Cryptocurrencies could be hit hard by the U.S. Federal Reserve’s effort to fight inflation, hedge fund manager Chris Brown wrote in a November letter to investors in his Aristides Capital hedge funds.
“If the Fed really does hike rates enough to make money considerably less loose, or if markets believe they will, you are going to see certain areas of speculation come to a screeching halt,” he predicted. “The prime example of such asset speculation is cryptocurrency; here lies $2.64 trillion of ‘wealth’ that is backed by nothing and generates no cash flows.”
In the letter, Brown mocked the view that crypto is digital gold, a belief held by those who purport that cryptocurrencies are a hedge against inflation.
“Please don’t tell me you seriously believe Shibalnu or CumRocket or TitsCoin are in any way gold,” he wrote, mentioning some of the more obscure crypto tokens in circulation. “The supply of meme assets is unlimited, and this is no exception.”
He acknowledged that there is a “serious argument” for Bitcoin being digital gold, but then made his counterargument: “First, one can buy gold on the open market for only about two times the cost of bringing gold out of the ground by mining it, whereas currently a Bitcoin trades for ten times the cost of mining one.”
He claimed there is a “financing scam at play here,” illustrating his point using “now defunct, highest-cost” U.S. shale oil and gas producers.
“They financed their business by tons of borrowing, using debt to pay to drill new wells, and using the cash flow from the wells, which decline rapidly, to justify an even bigger borrowing base, which they then borrowed against to drill new wells.”
Those loans were never paid back, energy prices crashed, and creditors were stuck owning the wells. A similar, but stranger, business model is at work in cryptocurrencies, he argued.
“Because financing is so readily available from folks who believe the value of cryptocurrencies will increase forever, most large Bitcoin miners don’t even sell the bitcoin they are mining,” he added.
He claimed they simply raise capital to mine the bitcoin, then instead of selling it, raise more capital to mine more.
“It’s like a low-float stock scam, but also with the features of a multi-level marketing scam because these guys are always trying to ‘grow the network,’” Brown wrote.
He also mentioned efforts to raise a $1 billion “Bitcoin bond” to be issued by El Salvador that he heard described on a recent Twitter Spaces discussion. The plan is for the country to issue $1 billion in debt, then use half of it to buy Bitcoin and lock it away in a trust for five years. The bond investors get 6.5 percent interest and some proceeds from any Bitcoin appreciation after five years.
“The only thing this requires to work are believers (from Dusseldorf??) willing to take equity-like risk in order to make bond-like returns, and a Bitcoin price that keeps going higher,” he said, adding an “LOL” for good measure.
Brown, whose flagship Aristides Fund is up 31.35 percent for the year after a slight 1.01 percent gain in November, also wrote that he was surprised by Federal Reserve chair Jay Powell’s announcement that the Fed will like start cutting its asset purchase “quite soon.”
The hedge fund manager previously thought that it would be next May or June before U.S. equities started to trade much lower, but said in the letter that “clearly it’s time to throw that line of thinking out the window.”
“There’s little doubt in my mind that several portions of the financial landscape are currently in a bubble fueled by free money and that the end of free money would be extremely negative for the prices of those bubble assets,” he wrote.
Last month, Aristides’ best performing strategy was single name shorts, with a gain of 165 basis points on a gross basis.