This week in the newsletter, we write about the closing days of the US campaign season and what’s at stake for digital assets, a new presentation about stablecoins from a division of the U.S. Treasury Department, and Stacks completing an important network upgrade.

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Race Tightens in Election Crucial to Crypto

The US presidential election race appeared to tighten late in the week, with oddsmakers, prediction markets, and proprietary forecast models all showing gains for Harris. Trump had led for several weeks across all the prediction markets and bookies and in all but one of the proprietary forecasts we track (RaceToTheWH was the only one that had shown Harris in the lead over the past week).

Some of the tightening was due to new polls showing Harris performing well in the so-called “Blue Wall” states of PA, MI, and WI, as well as reporting that women were seen to be voting early in large numbers and that Trump was lagging with seniors. Control over the U.S. House is extremely unclear, with most evidence suggesting control of the chamber is a toss-up or barely favors Republicans (Republicans have only a razor-slim 3-vote majority). While the President and House races remain too close to call, the Senate appears likely to flip to Republicans, with most forecasts predicting a 70% or greater chance of Republican control.

Markets went risk-off Thursday, perhaps reflecting a partial unwind of some “Trump trades.” Bitcoin was down 3%, Ether was down 5%, while the S&P 500 was down 1.8%. Gold rose treasury yields slipped, and market participants were positioned cautiously ahead of what is likely to be a volatile next week.

OUR TAKE:

The US is only 5 days from an election that will have drastic implications for crypto markets and policy. We have written that our analysis suggests both candidates would be at least a marginal improvement over the Biden administration when it comes to crypto policy, but there is a significant delta between a Trump administration and a Harris administration.

Under a Trump admin, you would likely see replacements made almost immediately at all the Treasury departments (such as the OCC, FHFA, etc.) and an immediate rotation to new acting chairs at the SEC, FDIC, and CFTC. We won’t rehash every policy and promise that Trump has announced, but suffice to say he is promising a big supportive agenda on almost every issue that the crypto industry cares about, and the personnel around him are comprised of significant bitcoin and crypto advocates, such as Vivek Ramaswamy, RFK Jr., and Howard Lutnick.

On the other hand, we view the Republicans taking the Senate as the highest conviction outcome, and if Harris wins the presidency but Republicans control the Senate, it’s unlikely that crypto policy is a high priority. Harris has signaled tepid support for the industry, but if she is faced with a Republican senate that adds some difficulty to the process of confirming her appointees and moving legislation, we view it as unlikely she would expend the political capital needed to act on crypto and instead would focus on higher priority agencies and appointments.

Whatever happens, if power is divided, we see a high likelihood that bipartisan stablecoin and market structure bills make progress during the next Congress. These odds probably go down slightly in the case of a unified government under one party’s control, as each would likely focus on bigger ticket, higher priority legislative items.

One way or another, it is likely that efforts to craft crypto rules, frameworks, and national policy for decades will finally be set in motion over the next 12-24 months. The makeup of the Executive and Congressional branches of government will be crucial in determining what that clarity looks like, who the winners and losers are, and the timing of any material changes. Bitcoin doesn’t care too much — outside of AML/KYC and bitcoin mining, there aren’t many issues under discussion that impact Bitcoin. But the broader crypto industry cares a great deal: from issuers to exchanges and brokerages, registrations and licensure… the future of America’s crypto industry, and whether it can remain competitive globally, is very much on the ballot this Tuesday. - Alex Thorn

US Treasury Aims Tokenized Assets

This Wednesday, the U.S. Treasury Department released its Q4 2024 Treasury Borrowing Advisory Committee (TBAC) Quarterly Report with an entire section dedicated to Tokenization. Typically a technical document, this report included a 25-page presentation in its appendix that outlined the Treasury’s vision for tokenization's future. It opens by describing how the demand for Treasury T-Bills has been influenced by crypto. Demand for stablecoins on-chain and in the digital asset economy has resulted in a material increase in demand for T-Bills, with Tether and Circle becoming significant players in the shorter Treasury expiries. While the report notes the positive effects of the increased demand in the short end, the report also expresses are also trepidation about the future and offers recommendations.

The TBAC committee takes a principled stance, praising the technological gains that tokenization offers in speeding up settlements and increasing liquidity in the Treasury market. However, it also highlights the risks associated with privately issued currencies, drawing historical parallels to early U.S. banking practices, where private bank-issued notes often became worthless (“free banking”). The TBAC sees privately issued stablecoins as potentially destabilizing. The TBAC committee does not see a private solution to stablecoin demand being appropriate, stating “Central Bank Digital Currencies (CBDC) will likely need to replace stablecoins as the primary form of digital currency underpinning tokenized transactions".

Moving off the topic of stablecoins, the TBAC presentation aims for the future of tokenization. It is their stance that “These ledgers will also need to be developed under the auspices of Central Banks and the foundation of trust they provide”. The Treasury is fundamentally against a public, decentralized blockchain being the basis for tokenized asset trades, and believes that the solution lies in a private, centralized blockchain.

OUR TAKE:

The Treasury is not off-base with this assessment, and it’s in their prerogative to recommend solutions that are broadly workable within their existing remit. We only need to look to the failure of SVB and the potential losses that Circle faced to see that the Treasury may have a point on “Wild West” banking. It is their job to help reduce systemic risk in their policy decisions and recommendations, and a CBDC or a blockchain with a central trusted entity is going to exclusively have less credit risk than any other stablecoin or tokenized asset. The Treasury is right in pointing that out, but minimization of credit risk with tokenized assets isn’t the only goal. Crypto started with a core ethos of “my keys, my tokens”, espousing the right to freely transact and own assets, yet the Treasury TBAC committee recommends the exact opposite. Their solution isn’t necessarily wrong, it is a fantastic set of recommendations to replicate the current financial system on-chain, but it is incompatible with the broader free transacting ethos of DeFi.

A private Fed Chain may be the solution to bring most of the traditional financial system on-chain, but it won’t have the splashy effects on the broader digital asset ecosystem that one would hope. It’s a great solution to reduce financial friction, but it won’t bring billions of collateral to the broader permissionless on-chain ecosystem. The assessment makes clear Treasury is interested in an evolution, not a revolution, which is only natural when faced with technology as disruptive to your monopoly as public blockchains. With this said, this is a forward-looking set of analysis and recommendations, not policy; there is plenty of space for innovative solutions that can bridge the gap between a fully permissioned Fed chain and the permissionless chains we know and love, if indeed these recommendations ever become drivers of Treasury’s blockchain policy. – Thad Pinakiewicz

Stacks Completes Nakamoto Upgrade

Stacks, a Bitcoin Sidechain, completed their highly anticipated "Nakamoto" upgrade on October 29, 2024. The upgrade is a hard fork, therefore, all Stacks nodes were required to update their software to the newest version. The Nakamoto upgrade enhances key features of the Stacks blockchain including a reduction in transaction times, MEV mitigation, and infrastructure for sBTC, Stacks' new bridged BTC.

The new framework for block production will remove the original cadence of Stacks blocks following Bitcoin's 10 min block times. Stacks miners can now produce multiple Stacks blocks within Bitcoin's 10-minute block interval. Now, each Bitcoin block will include state data for multiple confirmed Stacks blocks, allowing Stacks blocks to be produced roughly every 5 seconds. The new MEV (maximum extractable value) mitigation features in the Nakamoto upgrade prevents Bitcoin miners with a significant level of hashrate to censor transactions of other miners to win Stacks blocks and receive block rewards/fees. The enhanced randomization function significantly strengthens the miner selection process for Stacks blocks by making it more challenging for any single miner to be chosen repeatedly within brief periods. This improvement helps ensure a more distributed and fair mining ecosystem while also mitigating MEV.

The Nakamoto upgrade will also introduce sBTC, Stacks' new bridged BTC that is pegged 1:1 with native BTC. sBTC marks the first bridged BTC asset to be issued on the Stacks blockchain. The bridge for sBTC involves a federation of 37 institutional signers that are responsible for minting and redeeming sBTC. Notably, sBTC mints and redeems require 70% of federation members to reach consensus. Stacks expects to add another 20-50 institutional singers for the sBTC bridge in the foreseeable future. While the Nakamoto upgrade is live, the sBTC bridge will go live in 4-6 weeks.

OUR TAKE:

The most significant feature of the Nakamoto upgrade is the release of sBTC, the official bridged BTC for the Stacks ecosystem. Notably, the bridge for sBTC is not trustless, meaning that there is no unilateral exit, as the bridge requires 70% of 39 signers to sign off on withdrawals. However, when compared to other Bitcoin Sidechains like Liquid (LBTC) and Rootstock (RBTC), sBTC is a less centralized system. Although Stacks, Liquid, and Rootstock use federated bridges, meaning they select the signers for the bridge, RBTC and LBTC are more centralized than sBTC because they use a lower threshold of signatures (51%) and fewer signers (10-15). Stacks is improving the trust assumptions for federated bridge designs by adding more signers with a higher percentage of threshold signatures.

sBTC has the added advantage of being integrated into a growing BTC DeFi ecosystem on Stacks. As of October 31, 2024, the total value locked (TVL) in DeFi applications on Stacks is $145.5m. Alex, the largest native decentralized exchange (DEX) on Stacks, has over $76m in TVL. Presumably, the existing Stacks DeFi apps will enable support for sBTC soon after launch.

The launch of sBTC represents a pivotal advancement for Stacks' DeFi ecosystem, positioning it strategically within the rapidly expanding Bitcoin L2 landscape. As BTC DeFi emerges as one of the primary growth narratives in the bitcoin world, sBTC's ability to enable DeFi capabilities for BTC while remaining anchored to the Bitcoin is promising. Unlike WBTC and cbBTC on Ethereum, which are issued by a small consortium and a single company, respectively, sBTC is anchored to Bitcoin the base chain through Stacks publishing their chain’s state data as a hash into Bitcoin blocks. This innovation comes at a crucial time, as BTC DeFi continues to gain momentum across all L2 networks. By allowing BTC holders to access DeFi applications without departing from the Bitcoin ecosystem, sBTC is well-positioned to capture value in this flourishing sector. However, sBTC will encounter an immense amount of competitive pressure from upcoming bridged versions of BTC on emerging Bitcoin L2s like Citrea, Strata, BOB, Bitlayer, and Botanix. - Gabe Parker

Charts of the Week

The race between Former President Donald Trump and Vice President Kamala Harris is ratcheting up just 5 days before the election. There was a notable shift in Kamala Harris’ favor across aggregators, bookies, prediction markets, and individual proprietary models on October 31, 2024. This is presumably due to polls released out of battleground states, Georgia and North Carolina, on Thursday showing the two candidates within 1 point of each other. In aggregate, Donald Trump is still favored after tightening sentiment over the last couple of days, with only two proprietary models predicting a 50/50 tossup.

Bookies and prediction markets give Donald Trump better odds of winning in aggregate across the categories and providers covered by Galaxy Research. Polymarket, the largest prediction market by open interest, gives Donald Trump 64% odds of winning the election. This has increased since last week when we published the same chart. In just one week, Polymarket participants have added $65.2 million in open interest (up 53% from $123.03 million) and increased Trump’s odds of winning by 330 basis points to 69.9% (up from 60.6% on October 24, 2024).

Other News

• MicroStrategy plans to raise $42 Billion to buy more bitcoin

• Citrea, the first zk-Rollup on Bitcoin, raises $14m in their series A

• US converts seized Alameda Research tokens to Ethereum

• Dutch central bank imposes $2.4m fine on Bybit for service violations

• Reddit dumped most of Its bitcoin well before 'Uptober' pump

• Florida CFO urges state board to evaluate crypto investments for public pension funds

• Zero-knowledge proof startup NEBRA launches aggregation tool on World Chain