On Thursday last week, Ethereum completed the biggest software upgrade in the cryptocurrency’s history, as the merger finally happened. Everything went off without a hitch, exactly as written.
In the following week, Ethereum lost 12% of its value.
Jerome Powell moves the market
It just goes to show that even an event as big as the meltdown is not enough to overcome what really controls the markets: the macro situation. And by macro situation I mean how Jerome Powell and the Fed react.
The Fed announced a further 75 basis point interest rate hike, driven largely by last week’s disappointing inflation reading. The message to the market is now very clear: interest rate hikes will continue intensely and rapidly until inflation is under control.
And if there was any doubt before, there is no doubt now: cryptocurrencies will follow these interest rate hikes.
Why do interest rates control cryptocurrency prices?
Cryptocurrencies remain about as risky as it gets. The further one moves away from the risk spectrum, the more volatile the movements are, both up and down.
The Fed’s rate hikes make borrowing and investing more expensive, which serves to pull money out of the economy. This slows inflation while threatening a recession, which is the tightrope the Fed is trying to walk.
Stocks have fallen in response to this, particularly high-growth and technology stocks, whose cash flows in the future are traditionally more heavily discounted. If these discount rates go up, the value of companies is lower today, so the stock price goes down.
In the case of cryptocurrencies, despite the many stories about hedging against inflation, it is not there yet. The correlation between the stock market and cryptocurrencies is exorbitant, and both have moved in tandem.
What does the future hold?
I have written a lot about this recently. While I believe in Bitcoin in the long term, there is no getting away from the fact that in the short term price movements are macro-economically driven.
Personally, I am very negative on the direction of the economy and think it could be a really ugly winter. If this forecast comes true, bitcoin will follow the rest of the market lower.
In a crisis, correlations go to a set because there is a flight to quality at all levels. Investors sell risky assets and go to safe havens. This is part of the reason why the dollar is so strong, as it is considered the safest of all safe haven assets.
This is a trend we have seen time and time again in previous recessionary periods. For cryptocurrencies, this is the first macroeconomic downturn they have experienced in their short history. And right now, even with positive developments like the meltdown, broader movements in the economy are all that matter for cryptocurrency price movements.
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