On Sept. 20, the Federal Reserve delivered a message that reverberated through financial markets: interest rates are expected to remain at their highest level in over two decades, and possibly for longer than most market participants’ expectations. This attitude comes against the backdrop of stubbornly high inflation, with the core inflation rate hovering at 4.2%, well above the central bank’s 2% target, and unemployment at record lows.
As investors grapple with this new reality, a pressing question arises: Will the S&P 500 and Bitcoin (BTC) continue to underperform in the face of a tighter monetary policy?
The impact of the Fed’s decision was swift and severe. The S&P 500 plunged to its lowest level in 110 days, signaling growing unease among investors.
S&P 500 index (blue, right) vs. U.S. 10-year Treasury yield (orange, left)
Notably, the 10-year Treasury yield surged to levels not seen since October 2007. This movement reflects the market’s belief that rates will continue to climb, or, at the very least, that inflation will eventually catch up with the current 4.55% yield. In either case, anxiety is mounting over the Fed’s ability to sustain these elevated interest rates without destabilizing the economy.
Bitcoin does not necessarily follow traditional markets
One intriguing development amidst this financial turbulence is the apparent disconnect between the S&P 500 and cryptocurrencies, particularly Bitcoin. Over the past five months, the 30-day correlation between the two assets presented no clear trend.
30-day rolling correlation: S&P 500 futures vs. Bitcoin/USD. Source: TradingView
Such divergence suggests that either Bitcoin has anticipated the stock market correction, or external factors are at play. One plausible explanation for this decoupling is the hype surrounding the possible introduction of a spot Bitcoin ETF and regulatory concerns that have hindered the upside potential of cryptocurrencies. Meanwhile, the S&P 500 has benefited from robust 2nd-quarter earnings reports, though it’s essential to remember that those numbers reflect the situation from 3 months prior.
As the Fed holds firm on its commitment to high-interest rates, the financial landscape is entering uncharted territory. While some may interpret the central bank’s stance as necessary to combat inflationary pressures, others worry that keeping rates elevated could burden families and businesses, particularly as existing loans come due and must be refinanced at significantly higher rates.
A decoupling could favor Bitcoin price
Several factors could lead to the decoupling of cryptocurrencies from traditional markets, such as the S&P 500. If the government encounters difficulties in issuing longer-term debt, it can raise concerns. The failure to issue long-term bonds may indicate fiscal instability, which incentivizes investors to seek hedges against potential economic downturns. In such cases, alternative assets like gold and Bitcoin might become attractive options.
Even with a strong dollar, inflation can force the U.S Treasury to raise the debt limit which leads to currency devaluation over time. This risk remains relevant as investors seek to safeguard their wealth in assets less susceptible to inflation.
Furthermore, the state of the housing market plays a pivotal role. Should the housing market continue to deteriorate, it could negatively impact the broader economy and the S&P 500. The housing market’s interconnectedness with the banking sector and the potential for consumer credit deterioration could trigger a flight to assets with scarcity and hedging capabilities.
There’s also the potential for political instability, globally or even during the U.S. elections in 2024. This could introduce uncertainty and impact financial markets. In some countries there is a growing fear of capital controls and historical instances of international financial embargoes highlight the risk of governments imposing such controls, further driving investors towards cryptocurrencies.
Ultimately, unlike traditional stocks and bonds, cryptocurrencies are not tethered to corporate earnings, growth or yield above inflation. Instead, they march to their own drumbeat, influenced by factors like regulatory changes, resilience to attacks, and predictable monetary policy. Thus, Bitcoin could vastly outperform the S&P 500 without the need of any of the scenarios discussed above.
This article is for general information purposes and is not intended to be and should not be taken as legal or investment advice. The views, thoughts, and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.
