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A strong rally for digital assets and equities now has investors questioning whether these “sparks” can create “fire” or are just a “flicker” of hope

‍Key Takeaways

• A positive month of October comes to an end; bitcoin gained 5.0%, ether gained 17.5%, while the S&P 500 gained 8.1%
• With this most recent rally, the market now turns to Wednesday’s Fed Meeting: participants expect a 75 basis point increase, but the focus will be on how the Fed reaches the market’s 5% peak estimate
• While the Fed is the dominant market narrative, the investment case for digital assets continues to strengthen under the surface – strong seasonals and a continuation of a “better than feared” macro environment could support this “spark” of a rally catching “fire”
• We discuss ether’s outperformance versus bitcoin, with the ETH/BTC pair nearing the key $0.08 level

THE BIRD'S EYE VIEW

Risk assets experienced another rally to close out the month of October, with this month’s positive performance a nice change to what has occurred throughout much of this year.

While fear rose dramatically in mid-October as equities touched new year-to-date lows, the sharp reversal higher has offered investors some relief.

But this year, participants are conditioned to believe that rallies will not prevail. The multi-year “buy the dip” mentality has quickly turned to “sell the rip” as each and every rally has been met with selling pressure and further concern over a hard-landing.

So even as the S&P 500 is 8.2% above it’s October lows and bitcoin and ether are 14.7% and 73.3% above their June lows, there is not yet any “FOMO” buying taking place. But rightfully so.

But that is for now. The Federal Reserve’s November meeting – the most widely-anticipated meeting since of course the  September, July, June, and May meetings – is now upon us.

While the market expects a 75 basis point hike to bring the upper bound to 4.0%, the focus will be on the remaining 100 or so basis points needed to reach the market’s current 5% peak estimate.

And even though the Fed’s credibility has declined quite quickly in this recent cycle, the market will likely again emphasize Chair Powell’s tone and Q&A session, looking for hints as to whether another 75 basis point hike will come, or if the Fed will begin to scale down their rate hikes.

Despite the mid-October equity reversal and the recent digital asset rally, recency bias has troubled markets this year – investors have had the stubborn belief that what has occurred recently (inflation, volatility, Fed, hard landing concerns) will relentlessly continue in the future – thus being hesitant when considering adding to their risk-exposure.

But this is what makes the most recent rally interesting. For bitcoin and ether – the two held their mid-June lows, despite equities experiencing a panic selling event in mid-October.

Now, after weeks of low volatility and range-bound trading, digital assets have finally shown some “sparks” – not only have bitcoin and ether reached 45-day highs, but a strong start to the quarter now has the two potentially turning their previous 2017/2018 peaks into long-term support (we discuss on page 2).

So, do these “sparks” seen across digital assets catch “fire” or are they just “flickers” of hope into the end of the year?

We believe that digital assets have “staying power”, with characteristics and use-cases that remain persistent despite price weakness. We often comment on improving fundamentals such as strong bitcoin holding trends and highs in hash rate, as well as Ethereum’s improving ecosystem and post-Merge scarcity, all as reasons for investors to remain positive in this macro environment.

Even in this bear market, institutional investors have taken significant interest: digital assets are closer to becoming strategic asset allocations than ever before, solidifying their legitimacy and importance in investment portfolios.

So, while the Fed is the dominant market narrative, the investment case for digital assets continues to strengthen under the surface. In this bear market, it’s more about the “when” digital assets turn higher, not “if.”

Should the macro environment continue to come in better than feared (earnings, economic data, more certainty with the Fed), strong seasonals can support a rally into year-end.

On page two, we discuss the importance of the $19,000 and $1,400 levels for bitcoin and ether, given their significance in the “big picture.” We also highlight ether’s outperformance relative to bitcoin, with investors increasingly interested in ether’s wide-net capture of the broader digital asset ecosystem.

SPARKS CATCH FIRE?

We update our “key levels” chart originally posted in September, when we pointed out the importance of zooming out. Even amidst a historically tough environment and equity drawdown, bitcoin and ether are trading well above their Covid-19 levels and continue to find support around their previous 2017 and 2018 peaks.

Further supportive of the bottoming process is the recent strength illustrated to the downside, with bitcoin and ether holding their mid-June lows even as equities experienced a panic-selling move lower in mid-October. This perfect storm of new equity lows on fears of a further stampede higher in both the DXY index and rates was an opportunity for selling pressure, yet bulls showed strength.

Going forward, a higher high relative to those that occurred in the summertime (bitcoin $24,494 and ether $1,990) is the next challenge. Should the dollar, rates, and the Fed remain in check, strong seasonals can support further upside into year-end.

$19,000 and $1,400 as long-term support would illustrate significant progress in the “big picture”. Progress, not perfection.

ETHER’S OUTPERFORMANCE

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While ether retraced its Merge rally on a “sell the news” event, outperformance has again picked up steam: the asset has made another move higher relative to bitcoin, with the ETH/BTC pair nearing the key $0.08 resistance level.

Some likely reasons for ether’s outperformance:

• “Wide-Nets”: an investment in ether benefits from the growth of the broader digital asset ecosystem, with growing excitement around the opportunities dApps present
• As a platform for decentralized applications, ether has a higher beta to bitcoin and is more cyclical, outperforming on the way up but underperforming on the way down
• Ether’s issuance post-Merge has averaged just 0.0% annual inflation, significantly improving supply/demand dynamics

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.

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