How Macro Conditions Changed the Landscape for Risky Assets in 2022
In a bid to rein in soaring inflation, global central banks started raising rates in 2022, putting an end to a nearly-decade-long period of loose monetary policies. This created an unfavorable environment for risk assets, particularly cryptocurrencies, which saw consistent sell-off for most of the year.
Target Interest Rate Range Reaches 4.25%-to-4.50% in 2022
The US Federal Reserve has been aggressively raising interest rates throughout 2022. Every Federal Open Market Committee (FOMC) meeting apart from January brought rate hikes. Disregarding December, there have been four 75 BPS point increases, one of 25 BPS, and the May hike came at 50 BPS.
In its latest meeting in 2022 on December 13th and 14th, the FED brought the announcement of another interest rate hike of 50BPS. After all the rate hikes, 2022 ended with a target interest rate range of 4.25%-to-4.50%.
In remarks delivered at the Brookings Institute on November 30th, Chair Jerome Powell said that “it makes sense to moderate the pace of our rate increases as we approach the level of restraint that will be sufficient to bring inflation down.” The Chairman however also cautioned that “despite some promising developments, we have a long way to go in restoring price stability.”
Over the past months, the costs of goods such as cars, furniture, and appliances have decreased. Moreover, rents and other housing costs, which comprise about a third of the consumer price index, are expected to abate next year. However, the costs of services, which includes dining out, traveling, and health care, are still in the upper trend.
In November, inflation slightly eased to 7.1%, compared to October’s 7.7% and September’s CPI reading of 8.2%. Core inflation, which disregards volatile food and energy prices, stood at 6.0% in November, compared to consensus estimates of 6.1%.
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Risk Assets, Crypto Drop Amid Rate Hikes
Rate hikes by the Fed contributed to creating an unfavorable environment for risk assets. It has been mostly downhill for the S&P 500 Index in 2022, which is down by over 19% YTD. The Dow Jones Industrial Average and the Nasdaq Composite have been in a similar situation, as higher rates and the expectation of higher rates hindered the indexes from registering any significant gains.
Things have been worse for the crypto market. Bitcoin, the leading cryptocurrency, has fallen about 75% from its all-time high in November 2021. The second-largest cryptocurrency Ethereum has seen a similar drop, down 74%, despite its much-anticipated upgrade going through successfully.
Notably, the correlation between BTC and US equities hit an all-time high in April. However, this changed after the collapse of FTX, once the third-largest cryptocurrency exchange in the world that filed for bankruptcy in early November.
The correlation between BTC and US equities dipped to as low as 0.17 in the wake of the FTX collapse and has since stabilized below 0.6. Overall, crypto is not immune to the broad macro backdrop despite briefly decoupling from US equities markets. Therefore, the crypto market might also drop if the stock market dips because of another rate hike.
According to experts at cryptocurrency data provider Kaiko, risk assets like cryptocurrencies might get a break in the upcoming year as the Fed has indicated that it is slowing the pace of its rate-hiking program. They said:
“Global recession worries and tightening liquidity will continue to weigh on risk assets especially as quantitative tightening speeds up. However, the U.S. Fed and other central banks are widely expected to slow down the pace of rate hikes next year, perhaps providing respite for risk assets.”
As of now, Bitcoin is trading at $16,491, down by 0.7% over the past day. The flagship cryptocurrency is down by more than 64% over the past year and almost flat over the past month. Furthermore, the total crypto market cap currently stands at $823 billion.
Do you think the crypto market could trim some losses in 2023? Let us know in the comments below.