top in Bitcoin coincided with a capital rotation story: money came out of Bitcoin and crypto in general and went into the chips market, the AI market and tech, and a lot of money flowed in there. With money now coming out of those same stories, there is a very good argument that the rotation starts coming back into crypto, particularly with the inflation story behind it.

Once this period of deleveraging passes and markets calm down, he thinks some of the capital coming out of those areas is likely to flow back into crypto. So it is not all doom and gloom, and he will not rule out a breakout before the end of the year. Right now, though, the short term does not look great.

Options and Flows: Puts Bid, a Billion Out of the ETFs

Max pain in Bitcoin is a little higher at 76,000. Realised volatility is around 36 to 37 with implied above 40, giving roughly a 4 point premium. The market still wants to own puts, unsurprisingly: five delta puts are at 51 against at the money at 38, a 13 point premium. Calls are still flat, with at the money at 38 and five delta calls at 39, so just a one point premium to own calls on the topside.

Also unsurprisingly, significant capital came out of Bitcoin ETFs, with over a billion dollars and Russell’s estimate at 1.2 billion of outflows last week. In DeFi, money is still going into Ethena, which stands at 5.08 billion dollars and is yielding around 5 percent on USDe.