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An FOMC meeting to close out the year is certainly fitting for 2022; digital asset market participants look forward to 2023 after a historically tough year for risk assets.
Key Takeaways
- Last week’s rally fizzled after a better-than-expected CPI report and the Fed’s December meeting; bitcoin and ether declined 2.1% and 6.5% respectively, while the S&P 500 fell 2.1% as well
- While the Fed’s 50 basis point rate hike brings an upper bound of 4.5%, a higher projection for next year startled risk assets, despite bond markets not taking the bait
- We recap the macro and crypto storms that occurred this year and highlight the resilient growth in active users of both bitcoin and Ethereum
Last week’s focus on both CPI and the Federal Reserve’s December meeting was certainly fitting to close out a year dominated by inflation uncertainty and the Federal Reserve’s process of normalization.
While the November CPI report came in better than expected and the FOMC hiked the market’s estimate of 50 basis points, the focus remained on the “higher for longer” narrative the Fed has put in place in recent months.
Particularly, the median projection of policy rates, or the “dots”, moved up from 4.6% to now 5.1% by the end of 2023. This signal by the Fed has again tried to curb the idea of the “Fed pivot”, despite the market’s estimates for cuts next year.
This “news”, alongside the usual concerns over the potential for a hard landing, led to a pullback from the weekly highs. Bitcoin, after reaching a high of $18,365 on Wednesday closed at $16,753 by the end of the week, while ether closed at $1,182 from a high of $1,350. The S&P 500 rolled over from 4,100 to close at 3,852.
Interestingly, market pricing did not react to the Fed’s “updated” projections (the dots are published quarterly and compare to the Sep 21st meeting). Fed Fund futures still place a 4.5% expectation for the end of 2023, indicating around two cuts. This has remained relatively the same since mid-September.
But whether the Fed reaches this 5.25% upper bound projection or meets the market-based estimate of 5.0%, a current 4.5% level means there may be very few hikes left in the tank. The next conversation will be a matter of how long the Fed can stay at this terminal rate before cutting.
As we head into the turn of the year, 2022 is certainly one that many are glad is now behind us.
Some major events that have occurred this year, explaining much (if not all) of the digital asset decline:
- The Fed tightened at its fastest pace since 1980, hiking interest rates by a magnitude of 4.25%
- Treasury yields nearly tripled and have now doubled in just twelve months (10yr from ~1.5% to ~3.5% with a high of ~4.24% / 2yr from 0.76% to 4.18% with a high of 4.7%)
- Barclay’s Agg is having its worst year on record, down 11%
- The S&P 500 had its fourth worst YTD performance by the end of Q3, and many growth companies in the Nasdaq have declined over 50%
- The DXY Index gained as much as 19.3% from the start of the year and is still up over 9%
- Two large crypto hedge funds liquidated, a top smart contract platform and stablecoin failed, three major savings/landings firms collapsed, and the second-largest crypto exchange might have been fraudulent for many years
Now, bitcoin is headed for its third-ever annual decline, alongside 2014 and 2018. Similarly, skepticism has risen, and questions of viability have returned.
But similar to cycles in the past, bitcoin and ether stick around, awareness rises, and ultimately, adoption continues because of the underlying technologies. Following each past drawdown, bitcoin and ether rise from the ashes in the face of uncertainty.
We look forward to providing commentary throughout 2023 and hope we’ve helped our readers navigate this historically difficult market environment. On page two, we discuss continued activity on bitcoin and ether and highlight annual returns after down years – patience is often rewarded.
We wish our readers a safe and happy holiday season.
Continued Activity Despite Price Weakness
We often discuss that underlying fundamentals have improved despite another crypto drawdown, highlighting indicators such as holding trends, transfer volume, and Ethereum’s improved Tokenomics.
When considering daily active addresses using both bitcoin and Ethereum, we can see resilient activity taking place despite the bear market in price.
In fact, while bitcoin is down 63.8% YTD, active addresses are down just 4.5% when compared to Q4 2021. Active Ethereum addresses, which we often note is more cyclical due to most of the use in DeFi, NFTs, gaming, and services, are down just 19.1% year-to-date compared to 67.9% decline in price.
This simple indication of daily active addresses highlights the continued growth of underlying adoption taking place despite price weakness – there is both a need and interest to use these technologies, even with a drawdown.
Annual Returns After Down Years
This 2022 year certainly reminds investors that price does not rise in a straight line, which often tests the conviction of long-term investors.
As we know, markets fluctuate – macro environments change, cycles occur, and risk assets often respond accordingly.
While it’s not unusual to face a “down year”, it’s important to remember that markets also climb a wall of worry. Near-term risks take much of the focus over long-term opportunities. There are always reasons not to invest.
But history also illustrates that those that remain patient are often the most rewarded: bad years often give way to good ones, and historically speaking, markets rise more often than not.
In the two down years of bitcoin’s history, bitcoin declined -57.5% to $317 in 2014 and -73.8% to $3,674 in 2018, only to rally for three straight years following.
In this regard, a rally after a down year is certainly not impossible.
Click here to download full report. As always, please reach out with any questions or comments.
Stay tuned,
Joseph Orsini, CFA, CMT
Vice President of Research
DISCLOSURES
Investment advisory and management services are provided by Eaglebrook Advisors, Inc., a registered investment advisor. Information presented is for educational purposes only and should not be construed as providing investment advice. Past performance is no indication of future results. Investing in digital currency comes with significant risk of loss that a client should be prepared to bear, including, but not limited to, volatile market price swings or flash crashes, market manipulation, economic, regulatory, technical, and cybersecurity risks. In addition, digital currency markets and exchanges are not regulated with the same controls or customer protections available in equity, option, futures, or foreign exchange investing. Eaglebrook does not offer tax advice. Neither consultations nor information published by Eaglebrook should be construed as offering or providing tax advice.
Volatility Risk: Digital currency is a speculative and volatile investment asset. Investors should be prepared for volatile market swings and prolonged bear markets. Digital currency can have higher volatility than other traditional investments such as stocks and bonds and market movements can be difficult to predict.
Economic Risk: The economic risk associated with digital currency is in the lack of widespread or continuing digital currency adoption. The market and investors could decide that digital currency should not be valued at the current market capitalization due to a variety of factors.
Regulatory Risk: Digital currency could be banned or highly regulated by governments that would deter investors from buying or holding digital currency.
Technical Risk: Digital currency is a dynamic network with a codebase that is updated to add new security and functionality features. The updated code that is merged by the core developers could potentially have an error that threatens the security or functionality of the digital currency network.
Cybersecurity Risk: Digital currency exchanges and wallets have been hacked and digital currency has been stolen in the past. This is a potential risk that clients must be comfortable with when investing and holding digital currency. Theft is less likely when holding digital currency at a qualified custodian in offline systems (cold storage) with institutional security and controls.
The indexes presented are unmanaged portfolios of specified securities and the performance shown is gross of fees which do not reflect any initial or ongoing expenses. Indexes cannot be invested in directly. Returns for digital assets may differ significantly from the returns of indexes which hold securities. Returns are for the time periods shown.
There are significant limitations in the comparison of cryptocurrencies, notably Bitcoin, to fiat currencies and therefore the comparison of Bitcoin to fiat currencies in the presentation above is for presentation and discussion purposes and does not imply that Bitcoin is comparable to fiat currencies. The information presented should not be relied upon as a recommendation to invest in Bitcoin or any cryptocurrency and should not serve as an indication of the future value of Bitcoin.
Fiat currency is issued and backed by a government and is largely stable and controlled. Through legitimate monetary policy, central banks determine the amount of money in circulation and when to increase or decrease the supply, which in part affects the value and price of fiat currency.
Cryptocurrency, on the other hand, is decentralized by nature and does not have a central authority governing it. The price of cryptocurrencies is determined by several external factors may including, but not limited to: supply and demand, investors’ expectations with respect to the rate of inflation, interest rates, currency exchange rates or future regulatory measures (if any) that restrict the trading of a cryptocurrency or the use of a cryptocurrency as a form of payment. Values of cryptocurrencies have historically been highly volatile, experiencing periods of rapid price increase as well as decline.
There is no assurance that a crypto currency will maintain its long-term value in terms of purchasing power in the future, or that acceptance of Bitcoin payments by mainstream retail merchants and commercial businesses will continue to grow. Bitcoin and other cryptocurrencies are not endorsed or guaranteed by any government, are not FDIC or SIPC insured, are very volatile, and involve a high degree of risk. Consumer protection and securities laws do not regulate cryptocurrencies to the same degree as traditional brokerage and investment products.
BGN, Bloomberg Generic Price: A real-time composite based on quotes from multiple contributors that provides a market indication of where assets are priced. BGN uses both executable and indicative pricing, depending on the type of quotes available in the marketplace at the time of pricing. This methodology is used for bitcoin and ether.
The S&P 500 Index is an unmanaged value-weighted index of 500 common stocks that is generally considered representative of the U.S. stock market. The NASDAQ Composite Index is a broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The Bloomberg US Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, US dollar-denominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS (agency fixed-rate pass-throughs), ABS and CMBS (agency and non-agency). The ICE U.S. Dollar Index is a geometrically-averaged calculation of six currencies weighted against the U.S. dollar. The Gold Spot price is quoted as US Dollars per Troy Ounce. Bloomberg's spot crude oil price indications use benchmark WTI crude at Cushing, OK ; and other U.S. crude oil grades trade on a price spread differential to WTI, Cushing. The Volatility Index (VIX) shows the market's expectations of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options. The VIX is a widely used measure of market risk. ARK Innovation ETF is an actively managed exchange-traded fund incorporated in the USA. The Fund will invest in equity securities of companies relevant to the theme of disruptive innovation. Relevant themes are those that rely on or benefit from the development of new products or services in scientific research relating to Genomics Revolution, Web x.0, and Industrial Innovation. iShares MSCI USA Momentum Factor ETF is an exchange traded fund incorporated in the USA. The Fund seeks to track the performance of an index that measures the performance of U.S. large and mid capitalization stocks exhibiting relatively higher momentum characteristics, before fees and expenses. Invesco S&P 500 High Beta ETF is an exchange-traded fund incorporated in the USA. The Fund tracks the S&P500 High Beta Index which consists of the 100 stocks from the S&P500 with the highest sensitivity to market movements, or beta, over the past year. The index is designed for investors initiating a bullish strategy or making a directional bet. The Fund is rebalanced quarterly. iShares Russell 2000 Value ETF is an exchange-traded fund incorporated in the USA. The ETF tracks the performance of the Russell 2000 Value index and holds small cap US equities focused on low price to book ratios and lower forecasted growth. Its investments are primarily focused in the consumer discretionary, financial and industrial sectors. The ETF uses a representative sampling approach. iShares Russell 2000 Growth ETF is an exchange-traded fund incorporated in the USA. The ETF tracks the performance of the Russel 2000 Growth Index and invests in over 1000 small cap US equities across all sectors. The ETF weights its holdings using a representative sampling indexing strategy, generally investing at least 90% of its assets in the underlying index. US Breakeven Rates: The rates are United States breakeven inflation rates. They are calculated by subtracting the real yield of the inflation linked maturity curve from the yield of the closest nominal Treasury maturity. The result is the implied inflation rate for the term of the stated maturity. The MSCI Em (Emerging Markets) Index is a free-float weighted equity index that captures large and mid cap representation across Emerging Markets (EM) countries. The index covers approximately 85% of the free float-adjusted market capitalization in each country. The MSCI EAFE Index is a free-float weighted equity index. The index was developed with a base value of 100 as of December 31, 1969. The MSCI EAFE region covers DM countries in Europe, Australasia, Israel, and the Far East. The MSCI US REIT Index is a price-only index, which MSCI began calculating on June 20, 2005. Previously, this index (then known as the Morgan Stanley REIT Index) was calculated and maintained by the AMEX. The AMEX began calculating the index with a base level of 200, as of December 30, 1994. Bloomberg Commodity Index (BCOM) is calculated on an excess return basis and reflects commodity futures price movements. The index rebalances annually weighted 2/3 by trading volume and 1/3 by world production and weight-caps are applied at the commodity, sector and group level for diversification. Roll period typically occurs from 6th-10th business day based on the roll schedule. Standard and Poor's 500 Information Technology Index is a capitalization-weighted index. The index was developed with a base level of 10 for the 1941-43 base period.
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