climbed almost 25% in July, but investors are unlikely to see a repeat of those gains in August. Digital assets continue to trade sideways, and Bitcoin—the largest crypto—can’t seem to break out of the $20,000 to $24,000 range.
With Bitcoin still trading at less than one-third of its all-time high near $69,000, reached in November 2021, optimistic cryptocurrency holders are likely to continue hoping for something that will drive token prices higher. There are at least five trends that investors should be watching, according to Sheena Shah and Kinji Steimetz, analysts at Morgan Stanley.
One trend, the crypto equivalent of quantitative tightening, is the falling availability of stablecoins like Tether’s
the analysts wrote in a note Friday. Stablecoins stand at the heart of the crypto world, forming the foundations of trading and lending activities, and their availability is a key sign of both liquidity in crypto and demand for leverage, or money borrowed to trade.
Changes in the market capitalization of stablecoins—a measure of the amount in circulation since each coin is meant to be worth a dollar—could be a leading indicator of Bitcoin prices, according to Shah and Steimetz. In June, Tether’s market cap fell 20% in about a month, while Bitcoin fell 45% over the same period to below $30,000.
“This week marked the first time since April that stablecoin market capitalization has stopped falling on a monthly basis,” the Morgan Stanley analysts said. “This may be a sign that the extreme institutional deleveraging appears to have paused for now.”
A widespread halt to deleveraging in crypto could signal that the worst of the recent market turmoil is over, paving the way for institutions and other influential traders to turn bullish on Bitcoin again.
That is why changes in demand for leverage in crypto, similarly indicated by the market cap of stablecoins, is the second trend to keep an eye on. If demand for leverage in crypto rises, prompting people to move dollars into stablecoins, the market caps of stablecoins would likely rise. That could mark a bullish turn because leverage exacerbates prices swings and raises the prospect that gains from solid rallies would be juiced up.
However, “there doesn’t seem to be huge demand to re-leverage in the crypto world at this moment: decentralised finance (DeFi) platform lending is still down 70% this year,” wrote Shah and Steimetz. “In our opinion, it will be hard for this crypto cycle to bottom without fiat leverage growing or crypto leverage growing.”
The third trend to watch is stablecoins’ market caps relative to one another, specifically swings in the relationship between the amount of issued USDT and USDC, the most influential stablecoins pegged to the U.S. dollar and the third- and fourth-largest digital tokens.
Typically, the market caps of USDT and USDC move in opposite directions—i.e. traders seem to generally rotate out of one and into another—and Morgan Stanley sees a link between periods when USDC total value is growing and later gains in Bitcoin prices.
“The general trends in USDC market capitalization growth appear to lead growth of Bitcoin’s price about two months later,” the Morgan Stanley team said, noting that “of course we cannot use this as a trading signal as the historical relationship is volatile, has outliers (Bitcoin rally in June) and not a long history.”
Nevertheless, it is a compelling flag. Tether’s market cap fell by $9 billion over the course of a week in early May, to $74 billion from $83 billion, while USDC’s market cap jumped to $52 billion from $48 billion over the same period. Two months later—July—saw Bitcoin notch its best month all year.
Now, this trend looks to be reversing course, with USDC’s circulation now down almost $4 billion from its July peak while issuance of USDT has been growing. If the pattern holds, that could be negative for Bitcoin.
Ultimately, however, the macroeconomic picture is what matters, according to Morgan Stanley. While Bitcoin and its peers should, in theory, be uncorrelated to mainstream finance, they have shown to be largely linked to other risk-sensitive bets, like tech stocks. A lot of the gains for tech stocks, and crypto, in recent years can be put at the feet of loose central-bank policy that has injected liquidity into global markets.
“Since 2013, Bitcoin’s market capitalization growth has generally tracked the growth of global fiat M2 money supply. When central banks eased and injected liquidity, that liquidity ended up in risk assets, including crypto,” the analysts said. “We expect [Bitcoin’s] correlation with the equity markets to remain high.”
Expectations of future money supply growth, which is a function of the size of the Federal Reserve’s balance sheet and interest rates, are likely to be the most dominant force on Bitcoin prices, according to Morgan Stanley.
“Near term crypto markets therefore will place most trading focus on inflation expectations and market pricing for rate hikes,” said Shah and Steimetz.
The central bank has tightened monetary policy aggressively and raised interest rates as it battles the highest inflation in four decades—a pathway it isn’t expected to veer from until 2023 at the earliest. That is why inflation and the Fed’s monetary policy plans are the fourth and fifth factors investors should watch for Bitcoin’s next move.
The coming days could bring more clarity for the market.
The Fed’s preferred measure of inflation is due Friday in the form of July’s core personal-consumption expenditures index. Also on Friday, Fed Chair Jerome Powell is due to speak at the Jackson Hole economic conference, which is likely to be key for clarifying investors’ expectations around Fed policy.
These events will no doubt be one of the most important short-term catalysts for crypto in the week ahead, to say nothing of expectations for inflation and rates in the months to come. Just as in stocks, crypto investors can’t fight the Fed.
Write to Jack Denton at firstname.lastname@example.org
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