Dow Drops As Cryptos Pop

Inflation is the enemy of stock and bond investors but this is when crypto is coming to the rescue.  The market awoke to a Valentine’s Day present called the January Consumer Price Index.  It was borderline ugly at 0.5%.  After the opening, the Dow was down 142 points. At this time cryptos are going in the opposite direction: Bitcoin + 9 %, Bitcoin Cash +11%, Ether +8 % and Litecoin + 35%.   Is this a one time event or is there there a lasting connection.  Let’s take a look.

Inflationary expectations drive the stock and bond markets.  It is not how much any one month reading shows, it is the way the market extrapolates a single month into the future. For the last 20+ years, inflationary expectations have been coming down and this has been the fuel that has fired the stock and bond markets.

Since the financial crisis of 2008, the Federal Reserve has been targeting a 2% rate of price increases.  Most times they have fallen short of their goal. This is no more the case.  The January increase annualizes to 6%.  If this were a one month event it could be ignored.  However, over the last six months since August, inflation has averaged 4% on a yearly basis. That is a troubling sign for several reasons.

Inflationary Expectations Are Growing  

It is hardly news that the global economy has fully recovered from the financial crisis of 2008.  For the US this means the longest economic recovery in modern history.  The signs of excesses are showing.  Labor markets are much tighter than anytime in the past 50 years.  Costs have to be rising especially for the most highly sought after positions in technology and finance.

Debt financed consumer spending was adding to inflationary expectations even before the $1.5 trillion Trump Tax Cut and plans to increase spending.  Goldman Sachs CEO called this combination like throwing a bit more lighter fluid on a fire that was already going.  His concern is that the economy will get overheated, forcing the Federal Reserve to raise interest rates faster.

Add to this the news that inflation hawk Loretta Mester was being considered for the post of Fed Vice Chair and that is all that is necessary to shake investor confidence.

Storehouse Of Value

In times like this when investors are seeking safety from declining stock and bond prices, gold has been the go to storehouse of value.  Gold investors got their Valentines candy with the price shooting up over 1.5% on the day.  OK that is cool but we can’t ignore the fact that cryptocurrencies had their best day in a long time.  What is that all about?  Against the opinion of all the critics, are cryptocurrencies finally being viewed by investors as their own unique storehouse of value.

Granted recent crypto volatility makes it hard to put Bitcoin or Ether into the same category as other assets like gold.  But today’s price divergence reminds us that Bitcoin’s fixed number of coins was designed and intended to be independent of global government policies that create excess debt or excessive expansion that results increased inflationary expectations.

Blockchain technology in general is showing up more and more as a cost saving mechanism. Of course, Ethereum with its smart contracts and open source platform stand out.  

Separating Fact From Opinion

Are cryptocurrencies gaining believers as a storehouse of value.  That is one opinion. Obviously, it will take much more time to develop enough data to measure the correlation. Several things seem clear.  The massive crypto price correction that started back in December has taken a whole lot of fluff off of crypto markets.  That’s a good thing.

In recent times, prices have been directionless as investors tried to figure what to do next. During this time there was an overabundance of technical analysis but an absence of any fundamental compelling reason the buy.  Valentines Day news that pushed up inflationary expectations may have provided the single most important reason in many weeks. The critics may be right that cryptocurrencies have a way to go before becoming a storehouse of value, but at current levels, they seem to be an attractive value nonetheless.  Stay tuned for more.   

Featured image courtesy of Shutterstock. 

James Waggoner is a veteran Wall Street analyst and hedge fund manager who has spent the past few years researching the fintech possibilities of cryptocurrencies. He has a special passion for writing about the future of crypto.