3 new tokens and a major rebalance - Portfolio Update part 2

Today, we trade. This newsletter is a portfolio update in its entirety.

First, I’ll remind you of the current portfolio and briefly recap what we learned from the Yen Carry Trade crash on August 5.

Next, we’ll lay out the macro picture and make the case that we are, right now, undergoing a regime change in the markets that will lead to looser conditions and increased liquidity — but it will be a bumpy ride in the short to medium term.

I’ll finish up by sharing exactly how I’m managing the Pos. Skew portfolio for the new reality.

tl:dr — I’m increasing cash (dry powder), adding 3 new tokens to the portfolio, and dumping several underperformers. Details below.

Portfolio Update - A New Normal for Q4

Here’s a breakdown of the portfolio today, before any changes or rebalancing.

Last week we identified AAVE, XRP, SUI, and FLR as strong candidates for investment based on their performance during the crash on Aug 5.

We also noted weakness among a number of existing holdings. TIA, AKT, and INJ all were weak, but nothing compared to the broad based bed-shitting in the Ethereum ecosystem.

I did some digging and decided to only add AAVE and FLR from this list to the portfolio. Sui’s token unlock schedule terrifies me and XRP’s performance was too tied to courts (and I have no clue how to invest based on pending litigation).

I’ve also added TONCOIN to the portfolio, which deserves a dedicated post all to itself. TONCOIN is one of the most exciting new ecosystems in crypto today, and its close relationship with the messaging app Telegram gives it a powerful competitive advantage in distribution.

It’s time to reset risk and reward.

When market volatility spikes to above 60, as we saw in the VIX earlier this month, you should pay attention.

These events are rarely isolated incidents — that much vol signals major changes in market structure and capital flows.

It’s going to be a bumpy ride. I think we’ll have more ugly days along the way. Volatility can beget more volatility, so let’s anticipate the aftershocks as best as we can.

I want to remain concentrated in my highest conviction investments, but diversify against both correlation and volatility in the rest of the portfolio.

If some shitcoin with god knows what untold risks performs at a 90% correlation to Solana, then I should just own Solana. Get paid for the risk you want, and hedge the rest.

Regime Change - The Yen Carry Unwind is a bellwether

Before we dive into specific tokens and trades, let’s take a minute to understand the setup and why now is the time to reset the portfolio, our mental models, and expectations of what’s to come.

In 2022-2023, the Fed hiked rates with historic speed — 11 hikes in 18 months — and only stopped in March of 2023 when regional banks began to fail across the country.

Silicon Valley Bank, Signature Bank, First Republic — they’re all gone. Failed. Collapsed. Au revoir.

The Fed stopped the contagion with a clever bailout, injecting liquidity into the banks (and indirectly, into risk assets like crypto) through the Bank Term Funding Program.

That program expired with a whimper a year later in March 2024, taking its liquidity with it. Ever since, crypto has been stuck in this miserable sideways chop we’ve experienced all summer. “Sell in May and go away,” as they say.

Equity markets took a dive too as AI fever cooled off, at least for now. The QQQ and SPY both took nove dives from their own highs before bounding back this week. Both are hovering below their highs with weakened momentum and mixed narratives.

And then there’s the Yen Carry Trade fiasco. The BOJ tried to raise rates and markets called bullshit. We all know how that played out.

It’s two weeks after the crash as I write this, and gold is at all time highs. Gold remains every investors’ favorite pet rock when markets get weird.

Capital flows to solve capital woes

The strong dollar is causing havoc across Asian export economies. Japan, as you’ve seen, is struggling, but it’s also affecting a number of other currencies and exporters throughout the region (including China).

Temporary benefits from a strong dollar on exports have been quickly overrun by departing capital flows, depreciating currencies, and tanking local investment markets.

The unemployment rate is slowly creeping up, which can have a recursive, spiralling effect on the economy. A 0.1% or 0.2% month over month increase doesn’t seem like much — but it can create a feedback loop that quickly makes rising unemployment the expectation, not the exception. Don’t focus on the number, focus on the rate of change.

Manufacturing indices have been looking worse for months, and there’s a general unease in the air as layoffs and missed quarterly estimates creep into the headlines and earnings reports throughout the S&P 500.

Policy makers are starting to react

As long as inflation remains in check, central bankers have an arsenal of tools to counter these trends and pump fresh new liquidity into the economy.

Last week’s CPI number was below 3% for the first time since 2021. That’s permission enough to start warming up the money printers.

The Fed is already slowing it’s quantitative tightening program by about $30 billion a month. Less QT is the same thing as more QE — money printer go bbrrrr.

And rate cuts are firmly on the table.

The market is pricing in a 75% probability of a 25 basis point rate cut in September and a 25% probability of a 50 basis point cut. Brrrrrrr.

The Treasury continues to spend spend spend, as fiscal policy dominates liquidity conditions. The RRP — basically the Treasury departments checking account — is now replenished after April’s tax receipts. Janet Yellen and Company have plenty of cash to fund politicians’ wildest dreams (and hopefully ours too). Brrrrrrrrrrr.

The regime of the last 18 months is over — that regime characterized by fiscal dominance, laser-targeted backdoor liquidity, a very strong dollar, and clear and present danger from inflation.

The King is dead. Long live the King. Long Live Liquidity.

Evaluating the portfolio

How can we translate this macro, fiscal, and regulatory knot into a cohesive portfolio strategy?

We need a strong foundation on solid tickers that have performed well in the recent past. We want to build a foundation of our strongest conviction bets, and give ourselves ammunition to adapt as conditions change.

We are prepared for chaos in the short term, and positioned for max gains as the crypto cycle continues marching forward.

More volatility ahead is likely. Be prepared.

The VIX has returned to more normal levels over the past few days, but historically there tends to be other “aftershocks” of vol after a major crash. Don’t be surprised if there’s some event that triggers another sell off in the next few weeks.

If that happens, we buy. To buy, we need to have dry powder.

I haven’t included my cash positions in these portfolio charts (I wanted to make it easier to show the actual crypto positions). However, of my entire crypto allocation I am moving to a cash balance of ~20% for now. I am keeping this cash on-chain to earn an above market yield while I wait for more dips.

20% comes from my portfolio management system. I set a target annualized volatility, and then the math tells me how much cash I should hold based on the crypto tokens that I own to target that level of vol. It balances the chaos of crypto with my defined risk tolerance.

(My annualized vol target for crypto is very high by the way — I currently have it configured to be about 10x the typical vol seen in the S&P 500.)

In addition to resetting my cash position, I’ve reset my entire systematic portfolio and re-rated my discretionary investments.

First I ran my entire portfolio through my volatility targeting portfolio system. The forecasts are my own. Here’s the allocation changes it recommended:

I am overriding the recommendation for SOL and WIF and will maintain strong concentrations in both. Each will be reduced in absolute terms (ie. I am selling a little), but they will remain the two largest positions in the portfolio after this rebalance. You can see the impact in percentage terms in pie chart below.

The system recommends reducing the WIF position primarily because of its extreme vol. The reduction in SOL is driven by return correlations to other tokens in the portfolio.

In both cases the system is correctly encouraging diversification - I am intentionally choosing to remain concentrated in these two. Solana remains the foundation of the portfolio heading into Q4.

I will be taking new positions in AAVE, TONCOIN, and FLR based on their performance earlier this month and a review of their fundamentals. I plan to do deep dives into each over the next few weeks with additional detail.

I will also be reducing my concentrations in STX. STX is a layer 2 developed for the bitcoin ecosystem and has performed with high beta against bitcoin. Instead of owning bitcoin directly, I own STX for the increased vol. Given the broader market volatility right now, I am trusting the math and reducing this exposure until momentum returns. Even with the reduction, STX is still above 7%.

I am closing out my positions in TIA (have been easing out of this for several months now) and Aptos (I fear both Aptos and Sui are going to be great products with terrible coins due to token unlock headwinds - despite SUI’s recent strength). INJ was a momentum buy that has now run its course and I will be fully closing it out.

Arbitrum is an incredible technology and my favorite Ethereum L2 to actually use in DeFi. Unfortunately it’s token is facing the high FDV, low float issues pervasive in crypto today (ARB is down about 75% since token unlocks started in March — some of that is market decline, but the unlocks are making it much worse). I sold most of my ARB in February and March, and will be closing out the position entirely this week.

Here’s the updated portfolio in percentage terms for all the assets, excluding cash.

I will be deploying these trades over the next few days. Next week I plan to cover either TONCOIN or FLR in the newsletter. If you have a preference on which to cover first, let me know in this poll:

That’s the plan for now. I’m rebalancing, replenishing my cash reserves, and preparing for more volatility. I’m increasingly confident that the macro environment will drive increased liquidity and higher risk asset prices over the next several quarters, and crypto will be a high beta asset class to capitalize on this dynamic.

I’ll be watching for the tokens, ecosystems, and categories to break out first. Once those breakouts are confirmed, I’ll be moving quickly to allocate to the highest momentum sectors.

Market Vibes