Arthur Hayes, the co-founder and former CEO of BitMEX, recently shared his perspectives on how escalating tensions between Israel and Iran might influence the crypto markets. In his essay “Persistent Weak Layer,” published on October 16, Hayes draws parallels between the geopolitical dynamics in the Middle East and the concept of a “persistent weak layer” (PWL) in avalanche science, suggesting potential upheavals in financial markets, particularly affecting Bitcoin and other cryptocurrencies.
Understanding the Potential Crypto Market Reactions
Hayes begins his analysis by describing a recent skiing experience, emphasizing the dangers of a persistent weak layer (PWL) that could trigger an avalanche when stressed. He draws an analogy between this and the geopolitical landscape in the Middle East post-World War II, which he posits as a PWL underpinning the modern global order. “The trigger usually has something to do with Israel,” Hayes observes, indicating that financial markets are primarily concerned about fluctuations in energy prices, disruptions in global supply chains, and the potential for nuclear escalation if hostilities between Israel and other Middle Eastern nations, especially Iran, intensify.
Scenarios Outlined by Hayes
Hayes presents two potential scenarios. In the first, the conflict between Israel and Iran remains limited to minor, retaliatory military actions. He bluntly illustrates this scenario as “Israel continues assassinating folks and decapitating dicks, and the Iranian response is telegraphed, non-threatening missile strikes.” Under this scenario, no significant infrastructure is destroyed, and nuclear strikes are avoided, allowing the PWL to hold. In contrast, the second scenario involves a severe escalation, where key Middle Eastern oil infrastructure is destroyed, the Straits of Hormuz are closed, or a nuclear attack occurs, leading to a financial market “avalanche.”
Investment Strategies Amidst Uncertainty
Faced with these possibilities, Hayes contemplates his investment strategy: whether to maintain or reduce his cryptocurrency holdings in favor of cash or US Treasury bonds. “I don’t want to be under-allocated if this truly is the start of the next leg higher in the crypto bull market,” he explains. “Yet, I also don’t want to incinerate capital if Bitcoin drops 50% in a day because Israel/Iran triggered a persistent slab financial market’s avalanche. Forget about Bitcoin; it always bounces back; I’m more worried about some of the utter dogshit I have in my portfolio … meme coins.”
Strategic Considerations: Buy or Sell?
To address this dilemma, Hayes conducts a scenario analysis, focusing on the potential impacts of the more severe scenario on the crypto market, particularly Bitcoin, which he describes as the “crypto reserve asset.” He identifies three major risks: the physical destruction of Bitcoin mining setups, soaring energy prices, and the monetary implications of the conflict.
Physical Risks to Bitcoin Mining Infrastructure
Regarding the potential destruction of mining infrastructure, Hayes notes that Iran is the only Middle Eastern country with significant Bitcoin mining operations, contributing up to 7% of the global hash rate. Reflecting on the 2021 situation when China banned Bitcoin mining, he concludes that even the complete cessation of Iranian mining activities would have minimal impact on the Bitcoin network and its price.
Impact of Rising Energy Prices
Hayes explores the ramifications of a potential spike in energy prices if Iran retaliates by targeting major oil and natural gas fields or closing the Straits of Hormuz. Such actions would lead to a surge in global energy costs. Hayes argues that this would increase Bitcoin’s value in fiat terms, stating, “Bitcoin is stored energy in digital form. Therefore, if energy prices rise, Bitcoin will be worth more in terms of fiat currency.”
Historical Parallels and Monetary Implications
Drawing historical parallels to the 1970s oil shocks, Hayes recalls the significant price surges during the Arab oil embargo of 1973 and the Iranian Revolution of 1979. “Oil rose 412%, and gold nearly matched its rise at 380%,” he notes, illustrating that while gold maintained its purchasing power relative to oil, stocks lost considerable value when measured against energy prices. Hayes suggests that Bitcoin, as a form of “hard money,” would similarly retain its value or even appreciate relative to rising energy costs.
Monetary Responses and Bitcoin’s Future
Hayes examines the financial responses of the United States to the conflict, emphasizing the provision of support to Israel through increased government borrowing. “The US government purchases goods on credit and not from savings,” he highlights, referencing data showing negative US national net savings. He questions the buyers of this debt, suggesting that the Federal Reserve and US commercial banks would likely intervene, expanding their balance sheets and effectively printing more money.
He points to historical instances where negative national savings correlated with sharp increases in the Federal Reserve’s balance sheet, such as after the 2008 Global Financial Crisis and during the COVID-19 pandemic. “The Fed and the US commercial banking system will buy this debt by printing money and growing their balance sheets,” he asserts, suggesting that this monetary inflation would significantly bolster Bitcoin’s price. “Bitcoin has outperformed the rise in the Fed’s balance sheet by 25,000%,” Hayes emphasizes, indicating Bitcoin’s strong performance relative to monetary base expansion.
Volatility and Caution for Investors
Despite his optimism about Bitcoin’s resilience, Hayes cautions investors about potential price volatility and uneven performance across different crypto assets. “Just because Bitcoin will rise over time doesn’t mean there won’t be intense price volatility, nor does it mean every shitcoin will share in the glory,” he warns.
Hayes reveals his previous investments in various meme coins and his decision to reduce those positions after Iran launched missile attacks. “When Iran launched its latest barrage of missiles at Israel, I cut those positions dramatically. My size was too big, given the unpredictability of how crypto assets will react to increased hostilities in the short term,” he admits. Currently, he holds only one meme coin, noting, “The only meme coin I own is the Church of Smoking Chicken Fish (symbol: SCF). R’amen.”
At the time of writing, BTC traded at $66,907.
