Trading Corner: Coin Unlocks as Signals

(Excerpt taken from my State of Crypto January 2023 newsletter, which is a whopping 55 pages of predictions and recaps, you can sign up at https://www.rocketfuelcrypto.com/get-started-1)

In cryptocurrency, we put a huge emphasis on market cap and how the valuation of all the coins added up can make or break its price. For example, we can love any coin as long as its valuation makes sense. Even the crappiest of crap coins might still be worth holding onto if it’s a few thousand dollars market cap, since you have massive upside potential, but if you know nothing is coming, it’s clearly worth $0. With coins that have lots of activity, sure we love them if they are undervalued compared to similar projects, but if their market cap suddenly exceeds that of its peers, we think that’s a sell signal.

But how is market cap derived? It’s simply the total number of coins that are available to buy or sell multiplied by its price. Whether that’s circulating or total cap is also a big deal. Total cap means that the market cap of the coin can suddenly increase massively depending on when coins become available, for example, APE coin has less than half its total supply available and has a 9% unlock this quarter. Filecoin has less than 20% of it's total supply, but has a slower unlock schedule than coins we'll mention in the rest of the newsletter. It means that if suddenly, these coins became available to trade, we’d see massive declines in the price of the asset. That means, these projects will need some massive demand or new hype to sustain their prices. That’s why you’ll notice some supply unlocks typically come with a major exchange listing or major announcement. But wait, how do coins suddenly enter the circulating supply?

1. Inflation - The most common, but most controlled, way of tokens increasing their supply is how inflation is set. Usually, the project starts with high inflation to incentivize people to enter their ecosystem and support it, and dwindles over time. You can see BTC inflation halve every 4 years, for example
2. Investor and Team unlocks - When a scheduled period unlocks for an individual or entity. The most important one we will track in this section, because these are both predictable but also introduce supply shocks, we can actually take action on these
3. Grants or Treasury unlocks - These are usually voted or allocated early on, but can cause supply increases, however these usually benefit the ecosystem
4. Airdrops - These are typically during the introduction of a coin, so less actionable, but also huge supply shocks

Notice above, it’s very common for the circulating supply to keep growing. It means that market forces are working against coin prices unless they have low inflation or a deflationary mechanic (BNB forces burns to calm people down about circulating supply, ETH burns when activity gets too hot). In general, influx of supply = declines in price?

So, how do we use this to our advantage? Well, for investor and team unlocks, we can track those pretty openly for every project. One public tool is Token Unlocks at: https://token.unlocks.app/?category=all

Lucky for you, we have already sifted through the biggest unlocks, and have listed them in our shorting section at the end of the newsletter (sorry, this is only an excerpt). For example, DYDX and OP have major unlocks this year, and we can use that to our advantage.?

Take Optimism (OP) for example, you can reasonably expect the coin to decline a lot if they have no major announcements, but that’s also a risk. OP will come out with some cool innovations this year, including Bedrock, which modularizes rollups, but that also means you can do a “pair trade” with Ethereum (ETH).?

A pair trade is taking two similar assets and going long on one and short on the other. We’ve talked about this the last several months, specifically highlighting long ETH and short SOL, which would have actually been a very low risk but high yield trade. It would have been highly unlikely for SOL to outperform ETH, and SOL also suffered a major setback with FTX collapsing. Pair trades are very powerful since if you know the space well, you can make some high probability net positive trades.

In the event of an unlock calendar becoming well known, you can pair trade those with similar assets as well. DYDX has a major unlock coming next month, so a pair trade would be to go long GMX and short DYDX. In the event a market comes back, GMX would still do well, but DYDX would in theory underperform due to the massive unlock schedule.?

The main risk here is whether these big supply shocks will have some sort of strategy to prevent a dump. For example, DYDX can simply post a tweet saying, “No unlocks this year anymore” and then the price would shoot up, hurting your pair trade. Or they might announce a major supply burn, or a new partnership or new product that has hype that pumps the coin. All I’m trying to say is, while we think it’s a high probability play, it also has risks.

Use this knowledge to your advantage, we’ve listed them major unlocks in our final section of the newsletter

In summary: Supply shocks are actually well known, you can use that knowledge to your advantage with a pair trade on a similar asset. If you’re feeling super high risk, you can even do a short on it. Just remember, the risk is if there is a strategy to prevent a dump. Check the bottom of the newsletter for Top Shorts