Crypto Markets Brace for Further Losses as Fed Meeting Looms

Key Points

• Crypto markets are in a good mood ahead of Wednesday’s Fed policy announcement.
• But most major coins remain in a technical downtrend and a hawkish Fed surprise could trigger further losses.
• The Fed is expected to lift interest rates by 50 bps and announce balance sheet run-off plans.

Market update

Ahead of a key US Federal Reserve policy announcement later this Wednesday, where the bank is expected to lift interest rates by 50 bps for the first time in 22 years, trading conditions in the broader cryptocurrency market are robust.

The total market capitalization of the cryptocurrency market was last trading slightly more than 2.5% on the day at roughly $1.736 trillion.

Cryptocurrency behemoths bitcoin (BTC) and ethereum (ETH) were each last trading higher by about 3.5% higher in the $39,000 area and 2.0% higher in the $2,840 area, respectively. Futures tracking a major Altcoin Index were last trading up by just under 3.0%.

Ahead of the Fed policy announcement, conditions aren’t likely to change too significantly. Traders tend to refrain from placing big bets ahead of large market events that can trigger significant two-way volatility.

Crypto markets are still in a downtrend

Market analysts on Wednesday pointed out that, despite the most recent bounce in the market and improvement in sentiment, most major cryptocurrencies remain in a technical downtrend.

The risk-sensitive cryptocurrency market took a beating in April alongside a sharp, US tech-led sell-off in global equity markets as traders factored in the likelihood that the Fed is set to tighten its monetary policy settings much faster and to a much greater extent than thought possible just a few months ago.

That has pushed interest rates in the US higher, raising the opportunity cost of holding non-yielding assets, such as cryptocurrencies, but also precious metals like gold and silver.

How a hawkish Fed might cause further crypto pain

Fed officials have signaled in recent weeks that, given the backdrop of sky-high US inflation, continued strong economic growth, and a super-tight labor market, they wish to return interest rates to their so-called “neutral” level of around 2.5% by the end of the year.

That implies that Wednesday’s 50 bps rate hike will be the first of a series of 50 bps rate hikes in the months ahead. Some even speculate that the Fed might opt to go with a 75 bps hike at some point this summer.

In recent weeks, Fed officials have also been increasingly coming around to the view that interest rates may need to go much higher than 2.5% in 2023 in order to reign inflation in. Markets will be heavily focused on any indications that Fed Chair Jerome Powell may give as to where the so-called “terminal” rate might be in his post-Fed policy announcement press conference.

Any hints towards a terminal rate that is significantly higher than, say, 3.0% could trigger a sharp move higher in US bond yields, which could in turn trigger a sharp drop in cryptocurrencies and big US tech.

Finally, the Fed is also expected to outline its plans to reduce the size of its balance sheet later this Wednesday. The rapid pace of expansion of the balance sheet in 2020 and 2021 has been directly attributed by some market analysts as driving the outperformance of speculative asset classes in those years.

Balance sheet run-off in 2022 and beyond apparently poses a significant downside risk to the likes of cryptocurrencies and US tech/growth stocks.

Even if the Fed does not deliver a “hawkish” surprise later this Wednesday, thus, potentially allowing something of a relief rally to occur in crypto markets, the backdrop of global central bank tightening amid high inflation remains an unfavorable one for crypto.

Rallies remain subject to being sold.