Bitcoin (BTC) took a beating in the last quarter; it lost nearly 58% of its value, its worst quarterly performance in more than 11 years. There are several reasons for the current sale; however, there are two critical factors that require the most attention.
1. Collapse of confidence in crypto
A broader risk flight occurred during the second quarter of this year, mainly due to the lack of confidence in the crypto market, largely triggered by the now infamous collapse of the US dollar-pegged stablecoin UST. and its Luna token, which wiped out $60. billions of crypto market wealth.
This led to a domino effect: Celsius, a lending platform, which promised higher and unsustainable returns on digital currency deposits, suspended withdrawals for customers, blaming the extremely volatile situation. According to recent company headlines, Celsius may be on its last leg before its collapse. Crypto fund Three Arrow Capital has defaulted on a loan worth over $670 million. It was also reported that another major crypto lending platform, BlockFi, could be bought in a fire sale for $25 million, a 99% drop in the private valuation of the company.
Generally speaking, whenever there is a panic in the market, it does not matter if we are talking about digital assets or traditional markets; capital controls and domino effects play out in a similar way, as we have seen in the European financial and debt crises.
2. Hedge against inflation
Perhaps the most common question among investors these days is why the price of Bitcoin has not risen as inflation figures in the United States and Europe hit their multi-decade highs. After all, bitcoin is meant to be like gold and provide a hedge against inflation and risk. This particular bitcoin reputation element has been damaged, and there are still no clear answers to this.
A clue can be found in the correlation between the increase in the supply of dollars and the price of Bitcoin. This can be seen by plotting the 10-year US Treasury yield against the price of bitcoin. Data from the last five years indicates that when the Fed cuts the money supply, the price of bitcoin takes a nose dive. When the Fed increases the money supply, as it did during the covid crisis, bitcoin prices rally, and usually a new high is formed.
From a money supply perspective, things don’t look so promising, and the current crypto winter could last until the Fed restarts its asset purchase program, thereby increasing the money supply.
Protect against risk?
During the second quarter, we saw a rout in US equities; the S&P 500 index posted its worst first-half performance since 1970. Bitcoin, which is supposed to act as a risky asset, also fell, belying its reputation as a kind of digital gold, a source of security in the face of declining inventories.
That’s not to say that if Bitcoin doesn’t act as a risky asset, there won’t be a future for Bitcoin. But investors who have always viewed bitcoin as a hedge against uncertainty need to rethink their portfolio strategy. As a result, we could see bitcoin sitting with riskier assets, and investors will have to let go of bitcoin’s reputation as a risky asset. Rather than being seen as some sort of digital gold, bitcoin is forging its own unique identity that defies easy comparisons with other types of assets. Investors will have to adapt accordingly.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.