Bonds Shine as Bitcoin and S&P 500 Brace for Quarterly Losses
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Bonds Shine as Bitcoin and S&P 500 Brace for Quarterly Losses
Market Insights
September 28, 2023

Bonds Shine as Bitcoin and S&P 500 Brace for Quarterly Losses

Bitcoin and the S&P 500 are on a trajectory to finish the third quarter with losses.

At the time of writing, Bitcoin, the leading cryptocurrency, experienced a 14% decrease in its value, trading at $26,100 for the quarter, with projections suggesting continued losses through September 30. In the midst of fluctuating market conditions, the S&P 500, representing a benchmark for global risk assets, inclusive of cryptocurrencies, is anticipated to conclude the third quarter with noticeable losses, reflecting broader market sentiments and shifts. The S&P 500 marked almost a 3% loss for the third quarter, closing at $4,320.05 on Friday.

Equity Risk Premium at its Lowest

The equity risk premium, a critical indicator showing the difference between the earnings yield of the S&P 500 and the yield on the U.S. 10-year Treasury note, plummeted to -0.58, its nadir since 2009. Historically, since 2008, this spread has averaged around 3.5 points. The lower equity risk premium signals dwindling allure for stocks and other risk-associated assets, with investors finding solace in government bonds, renowned for their safety, offering comparatively higher returns.

Government bonds are perceived as virtually risk-free, being obligations of the U.S. government, which has a robust record of never defaulting on its debts. Therefore, the 10-year yield is often seen as a benchmark risk-free rate, against which returns from other assets are gauged.

Ripple Effect on Bitcoin

This scenario also spells reduced incentives to invest in Bitcoin. Proponents of cryptocurrency see Bitcoin as a haven asset, a sort of digital gold. Historically, however, Bitcoin has predominantly acted as a pure liquidity play, frequently serving as a precursor to stock movements.

Alex McFarlane, co-founder of Keyring Network, elaborates that Bitcoin, being a non-yield bearing, risk-on asset, is susceptible to adverse effects due to portfolio rebalancing amid a high USD risk-free rate. He emphasised that the legitimacy of treating Bitcoin as an essential portfolio component is contingent on it offering a risk-free rate – a feature it inherently lacks.

Shifting Investment Landscape

The prevalent trends in investment landscapes hint at a waning interest in risk assets. The disparity between the S&P 500's dividend yield and the 10-year Treasury yield portrays an analogous situation, with the spread descending to -2.87, the lowest since July 2007. The investment pendulum seems to be swinging back towards bonds, impacting both conventional risk assets like the S&P 500 and unconventional ones like Bitcoin.

To put it succinctly, the shift in investment attractiveness from risk-bearing assets like stocks and Bitcoin to more stable, risk-free assets like bonds is influencing investor decisions, reshaping values, and potentially redrawing the financial landscape. The ensuing times will reveal how enduring this shift is and what ramifications it will have on diverse asset classes in the global financial market.

Digital Assets Face Setback amid Federal Reserve’s Indicated Rate Hike

Digital assets experienced a tentative sell-off this week, following indications from the Federal Reserve that another rate hike might occur this year, even though interest rates were maintained on Wednesday.

The Central Bank's released projections anticipate median rates rising to 5.6% by the end of the year, a notable increase from the current 5.25% to 5.5% range. The proposal for this hike witnessed support from twelve Federal Reserve officials, while nine opposed it. Jerome Powell, Fed chair, emphasized the need for more progress and convincing evidence that the appropriate level has been reached before concluding on rate alterations.

This development led to significant repercussions in the digital asset market, with CoinMarketCap data revealing a $30 billion reduction in the combined capitalization of crypto assets. This places the value at $1.05 trillion after a 3% retracement. Specifically, Bitcoin and Ethereum, leading cryptocurrencies, dropped 2.5% and 3% respectively, although they regained 1% in the subsequent 24 hours.

Impact on Cryptocurrency Options

The close of September aligns with the expiration of substantial quantities of cryptocurrency options, amounting to $3 billion in Bitcoin options and $1.8 billion in Ether contracts. Luuk Strijers, Chief Commercial Officer at Deribit, a crypto options exchange, noted that such quarterly contracts are significant in volume and value, with institutions representing approximately 85% of the activity. However, Strijers is not anticipating strong market movements in the upcoming week due to the current stance of market participants.

Ethereum Experiences Reduced On-chain Activity

Ethereum's on-chain activity in September has been the lowest this year, with more than 13,000 ETH ($21M) being added to the Ether supply since the month began. This implies that Ethereum’s burn mechanism hasn’t managed to offset the new ETH entering the supply, attributed to rewards for validators and the slump in activity. This slump is related to a decline in the NFT market and decreased interest in memecoins.

Conversely, this decrease in on-chain activity also occurs simultaneously with Layer 2 transaction throughput reaching new peaks several times in recent weeks. Data from September 14 indicates Ethereum's Layer 2 ecosystem managed to process an average of 64.2 transactions per second (TPS), a significant rise compared to 12.4 TPS on the Ethereum mainnet.

Conclusion

The digital assets market is undergoing considerable adjustments, with a tentative sell-off triggered by the Federal Reserve's indication of a possible rate hike. Cryptocurrencies are witnessing fluctuations, and the market is adjusting to the changes in interest rates and the expiry of substantial cryptocurrency options. Ethereum is experiencing a low in on-chain activity, contrasting with the high throughput in Layer 2 transactions. Market participants are closely monitoring these developments as they navigate the evolving landscape of digital assets.

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