Crypto meltdown rings alarm bells

The drivers of the implosion of the values ​​of risky assets that began in the cryptocurrency market last November are obvious. It is the bursting of inflation in the highs of the last 40 years and the inevitable, albeit belated, response of the Federal Reserve Board in the form of higher interest rates and reduced liquidity.

The implications for changing monetary policy for conventional assets are obvious. When the risk-free rate – the 10-year bond rate used to discount future corporate cash flows – increases, the net present values ​​of those cash flows decrease.

Stock markets are also falling as investors face a series of headwinds, but the slowdown in cryptocurrencies began earlier.Credit:Bloomberg

Cryptographic assets generally have no cash flows, so the destruction of value that presumably occurs is related to the impact of external configuration on investor psychology and the growing risk aversion that has developed since late last year.

In general, declining liquidity in financial systems may also be playing a role as leveraged investors seek to cash in or charge to meet commitments elsewhere.

Interestingly, the slowdown in the crypto market began shortly before the wider sale of riskier stocks. The “integration” of crypto last year attracted institutional money and a wider use of sophisticated trading strategies, including the use of leverage and derivatives.


The exodus of these relatively new investments, and the relaxation of their positions, may be another aspect in explaining the violence of movements in the value of cryptographic assets.

The collapse of the crypts is already causing casualties.

The algorithmic stable currency TerraUSD, which is supposed to use financial engineering to perfectly match its value to the US dollar, has fallen below 70 cents this week after experiencing something akin to a “correction”.

Coincidentally, the Federal Reserve warned on Monday in its latest financial stability report that stable currencies were vulnerable to exchange rates because they were backed by assets that could lose value or become illiquid during periods of stress.

He noted that stable currencies are increasingly being used to meet margin requirements for leveraged trading in other cryptocurrencies, which could amplify volatility and increase rescue risks.

The dominant stable currency, Tether, has so far remained at $ 1 or a fraction below.

Not only are cryptographic assets shattered.

The largest cryptocurrency exchange in the United States, Coinbase, was listed on the Nasdaq Stock Exchange last year. Its stock price hit a high of $ 357 last November. It is now about $ 73.

This week it announced a $ 430 million loss after a 35 percent drop in revenue. He cited falling cryptocurrency prices and rising volatility for a 44 percent drop in trading volumes, a decline that gives an idea of ​​the extent to which cryptocurrency investors are fleeing the market.

Their extraordinary volatility also makes them virtually useless for the purposes originally intended for cryptocurrencies, means of exchange, and an alternative to fiat currencies.

That exodus creates a form of network effects. When the crypto market was booming last year it attracted investors. That increase in demand has pushed up prices and increased liquidity in asset markets.

The November implosion left investors facing massive losses and caused a reversal of those network effects. That explains why the declines in value were so precipitous.

True believers in cryptography will say they have seen this before. Bitcoin, for example, has been trading at just $ 5,000 for just three years. What falls may eventually be triggered, given the seemingly leveraged cryptographic assets for macro configuration.


The immersion of their appraisers has dispelled any idea that they are not correlated with other risky assets and therefore provide diversification. They don’t: they provide more focused and leveraged exposure to the risk environment, which is great in a “risk” environment but disastrous when investors ’risk appetite materially diminishes.

Whatever may happen in the future – there are many interesting and potentially important ideas that are being developed in the cryptographic space – at the moment they are active for speculation rather than for investment.

Their extraordinary volatility also makes them virtually useless for the purposes originally intended for cryptocurrencies, means of exchange, and an alternative to fiat currencies.

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