Written by: Yves, Head of Trading at Wirex
If we set aside the COVID-19 crisis selloff of March 2020, the year 2021 was more volatile than the year before. The large cryptocurrency price swings observed were powered by a growing market leverage. Even though Bitcoin outperformed traditional markets (+61% YTD increase versus +27% for the S&P Index), the performance of the main cryptocurrency seems more than ever unstable in the context of a surging volatility. However, this performance is fully justified when we consider the extraordinary adoption growth: El Salvador was the first country to adopt Bitcoin as legal tender, and the US took over and embraced the sector’s potential when China completed its withdrawal in May. The first US ETF on Bitcoin futures was launched in October and cryptocurrency hubs emerged in major US cities in the second half of the year. Many institutions bought and held Bitcoin and Ether for the first time in 2021. And if they don’t hold the physical cryptocurrencies, institutions gained exposure to the sector through the plethora of investment vehicles that are now available. The Coinbase IPO, the Bitcoin and Ethereum upgrades, DeFi 2.0 or the emergence of the Ethereum killer candidates: this is a glimpse of the exciting events that happened in the year 2021.
But since the end of November, the macroeconomic regime has definitely shifted: at least the official justification for the largest inflation increase since 1982 simply changed. After describing the inflation as ‘transitory’ in most of 2021, the chairman of the Fed, Jerome Powell, eventually admitted at the end of November that ‘it is probably a good time to retire that word’.
In this context, cryptocurrency markets tumbled these last few weeks, and most severely since the release of the Federal Open Market Committee (FOMC) December minutes on Wednesday. The FOMC mentioned then that the net asset purchases, used to inject liquidity in the economy, are now expected to end in March. The FOMC also advanced the expected date for the target range increase of the Fed funds rate from the first quarter of 2023 to the second quarter of 2022. General expectations are even more aggressive as they predict the first rate hike in only two months.
This important shift in the Fed’s monetary policy will certainly hurt the traditional and crypto markets alike, triggering unwinds of the riskiest positions in favour of safe havens. The stablecoins total market capitalisation increased by 10% since early December, while the cryptocurrency total market capitalisation already lost 23% within the same time span. The S&P 500 index lost nearly 1.8% this week and the 10Y US treasury note yields increased from 1.53% to 1.72%, reaching its 2021 heights.
Although the Fed’s inflation adjustments usually hurt markets, their impact, however, subside in a few months. This is likely even if the Fed decides to hike the target rate four times this year, which would be the most aggressive tightening shift since 2005, or even the 1980s.
High inflation is now affecting most countries worldwide: US, Japan, Germany, including emerging markets like Vietnam, Indonesia or Kazakhstan, the second largest crypto miner. Kazakhstan’s energy demand soared as crypto miners in the country were contributing for more than 18% of the global Bitcoin power consumption six months ago. Even though the government decided to shut down the internet, the global hash rate was hardly hit, holding near its highest levels. The hash rate is resilient. It absorbed the Chinese crackdown in May 2021 and now the Kazakhstan’s internet switch-off as if it never happened.
On the derivatives side, the total notional of liquidated derivative contracts this week is half the level observed on December 3rd. The correction is severe but seems more organised, reflecting the macro regime, but not specific to the cryptocurrency sector. For this reason, this correction and the ones to come this year could appeal to the late investor.