That bear case scenario is entirely plausible as the Federal Reserve tightens monetary policy, says Barry Bannister, chief equity strategist at Stifel.
“When the Fed is tight, Bitcoin isn’t the best place to be,” he told באַראָן ס. “Due to Fed over-tightening, Bitcoin will fall as low as $10,000,” he predicted. He expects the world’s largest cryptocurrency to fall that low in 2023.
A major reason for that outlook is Bitcoin’s close correlation to Federal Reserve monetary policy, bond yields, and gold—all connected in different ways.
Bitcoin, as he sees it, is a “high-powered way to play Fed money losing or gaining value.” History shows that when Fed monetary policies are dovish—including lower interest rates and rising M2 Money Supply—Bitcoin does phenomenally well. When Fed policy has reversed, with money supply tightening, Bitcoin has stalled or tanked.
The pattern has played out, on and off, since 2012, Bannister points out, with Bitcoin responding to changes in Fed policies. Bitcoin got crushed in 2018 as the Fed raised rates, for instance. Bitcoin then surged in 2020, after bottoming in March of that year, as the Fed slashed rates and pumped trillions of dollars into financial markets as emergency measures in response to the pandemic.
The outlook now is for higher rates and a potential contraction or slowing increase in the money supply. That has consequences for Bitcoin and gold since higher rates increase the appeal of bank deposits, bonds, and other dollar-denominated assets. Bitcoin and gold, by contrast, are competing forms of money that don’t pay dividends or interest. Consequently, they tend to suffer during periods of rising rates and tighter liquidity.
“The Fed is saying, we aren’t going to give you free money forever,” Bannister says. “That may have a marginal effect this year, but in 2023 the Fed will probably go too far and Bitcoin will get crushed,” he says.
The Fed is likely to increase rates five times this year, according to Wall Street forecasts, and could raise rates up to seven times if inflation proves more persistent than now anticipated.
One warning sign for Bitcoin could be in the bond market—specifically the spread between 10-year Treasury yields and two-year yields. That spread has been flattening this year. And if it inverts—with 2-year yields topping 10-year—it could be a warning sign for a recession around nine months in the future. An even starker warning would be an inversion between three-month and 10-year Treasury yields, Bannister says, though for now, that yield curve is relatively steep.
A bear market in Bitcoin due to excessively tight monetary policy isn’t imminent. The Fed is under pressure to raise rates just enough to tame inflation, without going too far and causing a recession. It’s also a midterm election year, which could complicate policy decisions as Fed Chair Jerome Powell comes under pressure to keep the economy robust. There is also uncertainty around the pandemic and geopolitical risks like a Russian invasion of Ukraine.
Still, Bannister notes the Fed tends to overshoot. “The Fed has a history of tightening until the straw breaks the camel’s back,” he says. “They probe until they tighten too much, the market cracks, and you end up with a bear market, that’s their history.”
Bitcoin, he points out, wouldn’t be the only asset to tumble in 2023. The
ד & פּ 500
would also fall into a bear market and gold would slump.
“The markets are now saying that clouds are coming but we won’t have rain until 2023,” he says. “But the music is dying down, it’s late at night, and people are adjusting for the Fed’s exit.”
Bitcoin and equities have both been rallying lately, shaking off a rise in bond yields. But if the spread between two and 10-year yields continues to narrow, the relief rally could quickly fizzle.
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