Stormrake - Insights #self-custody

Ethereum Layer Two Solutions Rapid Growth

Thu, 08 Dec 2022 12:26:22 +1100

Despite a savage bear market with valuations being decimated and severe levels of fraud and deception being exposed, Layer 2 solutions such as Arbitrum and Optimism keep on growing.

The information contained here is for general information only. It should not be taken as constituting financial advice. Stormrake is not a financial adviser. You should consider seeking independent financial advice prior to making any personal investments.

Layer 2 Gas Expenditure

Source: Messari

Ethereum gas expenditure on batch posting transactions from layer two solutions to be secured on ETH mainnet are hitting all time high levels. This is not only being driven by insatiable user demand but a wide array of dApps now being supported on both Arbitrum and Optimism. These L2s provide a viable way to actively engage with DeFi and NFTs without the burdensome costs and long wait times on Ethereum mainnet.

The growth in users, transactions and spend on L2 solutions despite the bear market is worth noting and is a narrative that will well and truly take off in a bull market. Optimism already has a token that investors can pick up to partake in the narrative but be mindful of the large daily unlocks and wider macro picture.

Layer 2 Activity Boom

Optimistic rollups such as Arbitrum and Optimism continue their astonishing growth. This demand is being driven by better usability of layer 2 solutions and well designed onboarding mechanisms that make the the bridging experience much easier. The massive climb in daily transactions can be best exemplified by visiting l2fees.info as the cost of swapping tokens is currently 26 times cheaper on L2s than on ETH mainnet. With such incredible savings, it's no wonder that ETH users are flocking to these solutions.

BTC/USD key levels

Interactive chart: click on image for higher resolution

Bitcoin remains rangebound and holds well above our key level of $16,500 USD. BTC now has to overcome $17,189 before it can make another move higher. If it closes above $17,189 then the major resistance level comes in at $18,217.To the downside, if we lose $16,500 then the next major level of support comes in at $15,588. This can be triggered by further weakness in the US stock market and another 75bps rate hike out of the next FOMC meeting.

ETH/USD key levels

Interactive chart: click on image for higher resolution

Ethereum has failed to reclaim $1,300 USD and this breakdown in market structure can weigh heavily on the coming trading sessions. If we close below $1,190 then we can expect a move towards $1,071 before major support kicks in. To the upside if we close above $1,300 on the daily chart, then we expect a move towards $1,472.

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The information in this newsletter is general only. It should not be taken as constituting professional advice from the author - Stormrake PTY LTD.

Stormrake is not a financial adviser and does not provide financial product advice. You should consider seeking independent legal, financial, taxation or other advice to check how the information relates to your unique circumstances. Stormrake is not liable for any loss caused, whether due to negligence or otherwise arising from the use of, or reliance on, the information provided directly or indirectly, by this newsletter.

Disclaimer

All statements made in this newsletter are made in good faith and we believe they are accurate and reliable. Stormrake does not give any warranty as to the accuracy, reliability or completeness of information that is contained here, except insofar as any liability under statute cannot be excluded. Stormrake, its directors, employees and their representatives do not accept any liability for any error or omission in this newsletter or for any resulting loss or damage suffered by the recipient or any other person. Unless otherwise specified, copyright of information provided in this newsletter is owned by Stormrake. You may not alter or modify this information in any way, including the removal of this copyright notice.

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Bond Market Signals Potential Global Recession

Tue, 06 Dec 2022 11:23:25 +1100

As we continue to trade our way through a brutal 2022, the US bond market shows no remorse and provides the strongest signal that a deep global recession is imminent. Today we dissect how real this signal can be and what risks are associated with its confirmation.

Yield Curve Inversion

Interactive chart: click on image for higher resolution

US bond yields give us a clear picture of what large hedge funds, sovereign wealth funds and global money managers think of risk across different time horizons. A normal yield curve for any bond market would be the longest dated bonds, so think 10 year, 20 year and 30 year bonds would pay the highest yield, as you assume the longest duration risk and are locking up your funds for a significant period of time. To cover that risk premium and duration, they pay higher yields whilst shorter dated bonds, think 1 year and 2 year pay a lower yield as your duration risk is much shorter.

What we are seeing now is called yield curve inversion, where shorter dated bonds are paying a much higher yield than the long dated bonds, this is because bond investors see a much higher risk in the next two years than in the future. So the risk premium for having your capital locked up during a global recession cranks short dated bond yields way up.

Now with all of this in mind, we are now witnessing the deepest US bond yield curve inversion in over 30 years. This shows how desperate bond investors are to exit their bonds, as they pay huge coupons to jump out of short dated bonds in fear of getting caught in a recession. We don't wish to be alarmist but it's important to note that these risks are real and we need to keep them in mind when heading into a new calendar year.

Bitcoin Exchange Supply Dries Up

Due to the collapse of FTX, the jarring reality of counter-party risk has hit the entire crypto industry like a sack of bricks. This has led to a significant run on exchanges, as crypto traders and investors rush to withdraw their Bitcoin balances from exchanges into the safety of their self-custody. With this frenetic rush to withdraw, Bitcoin balance on exchanges have hit multi-year lows, combine this fact with an increasingly illiquid market as many market makers have bit the dust in 2022, it sets up a supply squeeze.

As there is less available Bitcoin on exchanges and the shocking reality of Paper Bitcoin now exposed, we can finally see some real price discovery on exchanges, as market structures are now setup in an eerily similar fashion to the 2017/2018 period.

BTC/USD key levels

Interactive chart: click on image for higher resolution

Bitcoin has now well and truly reclaimed our key level of $16,500 USD. BTC now has to do battle with $17,189, which was the resistance level we highlighted in our previous Morning Note. It managed to peak above this pocket but was brought back down with a weak US stock market session. If we reclaim and close above $17,189 the next major level of resistance comes in at $18,217, which is a tidy lift of 7% from current levels. To the downside, if we lose $16,500 then the next major level of support comes in at $15,588.

ETH/USD key levels

Interactive chart: click on image for higher resolution

Ethereum has a slightly more bullish market structure and technical chart as compared to Bitcoin. Should ETH manage to finally close above $1,300 USD on the daily timeframe, the local resistance level comes in at $1,386. Should it clear $1,386 the major resistance level comes in at $1,472 where we expect the market to take a pause. If ETH fails to reclaim $1,300 on the daily, then it becomes clear resistance and we look for a move towards the previous key level of $1,190. Should $1,190 fail to hold, expect a sharp move towards $1,130 before support manages to kick in.

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The information in this newsletter is general only. It should not be taken as constituting professional advice from the author - Stormrake PTY LTD.

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Understanding Paper Bitcoin

Wed, 30 Nov 2022 16:00:09 +1100

The Rake Review: November 2022

Real or Fake?

We all know that the amount of physical Gold in the world is dwarfed by the amount of paper Gold. Paper Gold is derivatives (futures and forwards) but also gold certificates and gold deposit paper. Essentially, someone else holds your gold and you think you own it.

I have no issue with derivatives because for every futures long there is a futures short. For every seller there is a buyer. So, the underlying supply should not change. One man's asset is another's liability. However, holding a paper deposit only works if the Gold is actually there. If the gold isn’t physically there then the paper adds to the supply and artificially suppresses the price.

The same exact principles apply to Bitcoin. We all know that there will never be more than 21 Million actual physical bitcoin (Physical because it provably exists even though its digital). However, is there any paper Bitcoin out there?

The whole FTX saga and subsequent rolling defaults across the industry has proven that there was a huge amount of paper bitcoin. By some accounts - 80,000 bitcoin may never be recovered from FTX alone. That is to say that 80,000 bitcoin may never have even been at FTX. That’s 80,000 bitcoin worth of holdings people bought, thought they were holding but never actually existed. Effectively it was a fake supply of BTC that served to artificially hold the price down.

In total between FTX and all the other bankruptcies this might represent a significant portion of all bitcoin in existence. Just think about it for a second, if all that extra paper bitcoin wasn’t created by the fraudster SBF, what would the price have ended up during the last bull run and more importantly what might the price be in the next cycle?

For a comprehensive report on what happened with FTX, you can read our article covering the entire topic HERE.

The Stock to Flow Valuation Model

The Stock to Flow (StF Model) aims to show the bitcoin price trajectory over time based on historical prices, supply and turnover. We have talked about the Stock to flow model being invalidated over the last year, due to moving far off course, but maybe the problem isn’t with the model. Maybe the problem is with extra supply created through fraud.

Here’s what the model looks like:

You can see the multicoloured line (BTC Price) deviating from the plan. The model was all but invalidated earlier this year. However, with the information that FTX didn’t actually hold the bitcoin that they promised it’s possible there is nothing wrong with the model and the price will resume the expected course to $100k USD.

Where to from here?

The industry will recover, minus a bunch of players that were potentially caught doing the wrong thing and a handful of others that just lent money out and got caught, but that’s business.

Regulators will be circling as they now have the excuse for action. On the other hand it was SBF that wanted tighter regulation. Regulation that was aimed at stopping DeFi and making more people use his platform. Regulators have to be careful what they wish for. Poor regulation could cause more problems than it solves.

Gravity has been reversed and bad news is likely already priced in. Positive news, whether macro or crypto related, could drive prices up. No news is good news in this environment and prices may start creeping up.

In the short term, DeFi tokens that don’t require custody to trade could do really well. Tokens such as UNI, GMX etc have already fared well. It’s important to keep in mind all of crypto’s market cap is under a trillion with Apple being worth more. Crypto prices are now a spring ready to bounce. There is blood in the streets and conviction is required. All power to those that have conviction.

It's important in these chaotic market times to head back to basics. We cover what is important and what to focus on during these bear markets HERE.

Market Update

Here is the fast five of what you need to know about the crypto market in November 2022:

Bitcoin has shed 21.1% of its value over the month due to the FTX collapse, bringing its market cap to just over $300 Billion USD.
Ethereum had a slightly worse performing month compared to BTC, having lost 23.5% of its value. Its market cap of $146 Billion USD is now less than banking giant, Morgan Stanley.
The total crypto market cap received a substantial beatdown as $181 Billion USD was evaporated. This reduction equates to a near 19% drawdown for the month.
The best performing coin for the month was Trust Wallet (TWT). As the FTX collapse forced many to realise the value of self-custody and rushed assets into their own wallets. This caused many wallet tokens to get a serious bid.
The worst performing token for the month was Solana. As the entire SOL ecosystem was heavily backed by SBF and FTX, their collapse caused SOL to get crushed as well.

Video of the month

Crypto podcast Bankless covers the entire timeline for the daisy chain of leverage with granular detail and no holds barred.

Please note that this Video of The Month is nearly two hours in length but provides supreme coverage of the entire bear market and its root causes.

In the news

Arbitrum Transaction Count Rises to 62% of Ethereum Transactions
CoinDesk ran an investigation into Alameda Research and found its balance sheet is mainly FTT token.
In bankrupt Lebanon, locals mine bitcoin and buy groceries with tether, as $1 is now worth 15 cents
FTX files for chapter 11 having entered into bankruptcy proceedings
Crypto lender BlockFi files for bankruptcy citing exposure to FTX
Treasury pledges crypto regulation next year after FTX collapse
Total crypto market cap is now worth less than Amazon
GMX now enters the top 3 of crypto apps generating fees

Education

In our most recent Thunder Trading Update, we covered the complete beginner's guide to crypto self-custody. You can read the full article HERE.

In light of the current circumstances, we want to take as many opportunities as possible to inform our readers to protect themselves and remove counter-party risk. It's critical to learn how to self-custody your own digital assets, even if you wish to use a broker/exchange to buy, sell or swap, you should aim to have the majority of your high value assets in your custody.

Whether you choose to use a Ledger cold storage solution or web wallet such as MetaMask, or even take the best of both worlds and have a Ledger connected to your MetaMask, you end up with full control and transparency of your own assets. Although you do have to take more responsibility and assume full risk for the safe keeping of your own digital assets, it has been shown many times through crypto history, Mt.Gox to FTX and everything in between that leaving your Bitcoin on exchanges is a recipe for disaster.

Worth noting, that by taking custody of your own crypto assets you can start participating on-chain. This opens you up to the world of DeFi, NFTs and potential airdrops. Bear in mind, there are many pitfalls in that space too and much of the tokenomics and activity is quite circular but you learn a lot and develop a unique set of skills.

Lastly, by taking control of your very own Bitcoin and crypto assets, you fully embrace Satoshi's dream of the sovereign individual and you don't need to trust any third party, when you can easily verify your own assets.

Memes of the month

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The information in this newsletter is general only. It should not be taken as constituting professional advice from the author - Stormrake PTY LTD.

Disclaimer

A Beginners Guide To Crypto Self-Custody

Fri, 18 Nov 2022 11:43:56 +1100

In light of recent events concerning the collapse of FTX, the opaque nature of centralised exchanges and the importance of self-custody has been brought to light.
In today's Thunder Trading Update, we aim to educate our readers on how to start your self-custody journey and why it's so important to get started.

Why is crypto self-custody important?

#Bitcoin in self-custody can’t be frozen and has no counter party risk 🔑
— Natalie Brunell ⚡️ (@natbrunell) November 16, 2022

The very genesis of Bitcoin's creation was to remove the trust required to transact with third parties and the core idea was to "become your own bank". Due to the self-sovereign nature of Bitcoin when held in your custody, it's important to not dilute that value by having to hold it with a trusted third party. Now this isn't to say that there aren't good actors in the space, who run well capitalised and properly run businesses but why risk 100% of your capital for the sake of convenience.

One of the most important phrases every crypto investor must commit to their memory is the age old "not your keys, not your coins". This means if you do not learn how to self-custody your own digital assets, they simply don't exist and could just be numbers on a screen with no Bitcoin backing whatsoever.

Final note on why it's crucial to learn how to self-custody is the phrase, "don't trust, verify". When you hold your own private keys and manage your own wallet addresses, at anytime you can simply jump on to a blockchain explorer or your wallet interface to confirm your balances and holdings. Why trust what your exchange is showing you, when you can simply verify your holdings yourself. This is the beauty of self-custody.

Where to self-custody crypto?

There are two main ways to self-custody cryptocurrency assets, each with their own pros and cons. Depending on whether you consider yourself a crypto investor or trader, will influence which type of wallet may suit you best.

The following is a breakdown on where you can self-custody your crypto:

Software wallet - a software wallet can either be a web browser extension, popularised by the likes of MetaMask. It can also be an app downloaded on your laptop or mobile phone, popular versions of software wallet apps include Atomic and Exodus. They are by far the most convenient type of wallet, especially the web browser wallets as you can interact on-chain with ease, this includes interacting with DEXs such as Uniswap and GMX or lending protocols such as Aave and Maker.

The drawback of a software wallet, at least one such as MetaMask that interacts a fair bit online, would have to be there weakness to getting compromised. This can be in the form of malware or hackers that might steal the private keys or might trick you into sending crypto to the wrong address. To counteract this, it is better to keep assets on any software wallet to a minimum and have a seperate laptop for your crypto activities rather than mingle everyday browsing activities on the same computer.

Hardware wallet - A hardware wallet is arguably the superior type of wallet that stores private keys in a secure physical device, the most popular of which is the likes of Ledger Nano, Trezor. and ColdCard. It is believed to be the most secure way of storing any amount of crypto assets. Unlike software wallets, which can be compromised due to malware, hardware wallets can be used securely and interactively. They are immune to computer viruses, as the funds stored cannot be transferred out of the device in plaintext and, in most instances, their software is open source and easy to use.

Most hardware wallets have screens that add another layer of security, as they can be used to verify and display important transaction signing details. For instance, a screen can generate a recovery phrase and confirm the amount and address of the transaction you wish to make.
More importantly, they keep your funds offline until the point of transfer is made, greatly reducing your risks.

Just because you're using a hardware wallet for security, doesn't mean you have any less ability to transact online. You can still do all your on-chain activity by connecting MetaMask to your ledger hardware wallet. This gives the security of cold storage with the convenience of MetaMask for interacting with DeFi.

How to self-custody your crypto?

As highlighted above, the two main ways to start your self-custody journey will be either via a hardware wallet or software wallet. You can start by going to MetaMask or Ledger and once you have received your hardware device or downloaded your software wallet, you can follow these steps to kick off your self-custody journey:

1. Follow the prompts to generate your seed phrase

2. Write down your seed phrase on a piece of paper. Do NOT store it on a computer or phone.

3. Store your seed phrase (now written down) in a secure and private location

4. Send yourself a small amount of crypto i.e. 0.0001 BTC as a test transaction

5. Once the test transaction has been received, proceed to sending yourself the full balance

Please note that the above steps are a high level guide to an incredibly important process. However, you're not on your own as you have Stormrake in your corner, if you have any questions or concerns, simply email info@stormrake.com or contact your broker. We're more than happy to provide additional resources and make the self-custody process less daunting.

Once you get started, you'll find the process for self-custody quite intuitive and you will be embracing the cypherpunk ethos in full. Remember, "not your keys, not your coins".

Best of luck on your journey and enjoy becoming your own bank.