If Bitcoin was supposed to be the inflation hedge, why is it falling?


Bitcoin held the key $42,000 level last month. Last year, analysts claimed $100,000 and more. It had become one of the most favored asset classes since the Covid-induced lows in March 2020. Today, Bitcoin is down about 50%+ from its highs reached last November, and after holding the key $42,000 level for weeks now has broken down and is down 7% as European markets open.

The new breed of budding portfolio managers who claim to have true alpha because they’ve made money on nearly every stock in the last year, even bankrupt ones, are scratching their heads wondering why the “buy the dip” no longer works for them. Lacking real risk management principles, what they also may not realize is that by simply holding on to their long positions, the price Bitcoin would have to reach for them to break through profitability increases much more. We would have to rally 200% for them to come back flat!

If one is debt-free and can hold onto and look at past years of negative returns, this may be acceptable, but most Bitcoin holders are highly leveraged and “hope” to make some quick money . Even though Bitcoin has been touted as a “decorrelated” asset class to retail and institutions, it is true that it once was. But as more and more hedge funds adopt it in their portfolios, it becomes correlated. Sod’s law.

One of the strongest arguments for Bitcoin was that it would be the perfect inflation hedge. Consumer price inflation is averaging around 7% year-over-year in December, we can’t get inflation higher than that (or can we?), yet Bitcoin collapsed in the last three months! Something is wrong. The rising fundamental story of Bitcoin is based on a cycle that halves the supply of Bitcoins every four years and based on its on-chain metrics and adoption. It’s a powerful fundamental case, but when the Fed printed $4.5 trillion in a few months, the fundamentals disappeared because all that mattered was liquidity.

The bubble of everything

Too much money lying around with too few assets to invest in means everything is going up – the “everything bubble”. As inflation becomes anything but ‘transient’, global central banks have emptied that same bar of liquidity and the Fed has been continuously buying Treasury assets until today! They’re buying up to $90 billion in assets every month and the S&P 500 is down 7%, one wonders if they should stop buying anything or start selling assets? It was this overall increase in money supply from the Fed that exacerbated any basically decent story and made markets parabolic last year.

The market and leveraged assets have been like opioid addicts addicted to Fed QE money printing. But the Fed’s hands are now tied as it is unable to print more and buy assets as inflation is seriously out of control, levels not seen since the 80s. All they can do, and that’s what they always do is wait and hope the prices go down, giving them room to print more if needed. Had they played a preventative role, they would have started to normalize their balance sheet last year when global economies rebounded strongly from the Covid-induced lockdowns. Today, they are unable to raise rates, let alone raise them aggressively and consistently. If they do, the market starts to crash and they have to change their policy. Bond and rate markets have been signaling signs of distress for months. It looks like they are trying to test the Fed’s resolve to see when they blink.

Last year, when gold underperformed Bitcoin, everyone got tired of it. Today, gold is holding its level and is outperforming massively relatively, even if it is stable on absolute levels. Sometimes it’s not just about absolute performance, capital preservation is just as important. Traders threw in the towel on the narrative that gold was a hedge against inflation, instead insisting that Bitcoin had taken its place as the new “digital gold,” a true store of value. Well, no store of value trades 7% in a day, or drops 50% in a few months! As hedge funds lose in funds like (ARKW) and (ARKK), their other holdings are also affected – classic deleveraging 101. Fundamentals go, but then again, when were they even on the table in the first place? .

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