In a recent essay titled “Spirited Away,” Arthur Hayes, the former CEO of BitMEX, delves into the intricate dynamics of the global financial markets, concentrating on the looming unwinding of the dollar-yen carry trade and its potential ramifications for the cryptocurrency sector.
Hayes opens his analysis by speculating on possible measures that U.S. Vice President Kamala Harris might take in the face of an impending financial crisis, which could be driven by her ambition to secure an electoral victory. He foresees a scenario where Harris would instruct Treasury Secretary Janet Yellen to employ all available monetary tools to forestall a financial debacle. Hayes predicts this intervention could occur as early as the start of Asian trading next Monday, August 12th, to stabilize the markets.
The core of Hayes’ examination lies in the ‘yen carry trade.’ This financial strategy involves Japanese corporations borrowing yen at low interest rates to invest in higher-yielding foreign assets. This trade has thrived owing to the Bank of Japan’s (BOJ) policy of keeping yen borrowing costs low and asset returns high, supported by a weak yen. However, Hayes warns of the fragility inherent in this strategy. Should the BOJ halt its bond purchases, it could trigger a significant appreciation of the yen and a corresponding downturn in global equity markets.
Hayes goes on to quantify the potential fallout from a rapid yen appreciation, which he believes could have severe repercussions for global stock markets. He estimates that if the dollar-yen exchange rate were to reach 100—a 38% shift—the Nasdaq could plummet to around 12,600 and the Nikkei to approximately 25,365, signifying a major shock to global financial stability.
According to the former BitMEX CEO, the complete unwinding of the dollar-yen carry trade is not a matter of if, but when. He speculates on the timing and the Federal Reserve’s and Treasury’s responses to mitigate its effects on the global financial order. Hayes contemplates a scenario where U.S. equity markets might crash by the coming Friday, necessitating some form of intervention over the weekend.
Looking further ahead, Hayes theorizes about a longer-term perspective. He posits that if the yen begins to weaken again, the immediate crisis might be averted, although the unwinding process would continue at a slower pace. He predicts markets could experience another significant turmoil between September and November, coinciding with the crucial period leading up to the U.S. presidential election.
Hayes elaborates on how to navigate the cryptocurrency market amid these turbulent conditions. He highlights the complexity of the situation, driven by two opposing liquidity forces. Firstly, the “Liquidity Positive Force” could emerge from U.S. Treasury actions that inject substantial dollar liquidity into the market. This influx could buoy both traditional and cryptocurrency markets by providing more capital for investment.
Conversely, the “Liquidity Negative Force” stemming from the yen’s strengthening, prompted by the unwinding of the carry trade, could lead to a global sell-off of financial assets. This force would pressurize asset prices, including cryptocurrencies, as higher yen costs make debt servicing more expensive.
Hayes proposes that the interaction between these forces will determine the behavior of Bitcoin and other cryptocurrencies. He identifies two possible outcomes:
In the “Convex-Bitcoin Scenario,” Bitcoin could appreciate in value regardless of whether the dollar-yen pair strengthens or weakens. This suggests that market participants expect a bailout in the event of yen appreciation and that the liquidity injected by the U.S. Treasury would counteract any negative impacts.
In the “Correlated-Bitcoin Scenario,” Bitcoin’s price movements would closely mirror those of traditional financial markets. In this scenario, a strengthening yen would lead to a decline in Bitcoin prices, while a weakening yen would result in a rise, reflecting liquidity shifts in traditional finance.
Hayes concludes that if the situation unfolds as the “Convex-Bitcoin Scenario,” he would aggressively add positions, believing the market has reached a local bottom. Conversely, if the “Correlated-Bitcoin Scenario” materializes, he would adopt a more cautious approach, waiting for the market to capitulate. He underscores that a key assumption is that the BOJ will adhere to its current policies without reversing course and resuming unlimited bond purchases.
At the time of writing, Bitcoin traded at $57,200.
