Turmoil in the wider markets has coincided with a crypto rally. What’s going on?

A few weeks back, when bitcoin plunged below its $6,000 support line, that move took place alongside heavy falls in the regular markets. The Dow Jones, S&P, Nasdaq, FTSE100 – all were hit, largely driven by tech stocks being sold off. The narrative at the time was that traders were cautious about the big picture, and were adopting a risk-off approach: more speculative plays, from overvalued stocks to bitcoin, were being ditched for safer assets. In short, having previously carved out a niche as a risk-on asset – digital gold – bitcoin was being treated just the same as any other risky asset.

But now, something interesting has happened. As the Fed hikes interest rates and the broader stock markets experience a major sell-off, crypto has recovered – with bitcoin staging a 30% rally in recent days. Stocks are at a 52-week low, but gold is at a 5-month high. And digital gold is picking up too.

At the beginning of November, we published an article titled Three market scenarios. This laid out different options for how the wider financial markets might correlate with crypto in the next year or so:

1) The Dow tanks, crypto tanks

Should confidence in the US stock markets fail soon (i.e. this year or early 2019), then traders will be taking heavy losses. Bitcoin is more correlated with stocks than it used to be, and traders won’t be feeling wealthy enough to take a punt on BTC – they’ll adopt a risk-on approach and hedge in cash or gold. This could kill or delay a nascent rally in bitcoin, as institutions wait for more favourable conditions.

2) The Dow (temporarily) rallies, crypto rallies

With the Midterms out of the way, markets have greater certainty – and, indeed, the split in Congress is broadly favourable to Wall Street, curtailing the riskiest excesses of the Trump presidency while maintaining a light touch for businesses. If the stock markets continue to rise, then it’s reasonable to expect traders to start funneling some of their gains into bitcoin – which will not only start to appear underpriced, but will have those all-important on-ramps. That could push BTC significantly higher over the course of next year – though, of course, at some point the stock market will top out and then the party would most likely end for crypto too.

3) The stars align

Should the two market cycles occur out of phase, we could be in for something more dramatic. A rally in the Dow might not coincide with a bitcoin bull market; it may still be too early for that. If there was a period of further consolidation, it’s possible that bitcoin might start its next rise when the Dow is already much higher. If, however, bitcoin was gaining momentum as the Dow topped out, we might see a huge round of profit-taking and the money being pushed into crypto in the biggest FOMO bull market yet.

It’s clear that option 2) is off the table. Interest rate rises, concerns about tech stocks and international factors like Brexit have killed the possibility of a rally. The Dow is has fallen significantly in recent weeks and is down on the year – erasing over 12 months of gains.

Right now it’s too early to say whether 1) or 3) is more likely – we don’t know whether this crypto rally is the real deal or just a brief pullback before we head lower. But what’s really interesting is that the bounce in bitcoin has coincided with a fall in the wider markets. It could be just that: coincidence. Or it could be a sign that crypto has ended its brief correlation with the stock markets, and is now coming back onto traders’ radar as an alternative or safe-haven play, like gold. If so, then it’s a variation on 3). Traders are taking profits out of stocks and funneling them into bitcoin.

Time will tell, but this could be a very interesting development for next year.

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