Survive and Advance

Updated: Feb 19

Welcome to the first installment of Starkiller Capital Insights. The truth is that I (Leigh Drogen, Starkiller Capital GP and CIO) am not exactly sure what the cadence and composition is going to look like here in perpetuity, but our goal is simply to share useful analysis and thoughts, whether that be in the form of our quantitative research, commentary on current events in the market, regulatory matters, or individual positions we may be in or considering. That may come in the form of a regular weekly post, one offs, and links to TV/podcast appearances by members of the Starkiller team.


And boy did I pick one hell of a week to start sharing! Markets are currently in the process of crashing on this Saturday afternoon. Thankfully through some combination of skill (listening to our quantitative models) and luck (if you don't think there's luck involved here you're delusional) we've been in cash for more than a week and somewhat hedged for the better part of a few months.


I spoke about the current state of where things are on Bloomberg TV Friday afternoon which you can watch quickly below.

We're currently looking at an illiquid market, not only in all of the smaller cap coins, but if you look at BTC or ETH we're not anywhere near the type of volume we saw in May last year when the market last "crashed". One of two things could be going on here, either were still yet to see that really big capitulation (probably the case), or there are so few retail investors and active funds trading these days (which is what led to this decline) that the market may just continue to melt at a decreasing pace. There's a famous bear market saying, if they don't scare you out they'll wear you out, and the latter is soooo much worse.


I believe we'll see at least a hard short term mean reverting bounce around BTC $31,000, but there's no evidence so far to suggest that will be a durable bottom. Over a short horizon we want to see the market hang on to a hard selloff VWAP for at least 12 hours (buyers defending their positions). New retail capital flow is the most important thing that drives big crypto adoption cycles (so far), and right now they are completely MIA. It's anyone's guess when that changes, but my best one is it will coincide with either ETH L2s gaining enough traction and decent UX that a whole new round of people can get onboarded to DeFi, or some very high utility thing on another cheaper chain gains massive traction and pulls people in.


Which brings me to the most important governing philosophy we have at Starkiller. Investing in crypto markets successfully is about one main thing, survive and advance. Because the asset class is growing so quickly (roughly 200% CAGR since 2016), it also has an associated massive amount of vol. And that vol isn't choppy, it's extremely smooth. Crypto markets are basically a series of bubble and bust cycles where we grow and order of magnitude each time, in both price and most of the underlying metrics. Huge assumptions of massive future global growth are pulled forward into prices within a short period of time, and then poof, the liquidity is gone, there are no new users, no new money, and we get 80-90% drawdowns. This action is COMPLETELY rational given the above variables.


And because of that, if you consider what produces optimal aggregate returns over a long horizon (7-10 years), it's simply being able to limit drawdowns so you can survive and advance to the next adoption cycle when you can basically throw darts and be up 500%.


By almost every measure we look at, this adoption cycle ended somewhere between May and October. Yes, there were individual projects and even NFTs as an asset class which have continued to grow, but you simply can't have the same 300,000 degen DeFi wallets rotating through a set of assets and hope that game of musical chairs doesn't stop. You'll be seeing a lot of the chart below going around, and yes in some sense this is exactly what happens in crypto during each adoption cycle. But don't confuse that with people who would have you believe this is it, that it's over, that this specific drawdown is the big one to end it all, because I'm willing to bet my career that's wrong, and literally every single person who has said the same up until now has been.



This philosophy is backed up by the momentum driven quantitative framework we use. There are a handful of different incarnations of quantitative momentum we look at, the one I'm going to share with you is a very simplistic and binary version. And while it's just one piece of an ensemble, frankly, if it's the only thing you listened to in crypto you'd be killing it.


The model is basically a 5,50 day exponential moving average crossover. Below is the trading history of the model since 2011 for Bitcoin through the end of November. It threw off a sell signal on November 21st as you can see at the bottom right. We know what happened after that.

The following charts show the cumulative returns of the strategy (yes it works in and out of sample). Notice the most important thing here to the aggregate returns are the months and years in which the model plays defense while the market crashes. If you can compound your capital and a much higher floor in each successive cycle, even if you are late buying into the next one, and even if you get chopped up a little bit in trendless markets, you're a hero.




Notice that the model's shortcomings are found not so much in being late into the market at the bottom, but by being late to sell blowoff tops, and even so it still performs incredibly well. This is why we use a combination of longer term strategic beta models like this with those that are shorter term in nature, along with other variables such as volume and more mean reversion oriented signals.


While this certainly isn't the most interesting model in the world, I want to stress that it doesn't take a rocket science approach to survive and advance in crypto. Over time I'll share some of the more interesting models we look at, but if you pay attention to one and only one thing in your longer term crypto investing, this should be it.


Survive and advance.



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