Bitcoin has had a difficult start to the year, along with many other financial assets. In this update, we look at data associated with the sell-off and consider future catalysts.
QUICK TAKEAWAYS:
The start of the year has seen drawdowns across risk assets, largely linked to the hawkish posture by the Federal Reserve.
The recent sell-off has seen larger than usual correlations to equities. The macro backdrop may again be responsible.
Bitcoin's drawdown has been one of the largest in its history.
Despite significant price decreases, there has been little evidence of panic sales in the bitcoin market.
According to on-chain valuation levels, bitcoin has reverted to ratios last seen in summer 2021.
The recent spate of bitcoin movement has been driven by short-term holders
The FOMC meeting on Wednesday may be the next big catalyst for bitcoin (and potentially other assets).
Risk Assets Stumble in the Wake of Tighter Monetary Policies
As of Monday’s close, the S&P 500 is down -7.4% year-to-date, a very tough start to the year. This dismal performance comes as the Fed has begun to reduce supportive monetary stimulus put in place in March 2020 as a response to the health care and economic crisis caused by COVID-19. In November it began to taper its bond purchases from $120B per month of Treasuries and mortgage-backed securities to a rate half of that in January. In addition, the market is now expecting interest rate hikes throughout 2022, with the Fed Funds Futures implying a Fed Funds rate of 1.0% 12 months from now, a significant increase from the current target of 0.0% - 0.25%. The first hike is expected to come at the FOMC meeting on March 16th. Our read on the changing monetary policy is that the Fed is worried about inflation that has become more persistent rather than transient, changing its focus from economic support in the wake of COVID-19.
Correlations with Equities Near the Highs
While bitcoin has historically been uncorrelated to other asset classes, such as equities, bonds, and gold, since March 2020, bitcoin’s rolling 90-day correlation to US equities has been consistently positive. In the tighter monetary policy era of the past few months, those correlations have increased, as bitcoin has fallen in sympathy with other risk assets. The unsatisfying answer to factors affecting bitcoin over the past few months, unfortunately, has little to do with the fundamentals inherent to bitcoin itself, and rather seems to be attributable to the macro backdrop at large.
Bitcoin Suffers One of its Biggest Drawdowns in History
Since hitting an all-time high of $69K in November, Bitcoin has suffered from one of its biggest drawdowns, a peak to trough decline, since its creation. The 52.3% decline from the peak thus far ranks 6th in bitcoin’s history. This is a strikingly similar decrease and duration as the drawdown exhibited over the spring of 2021, with the caveat that this drawdown could continue to grow larger. Bitcoin’s largest three drawdowns were also its longest, coinciding with the end of cyclical price rises.
Market Rout Has Not Been Accompanied by Market Panic
While the recent market sell-off has certainly been painful for bitcoin holders, it has differed from historical drawdowns in the level of panic shown by investors. Strangely, apart from the price decreases, there are few signs of other market disturbances that usually accompany such a move. It does not appear, for one, that there have been significant deleveraging or liquidations like those we have seen historically in bitcoin markets, and open interest on futures contracts has remained steady. This has been reflected in the painful but relatively orderly sell-off seen in the last few weeks.
Second, although prices have been decreasing, they have been doing so amid relatively low price volatility for bitcoin, and as a result, options markets are still pricing in relatively low levels of risk in the market. Although implied and realized volatility crept up last Friday, levels are still much lower than we saw in much of 2021. This again shows the orderly nature of the sale; the sell-off last spring, for example, was accompanied by much higher volatility levels. In a similar vein, we have not seen drastically increased futures, options, or spot volumes across measured exchanges.
On-Chain Valuation Ratios Show a Retracement back to Summer 2021 Levels
Market Cap to Realized Value (MVRV), the ratio of bitcoin’s current market cap to its market cap that values each coin at the price the last time it moved, is a valuation measure best used to determine cyclical highs and lows. This current ratio of 1.5x, while not at the lowest points of bitcoin’s cyclical drawdowns, is back to the level we saw last summer. Cycle lows have typically occurred at MVRV ratios under 1.0x, which equates to about $24,000 today.
Long-Held Coins Have Not Moved
By looking at the age of spent transaction outputs, the duration that coins that are moving on-chain had been held, we can get a sense of investor behavior during the sell-off. Data shows that only a small percentage of coins that are moving across the chain have been held for more than a year. This tells us that long-term holders have largely stayed put and that the movement of coins, perhaps to exchanges to be sold, has been executed by short-term holders.
Upcoming Catalyst – FOMC Rate Announcement
With bitcoin struggling amidst a tough backdrop for risk assets, investors have been asking about potential catalysts on the horizon that could change the trajectory for the asset. With few industry events on the calendar until the spring conference circuit begins and no major technical upgrades expected in the short term, we turn to traditional markets for potential catalysts. Bitcoin is increasingly owned and traded by institutional investors that look to economic data to inform their investment decisions. Looking at bitcoin’s average returns on days the FOMC has announced interest rates decisions before and after 2020 paints a stark picture – bitcoin has increasingly responded favorably to monetary news. With information from the FOMC coming on Wednesday afternoon, perhaps this is the motivation needed to change bitcoin’s short-term course. Possibly the Fed comes with a more dovish-than-expected tone amidst stock market difficulties and a fast-spreading Omicron variant. Even if not, the sell-off heading into the meeting may mean a relief rally if the Fed is within expectations. Of course, we will have to wait until 2 pm ET on Wednesday to find out.
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