Views From the Floor

In this week’s edition – Is Bitcoin Dead?; The Center Cannot Hold; Credit Rumblings; and Value: A Factor in All Seasons.

Is Bitcoin Dead?

Long-standing concerns about the soundness of bitcoin as an investment continue to gain validity.

Bitcoin prices have fallen to less than $4,000, a dramatic turn from 2017 when prices peaked at almost $20,000 (Figure 1).

According to research conducted by Elite Fixtures1, the cost of mining a bitcoin varies significantly around the world, from as little as $531 in Venezuela to $26,170 in South Korea (Figure 2). Indeed, in most countries the cost of mining a bitcoin is now higher than the price of a bitcoin itself.

Additionally, the question: ‘Is bitcoin dead?’ is trending upwards, according to Google Trends (Figure 3).

Figure 1. The Ups and Downs of Bitcoin

The Ups and Downs of Bitcoin

Source: cointelegraph.com; as of 26 November 2018

Figure 2. The Cost to Mine One Bitcoin

The Cost to Mine One Bitcoin

Source: Elite Fixtures1; as of 26 February 2018

Figure 3. ‘Is Bitcoin Dead?’

‘Is Bitcoin Dead?’

Source: Google Trends; as of 26 November 2018 *The numbers represent the search interest relative to the highest point on the chart for the given region and time. A value of 100 is the peak popularity for the term. A value of 50 means that the term is half as popular. A score of 0 means there was not enough data for this term

The Long and Short of It?

After a choppy October, most investors had been praying for a quieter November. Amidst the bloodletting, it is worth examining factor performance.

Figure 4 is a global analysis of inter-decile model spreads, broken down by factor. This analysis uses a global universe of 3,500 stocks, with the top chart comparing the top 10% of stocks against the bottom 10%, and the bottom chart comparing the top 10% of stocks against the rest of the market, both on a sector-neutral basis.

It should not come as a surprise that momentum has had a difficult quarter. However, most of the difficulty has come from the long side of the spectrum note that long returns are similar in magnitude to long-short returns (think poor recent performance of FAANG stocks, which has scored well on momentum).

Informed investors sentiment (which indicates high levels of short interest) has also been weak this quarter, but more of the negative performance has been focused on the short side as indicated by much weaker model returns in long-short, than in long-only. We believe this could be an indicator of deleveraging/divesting from hedge funds.

Figure 4. Sector Neutral Inter-Decile Spreads, Global Universe

Sector Neutral Inter-Decile Spreads, Global Universe

Source: Man Numeric; as of 16 November 2018

The Center Cannot Hold

In October 2017, we first published our proprietary model for forecasting the trajectory of quantitative tightening. At the time, we estimated that by October 2018, the private sector would have to step up to fill the void left by central banks to the tune of around $2 trillion. As it turned out, while we overplayed the exact magnitude, the direction of travel was correct.

Over the last 12 months, the top 10 central banks have bought $936 billion of bonds, compared with their pre-October 2017 run rate of $2.2 trillion. This implies that the private sector has stepped up to buy the remaining $1.3 trillion. In actuality, given the erosion of austerity politics in the west, the figure is likely higher. For us, it is no coincidence that the last 12 months have also seen the belated return of asset volatility.

Our model now suggests that over the next 12 months, the private sector step-up will increase by 57% to $2 trillion. The message to us is clear. Central banks can no longer be relied upon to hold the line on market tranquility in our view.

Figure 5. Monthly Changes in Global Aggregate Balance Sheets

Monthly Changes in Global Aggregate Balance Sheets

Source: Man GLG, IMF; as of 20 November 2018**

Credit Rumblings

The withdrawal of liquidity has affected most participants in a credit markets, and exposed structural vulnerabilities that have been masked by quantitative easing. To understand recent market moves, we feel that investors should look towards central bank activity and credit market structure rather than the various geo-political dramas that dominate newswires.

The first factor to consider is the effect of increasing US interest rates on risk appetite. As of November 20, 3-month USD Libor is at 2.64%. These improved yields in cash, make it an increasingly viable option for asset allocators, often at the expense of riskier asset classes. This impact has been compounded by central banks actively scaling down their various asset purchase programs.

A second factor to consider is the increase in leverage among BBB issuers due to M&A activity. Of the bonds issued since 2013, 45% of the US investment-grade market would be considered high-yield if analyzed on Moody’s leverage criteria alone (excluding other factors such as governance, size or market position), according to Morgan Stanley Research2. This figure was roughly 30% at the start of 2017, and 8% in 2011.

While we are yet to see a broad sell-off, increasing leverage across BBB and Baa issuers could drive a ratings downgrade, leading to forced selling from investment-grade only portfolios as the bonds move into junk territory. Dealers have historically been the key player in facilitating risk transition in credit markets during downgrade cycles. Post-crisis regulation appears to have eroded their ability to fulfil this task effectively, and credit investors are increasingly aware of how small the exit doors are in their market.

Value: A Factor In All Seasons

Value has historically performed better when nominal US Treasury rates are higher. Indeed, value has generated more than twice the return when yields are above 5%, than below 5%, according to our calculations.

It should be pointed out that there is a time component to Treasury yields. All sub-3% yields occurred within the last seven years, with higher yield periods in the 1980s and 1990s.

Figure 6. Average Monthly Returns to Value by US Treasury Yields

Average Monthly Returns to Value by US Treasury Yields

Source: Man Numeric, Bloomberg; from January 1998 through September 2018, as of 30 September 2018

With contribution from: Giuliana Bordigoni (Man AHL, Head of Alternative Markets), Rob Furdak (Man Numeric, Co-CIO), Ben Funnell (Man Solutions, Portfolio Manager), Teun Draaisma (Man Solutions, Portfolio Manager), Henry Neville (Man Solutions, Analyst) and Chris Huggins (Man GLG, Portfolio Manager).

**Man GLG CB reserve model methodology:

  • Change calculated from total national resources of the largest 10 CBs – data from CB releases and IMF
  • From whenever the data ends we make the following assumptions:
    • Fed to sell 72% of its stated allocations: 10bn Oct-Dec 17, 20bn Jan-Mar 18, 30bn Apr-Jun 18, 40bn Jul-Sep 18, 50bn Oct-Dec 18
    • Fed to continue to cut at 50bn a month from Jan 19 onwards – achieves 72% as per point above
    • ECB to continue buying at EUR 30bn until October 18, then cut to 15bn for the final 3 months of the year, before cutting to zero
    • BoE to keep levels constant until June 19, where it will sell 5 billion per month
    • All other countries to continue according to recent trends. Zero movement for Brazil and Russia, growth over last 12 months for China, Japan, Saudi, India and Switzerland
    • We do not include any FX effect – all values are transformed into USD using a constant rate (12m average)

1 https://www.elitefixtures.com/blog/post/2683/bitcoin-mining-costs-by-country/

2Source: Morgan Stanley Research, Moody’s, S&P LCD. Note: As of the most recent financials available since YE2017.