VegaX Flash News Report: January 2022
VegaX highlights current economic dynamics that are driving market movements globally. Learn more about what is happening in currently in the economy, how that affects the market, and what that means for Bitcoin and the crypto market. This edition covers January 2022. This is also available in Korean, please click here.
January 2022: What is happening in the economy?
The FOMC (Federal Open Market Committee) in the United States meets eight times every year to discuss future interest rate policy changes and what will happen to the economy in the year ahead. One such meeting was held in the middle of December 2021, the minutes to which were made public later in January 2022.
The Federal Reserve Chair Jerome Powell announced that he finds the economy in a significantly stronger position and with higher inflation than anticipated, therefore the FOMC will double down on its reduction of monthly purchases of US Treasury Securities(also known as Tapering) to $20 billion each month.
Following the taper, The Fed will finally stop adding to its balance sheet by March 2022, this was estimated to happen at a much later time of mid-2022.
What came as a shock to investors in the US, as well as globally, is the Fed’s decision to reduce holdings of treasuries and mortgage-backed securities as early as in the next few months. The news sent financial markets toppling down furiously. The S&P 500 is down 7% from the holiday season rally, digital assets are no exception, and have been bleeding vigorously for the past few months. This begs the question:
Why do prices of assets go down when investors are worried about inflation?
When investors buy bonds, they lend their money to the government for some duration of time. Once the bond matures, they get their money back, along with some interest. It is this interest rate that affects the investor’s psychology.
Let’s discuss how
As the Fed starts to unload its balance sheets of assets it had been purchasing, it does so by selling bonds. Bonds are an extremely important financial instrument in the economy. Even though you may not own any bonds these days, they are a means of taking liquidity on and off markets.
The rapid selling of bonds by the Fed causes the bond rates to fall, its inverse relationship with interest rates causes the interest rate to rise. This is how rates are controlled in the economy — by buying and selling assets in the Federal reserve’s portfolio. The ten-year treasury yield went up to 1.7% after the above-mentioned announcement, similar activity can be observed in financial markets around the globe.
How does all of this cause prices of assets like bitcoin to go down with interest rates and worries of inflation going up?
An investor, at any point in time, has two options when they decide to invest their money in the market:
- Do I play safe and buy government bonds?
- Or do I invest in comparatively speculative assets like stocks or digital assets to beat the market?
When the price of bonds falls, causing the interest rates to rise, it makes them a better investment avenue than many assets in the market. In such situations, investor psychology shifts from risk-on to risk-off. Digital assets are believed to be a comparatively riskier asset class than stocks, therefore they are among the first ones to fall prey to such economic shifts.
Why the digital assets market may be significantly undervalued today
In the past few weeks, the digital assets market has witnessed a sharp reaction to the government’s economic policies resulting in prices spiraling out of control. Upon closer investigation, it is evident quite clearly that the situation may not be as severe as the masses believe it to be. Following is some technical information that hints towards digital assets being quite undervalued.
Jump to this tweet if you wish to know more about the impacts of the FOMC meeting on digital assets.
Bitcoin hash rate is at an all-time high
The Bitcoin network mining hash rate is an indicator that measures the total amount of computing power deployed to keep the blockchain running. The last time this metric set a new record was back in April 2020, after which it crashed as a result of the miner exodus from China. The hash rate is setting records again, which means the Bitcoin network is more decentralized and secure than it has ever been in history. Therefore, this on-chain indicator may be signaling a bullish price action for BTC.
Delayed price reaction to the halving cycle
Every four years roughly, or when every 210 blocks are mined in the Bitcoin network, the reward that is paid to the miners for committing hash power to validate transactions in the network gets slashed in half. This will continue until the reward goes to zero. The latest halving happened on May 11, 2020.
The halving cycles have seen relation to price tops and bottoms. In the genesis cycle, it took 367 days for the price of bitcoin to reach an ATH. The price took 527 days in the next cycle, 44% more than the previous cycle. If this trend were to continue, it would take the current cycle 758 days to hit another all-time high, timing it to June 2022. It is evident that there is plenty of potential left in the market.
The market is quite leveraged
The futures open interest in bitcoin has stayed elevated in January. When there is an elevated level of open interest in the market, it signifies that the market is highly leveraged. When the price of the underlying moves sharply, these leveraged positions tend to get liquidated, causing a cascading effect of more squared-off spot positions and liquidated leveraged positions.
The recent downtrend of BTC may be a by-product of this liquidation in effect. This is nothing but a short-term technical hurdle that is inflicting fear in the market and depreciating the value of digital assets more than their actual fundamental value.
Put together, these indicators provide solid proof that even though bitcoin is bleeding in the short term, this is nothing but a correction in a bull cycle. There is a lot of value locked into the Bitcoin network which will realize its effects with time. Strong hands that are able to withstand the headwinds of the market will watch their patience pay off.
Now that bitcoin has been covered extensively, let us talk about DeFi.
TVL locked in DeFi
The Total Value Locked marks all the investor funds that have been locked in various smart contracts that make up the Decentralized Finance(DeFi) market. DeFi TVL is a clear indication of the broad market sentiment and network value.
The graph above shows how resilient the TVL has been in the past few months, staying near all-time highs, despite prices of digital assets correcting sharply. This is a clear indication of a healthy market.
Altcoin season index
The altcoin season refers to a market cycle where the top crypto assets out-perform the price action of bitcoin and the US dollar. During an altcoin season in full swing, bitcoin tends to lose dominance as the rate of increase of market capitalization of Defi is more than the rate of price appreciation of BTC.
The Altcoin season index is a unique indicator provided by The Blockchain Center, which measures the strength of altcoins in contrast to BTC. The index shown above is at a neutral position at the moment, despite altcoins losing significant value in the market. This signifies that the rate of bleeding in the altcoin market is healthier than that of the bitcoin market.
Bitcoin dominance is a simple tool that measures the ratio of the market capitalization of bitcoin to that of the rest of the digital assets market. The relationship between these variables tells in what direction the investor’s funds are moving.
The chart signifies evidently that DeFi, which makes up a significant portion of the digital assets market when bitcoin is excluded, has attracted a lot of attention. This also tells us that the DeFi market is bleeding significantly less than bitcoin.
The economy worldwide is going through a transitory phase between the pandemic and the post-pandemic era. This transition has led the governments to take measures to fight the growing inflation caused by the astronomical amount of money that was injected into the economy to keep its gears turning.
The digital assets industry has witnessed the strongest shockwaves of inflation worldwide, but the metrics on-chain present a clear-cut picture of how resilient the believers of this technology are, these are the ones who will reap the benefits of riding these short-term fluctuations, when the digital assets markets start to heal.
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