What happened in crypto?
A Special Sophia’s Thoughts Edition on last week’s Crypto Crash.
The market lost more than 10% this week. It was a brutal sequence of events that took place after an abnormally calm period. What exactly did just happen? Sophia, our AI crypto intelligence bot, has some insights.
The market had been too calm
Prior to Wednesday, the crypto market had been unusually calm. In this week’s Sophia’s Thoughts, we highlighted how crypto volatility was only about a third as high as it is normally. Investors were waiting for decisions from the SEC on the various spot Bitcoin ETF applications. And we’re also in the midst of the summer break in the northern hemisphere. This is not traditionally a time when many investors are paying close attention to financial markets.
However, investors were starting to cool on crypto. Halfway through the week, Sophia measured neutral sentiment for crypto markets for the first time in more than 4 weeks. It appears that some investors were ready to take some of their crypto gains and step out of crypto.
Small news spooked the market
In the midst of the unusual crypto calm, three pieces of news arrived that triggered a major sell-off. From Wednesday to Friday, $1 billion in crypto positions were liquidated. The market lost more than 10%. But, on their own, neither one of these pieces of news seemed to be detrimental for crypto.
On Wednesday, the Federal Reserve released the minutes of its latest meeting to discuss interest rate policy. There, it became clear that several officials were concerned that the Fed hasn’t done enough to curb inflation yet. This curbed fears that, maybe, the Fed may do more rate hikes going forward.
Crypto markets did not react well to this development. In the past, crypto has lost an average of 1% when the Fed has raised interest rates in the US. The increased perception of more rate hikes triggered a first sell-off on Wednesday. The market lost 2% on Wednesday.
Later during the day, it became clear that the Fed minutes do not reveal any new critical information about what the Fed will do. The probability that the Fed may increase interest rates later this year only increased slightly. It remains below 50% according to Futures data from the CME Group.
The sell-off accelerated on Thursday with new new developments. First, the Wall Street Journal reported that SpaceX, the company owned by crypto fanatic Elon Musk, had written off $373 million in crypto assets. The markets took this a sign to sell. If not even Elon Musk is holding on to crypto, why would everybody else?
However, it is important to note that the report did not clearly indicate that SpaceX actually sold all of its crypto. Nor did it say over what time frame. It was a short, vague paragraph that spooked the market at a very inopportune time.
Then, Evergrande, one of the largest companies in China, filed for bankruptcy protection in the US. Evergrande is a real estate company, not a crypto company. However, it was feared that Tether, the company behind one of the largest USD stablecoins, had large exposure to Evergrande. Tether backs its stablecoins with commercial debt investments, some of which may have been in Evergrande. Both of these news really shook the crypto market. It lost 7.5% on Thursday.
However, Evergrande has been in distress for the last 2 years. It actually had already entered default in 2021. Tether has assured investors that it has no exposure to Evergrande.
So what caused the sell off? Our intelligence suggests that there hasn’t been a big shift in fundamentals. However, sentiment has shifted. We fear that this big crash was the result of an overly calm market. That was hyped for too long. Where investors were waiting for resolution. And in which small news caused a nervous and frantic sell off. We have seen these kinds of sudden crashes in other markets in the past. Most notably, during the Black Monday crash of 1987.
What now?
Sophia’s Mood was bearish for the last two days. While the sell off has stopped, the market has not yet recovered. Bitcoin (BTC) continues to trade at around $26,000.
Going forward, we expect the market to return to its more volatile normal self. Volatilities have already jumped back up. We believe that we will continue to see more swings. We don’t necessarily anticipate another crash (nor a big jump up). But we fear that investors will continue to wait around until the US regulatory environment clears up.
In this environment, however, Sophia’s intelligence continues to offer actionable and powerful insights. Sophia’s Mood and Direction signals light the way in the fog of uncertainty.
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