(Bloomberg) – For true cryptocurrencies, Bitcoin is the ultimate store of value, the most solid hedge against the rampant inflation produced by ruthless central banks and their money laundering. For skeptics, the crypto world as a whole is a mirage whose massive rise of over $ 2 trillion was simply the speculative byproduct of the extraordinary amount of easy money that has plagued the global economy – in fact, a big bubble.
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Both of these theories are about to face their biggest test to date.
Bitcoin, the original cryptocurrency, emerged more than a decade ago from the ashes of the global financial crisis as a detour to banks and government agencies that were embroiled in Wall Street̵[ads1]7;s major disaster at the time. The digital token kept gaining followers, inspiring a rash of wannabes and enduring some wild rides. But it was not until the next major crisis, Covid-19, that the market really took off.
Crypto exploded after March 2020, when the Federal Reserve and Congress unleashed trillions of dollars to stun the pandemic’s economic blow. A bunch of this cash took the road to digital assets, with turbocharging of prices. Bitcoin rose by 305% in 2020 and increased by another 60% the following year, peaking at a record $ 69,000 in early November. Since then, however, it has been on a relentless landslide, largely burdened by the central bank’s hawkish pivot. Now, with growing odds that decision-makers will launch a series of rate hikes as soon as March – just one of several steps they will take to remove liquidity – it remains to be seen whether the crypto ecosystem can survive without it.
It does not look good so far: Bitcoin has already fallen around 40% from its heights, while No. 2 coin Ether and other “altcoins” have also fallen sharply.
“If they’re going to raise prices three times in 2022 and keep the program, and the era of low prices is over, we’re really going to see how much people believed in their Bitcoin crypto dissertation,” said Stephane Ouellette. CEO and co-founder of the crypto platform FRNT Financial Inc. “I expect the Fed to become more and more hawkish is very bad for valuations.”
Michael O’Rourke, marketing strategist at JonesTrading, agrees. “The Federal Reserve’s seemingly perpetual asset purchases have been the cornerstone of cryptocurrencies,” he said. Should the central bank follow the path set out in its latest protocol release, which showed that Fed officials are willing to move faster than expected to raise interest rates and potentially shrink the bank’s balance sheet, then “it would immediately undermine the main bullish thesis behind Bitcoin and many other cryptocurrencies, “said O’Rourke.
For most of its 13-year history, Bitcoin has had an environment of simple monetary policy and zero or negative prices. Although there is no straight line from the Fed’s coffers to Bitcoin purchase orders on stock exchanges, there is a connection, according to David Tawil, president of ProChain Capital, a crypto hedge fund. First, the Fed can buy any kind of asset, have ripple effects and increase the prices of other investments. “All the purchasing power, all the investable power that exists, must go somewhere,” he said by telephone.
Second, with interest rates bottoming out, investors have been forced to look for opportunities for higher returns, and many turned to crypto because of its ability to make big gains. Think of an investor with junk bonds who was used to high single-digit returns even on bad days, Tawil said. “He’s going to be forced to put money into something ‘more risky,’ but, more importantly, something that he’s used to getting.”
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So what happens when economic conditions tighten? “The first move is the opposite of what happened when they put the money in – everything is going to go and swing the other way, until it settles down,” Tawil said. “That’s why you have this immediate reaction in the market because everyone expects the money to leave the more risky things.”
The last time the US Federal Reserve raised interest rates was in December 2018, the last increase in a series of increases. At the time, Bitcoin traded for around $ 3,700, and concepts such as “decentralized finance” and “non-fungible tokens” were years away from becoming popular. It turned out to be a tough year for the original cryptocurrency, especially towards the end, when Bitcoin lost more than 40% over the past two months – a period that also coincided with a rollover in US stocks.
That dynamic is playing out again now, with Bitcoin falling in line with rich value stocks ahead of an expected new round of Fed tightening, says Peter Boockvar, chief investment officer at Bleakley Advisory Group and editor of The Boock Report.
“For now, it turns out to be just a risk-on / risk-off asset,” he said. “I expect it to trade with other risk assets in response to the Fed tightening.” Boockvar compared the digital currency to Cathie Wood’s ARK Innovation ETF, which is seen as “the ultimate risk asset” and which has also proved very sensitive to Fed tightening as investors begin to pay more attention to valuations.
Bitcoin, however, remains a superb transformer. It has represented many things to many people for more than a decade now, and its (often conflicting) narratives will continue to evolve. After all, it has been written off time and time again as dead, condemned as rat poison, and thrown out like a bubble only to come back stronger each time.
And as institutional adoption increases, so will the future of Bitcoin, says Max Gokhman, chief investment officer at AlphaTrai, which is working on an application of its artificial intelligence algorithms for the digital asset space.
“We should not ignore the fact that Bitcoin use cases in the future may develop to where it reinvents itself and regains meaning,” he said.
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