Crypto winter may not end anytime soon
Crypto is one year into a vicious bear market
This is the first time crypto has experienced a bear market in the wider economy, too
With too many negative macro variables, and the zero-interest rate era over, it seems naïve to think crypto can bounce significantly in the short-term
Anyone betting on a swift recovery in the crypto markets might want to reassess.
If you are familiar with my analysis, you will know I have been bearish for a while. This mainly comes down to the macro setup, as the economy reels in the face of this new paradigm of high-interest rates.
Crypto represents one of the highest-risk asset classes around, and hence was always going to the struggle once the rug was pulled out from under it. And that is what has happened, with Jerome Powell and the Federal Reserve pulling that rug out mercilessly.
With this macro backdrop in this position, there is a ceiling in place. Crypto will not rise until inflation is beaten and interest rates peak. Currently, T-bills are trading at 4%, but this will likely rise to 5% in early 2023.
There is still concern that inflation, which does seem as if it has peaked, will nonetheless persist for some time. The labour market has yet to feel real tightness, while demand has been subdued but not significantly.
More bad news
This landscape what was led me to declare that crypto could be one bad event away from a meltdown. It was range-bound at the $20,000 mark for too long, unable to break out while restrained by the bearish sentiment in the wider markets.
I didn’t expect that event to be quite so seismic, however. FTX’s implosion represents a watershed moment for crypto. I believe it will cause even greater harm than what most forecast.
We saw credit agency Moody’s place Coinbase’s bonds on review for downgrade, hinting at the detrimental action that could follow the exchange’s insolvency. I wrote a piece analysing the deluge of Bitcoin flowing out of exchanges, showing that trust had been broken and was at an all-time low.
In fact, a pretty staggering 200,000 bitcoins flowed out of exchanges less than a month after the FTX collapse. And even Cathie Wood is warning of a pullback in institutional adoption.
They say “be greedy when others are fearful”, but I’m not sure that applies here. Cryptocurrency is at a fork in the road. It has never existed during a bear market in the wider economy before – remember, Bitcoin was launched in 2009, and hence has experienced nothing but an explosive bull market in financial assets.
Now, it is different. Contagion is again swirling, crypto’s reputation is in tatters and the money printer is no longer propping everything up. Times are tough.
Previous crypto winters
Against this context, this environment is unprecedented for crypto. This is why I believe that extrapolating past cycles to current conditions is naïve. It is a lot easier to bounce back when interest rates are at 0% and the rest of the economy is booming. Not only that, but the scale of the capital destruction this time around is much greater, given crypto grew so much during the pandemic years.
Having said that, there will come a time when inflation is beaten. There will come a time when interest rates are no longer being hiked. This is the cyclical world we live in, and hence risk assets will rise again.
I just believe that this time, the winter may last a little longer than a lot are expecting. And when looking at previous cycles, the winters lasted long then, too. The below chart plots the Bitcoin price back to 2014, showing this well.
Following the peak of close to $20,000 in December 2017, it was not until Q4 of 2020, deep into the pandemic, that Bitcoin once again breached this mark. That marked a near 3-year fallow period, where investors failed to enjoy any significant gains in the crypto world.
We are one year into this bear market now, both in crypto and financial assets in general. Forecasting the future in crypto will only ever end with you looking silly, but I’ll try anyway. I would be surprised if we were beyond halfway through this bear market.
As the winter snap hits hard in Europe and people feel those high energy prices, the war in Ukraine rages on, and inflation continues to persist stubbornly, it just feels naïve to think crypto could rise anytime soon.
Of course, that could theoretically change in an instant. Positive news out of Ukraine could send markets north in an instant, but that is impossible to predict. I think the base case, however, is a longer period of pain ahead than a lot of people realise.