iCapital Market Pulse: Five crypto questions as stablecoins prove not so stable

May 19, 2022 | Anastasia Amoroso | iCapital

Investors are understandably concerned about the future of crypto in the wake of the collapse of stablecoin Terra and given continued weak performance of cryptocurrencies. In this week’s blog, we take a step back and answer key questions on the current state of crypto, finding reasons for optimism over the longer term.

Last Thursday, as the price of stablecoin Terra dropped to near $0, Tether “broke the buck” and traded at $0.9964, and cryptocurrencies fell more than 10% or more across the board, we hosted our Cryptocurrency Education webinar.¹ Bitcoin has since rebounded somewhat to around $30,000², but several questions raised during the webinar continue to bear examination. In this week’s commentary we take the opportunity to answer the five crypto questions top of mind for investors right now.
 
1. Do the current market conditions change any aspects of this asset class?
 
This was the number one question that was asked. And the answer is yes. As with many other assets, the pivot by the U. S. Federal Reserve (the Fed) from November was a turning point. With the Fed no longer willing to sit idly by in the face of sky-high inflation, and with cash yields bound to move, the inflation protection argument for Bitcoin weakened as the dollar strengthened.

Over time, Bitcoin and other cryptocurrencies have also become much more highly correlated with equities³—which is warranted since the crypto ecosystem is innovative technology above all else. Like equities, cryptocurrencies have suffered because for the first time in two years cash and parts of fixed income started to become viable alternatives. The effective fed funds rate is now at 1.00% and the three-year AAA municipal bond yield-to-maturity is 2.46%, while growth stocks yield 0.9% and bitcoin yields nothing.⁴ You’d have to lend it out to earn a yield but would be taking credit risk to do so. Additionally, unlike tech companies, cryptocurrencies do not have readily available projected cash flows that could be discounted back to present value. Of course, miners do earn revenue for validating transactions, but that accrues to the miners and not the bitcoin asset holders. In this absence, cryptocurrencies are likely to trade as unprofitable tech and indeed, their correlation with that index has risen over the past year from +0.22 to +0.72.⁵ Longer term, cryptocurrencies should derive value from their use cases and adoption, but that takes time. Near term, like for stocks, it would take a stabilization of growth expectations and/or a Fed pivot to justify a move higher in crypto assets.

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(1) Source: Bloomberg, as of May 17, 2022.
(2) Source: Ibid.
(3) Source: Ibid.
(4) Source: Ibid.
(5) Source: Ibid.