Pre-Election Market Manipulation: A Tale of Two Bitcoins

What do you do when the market is down, and you have an election to win? If you're a politician, your number one goal is to secure re-election.

Crypto icon Arthur Hayes has shared his thoughts on the upcoming U.S. presidential election and its potential impact on the crypto market.

Hayes believes that politicians, especially those facing re-election, are likely to prioritize measures that will stimulate the economy and boost asset prices. He uses the example of Democratic presidential nominee Kamala Harris, who is facing an uphill battle against incumbent Donald J. Trump.

According to Hayes, Harris, who is now serving as vice president, is likely being advised by former President Barack Obama on the importance of avoiding a 2008-style Global Financial Crisis (GFC) in the lead-up to the election.

While President Biden is largely out of the picture due to his advanced age, Harris is now essentially running the show, Hayes notes. He adds that George W. Bush faced the GFC in 2008, which contributed to Obama's victory as he wasn't responsible for the downturn.

Now, Harris must avoid a similar fate, Hayes says.

“The Widow Maker, yen carry trade, and the unwind”

Hayes goes on to discuss the yen carry trade and its central role in a potential financial crisis.

The yen carry trade involves borrowing yen at low-interest rates and investing in assets that offer higher returns. If the yen strengthens, traders lose money when repaying the loan, but if it weakens, they profit.

However, Japan Inc.—which includes the Bank of Japan (BOJ), corporations, and pension funds—doesn't hedge its yen borrowing because the BOJ can print unlimited yen.

A Deutsche Bank report titled “The World's Biggest Carry Trade” examines why the yen carry trade hasn't collapsed despite Japan's massive debt and hedge funds betting against it and always losing, a phenomenon that earned the term “Widow Maker” for these failed bets.

According to Hayes, Western investors fail to grasp Japan's collective financial system, which differs from the Western model.

The liability side of Japan's balance sheet includes bank reserves and bonds, both funded at minimal costs due to the BOJ's policies.

Hayes adds that the yen's weakness has led to a widening interest rate differential between the BOJ and the Federal Reserve, further benefiting Japan.

But then the yen got too weak, and the BOJ had to step in. A dollar-yen exchange rate of 162 was unsustainable due to rising inflation at home. The BOJ wants to slowly exit the trade, but the market expects an unwind.

The question now is the pace of normalization under Governor Kazuo Ueda. Unwinding the carry trade would require the BOJ to raise interest rates and sell its huge JGB holdings. Without BOJ intervention, JGB yields would rise to match inflation, increasing debt costs.

“What it got to do with Bitcoin”

Hayes also highlights an interesting correlation between Bitcoin and the dollar-yen exchange rate.

He notes that if Bitcoin rises when the dollar-yen strengthens or weakens sharply, it signals market expectations of a bailout if the yen gets too strong, which is known as “convex-Bitcoin.”

On the other hand, if Bitcoin falls as the yen strengthens and rises as the yen weakens, it shows a correlation with traditional financial markets, which is called “correlated-Bitcoin.”

Hayes says to watch Bitcoin's behavior closely. If it trades in a convex manner, it means a bailout is expected, and liquidity from the U.S. Treasury is sufficient. This is a sign to aggressively add positions as the market anticipates intervention.

If Bitcoin trades in a correlated manner, aligning with traditional markets, it might be better to sit out and wait for a clear market direction.

According to Hayes, understanding Bitcoin's correlation with the dollar-yen pair can provide insights into market sentiment and potential bailouts, which can guide traders on whether to take aggressive positions or wait for the market to settle.

In his words, “If you must use leverage, use it wisely and constantly monitor your positions. When you have a levered position, you better be babysitting your Bitcoin or shitcoins. Otherwise, you will get liquidated.”