Good Vibrations

by Ryan Shea

Q3 came to an end with a bit of a flourish, as evidenced by the Trakx benchmark Top 10 Crypto CTI ending September up 10%. However, for the quarter as a whole crypto prices were close to unchanged, meaning Q3 2024 goes down into the history books as a slightly below par crypto performance. The reason why it is only slightly below par is because Q3 is not an especially favourable quarter for crypto asset prices in terms of seasonals – see image below.

Bitcoin Quarterly Returns (%)

Source: coinglass.com

In fact, using Bitcoin as a proxy for crypto because it has the longest price history, we find that Q3 is the least favourable of all the four quarters mainly due to it containing September, which has the unenviable record of being the worst crypto month of the year based on average or median monthly returns – see image below¹.

Bitcoin Monthly Returns (%)

Source: coinglass.com

Thankfully for the bulls, we have now exited this seasonal soft patch and entered what has historically been the most crypto positive quarter, one that historically starts strong as suggested by the “Uptober” calendar rebrand. Flicking back to the above images, one can readily see that Bitcoin’s Q4 returns over the past decade have been positive 63% of the time (a more than acceptable hit rate for any investment process) with an average of just under 90% and a median of just over 50%. The question is, will history repeat? Will the final quarter of 2024 that we have just entered turn out to be bullish for crypto prices?

No Longer Fed-Up

Short-term market forecasting is a rather hazardous pastime. Nevertheless, one can certainly see the necessary components for a bullish crypto scenario falling into place. Most significantly, two weeks ago the Fed announced its first monetary easing in four years, a move that brings the curtain down on one of the most aggressive monetary tightening cycles in the post-war period.

Investors may have been unanimous in anticipating the Fed would begin easing last month, but there was no such uniformity over how big the first rate cut of the cycle would be (many sell-side economists had 25bp pencilled in, while US interest rate futures were discounting a 60% chance of a 50bp cut); neither was their uniformity of opinion as to how the markets would react to a rate cut.

Broadly, there were two schools of thought:

First, with market participants having already displayed heightened sensitivity to the prospect of a recession… front-loading monetary easing would stifle any speculation that the Fed was falling “behind the curve”, meaning a 50bp cut would be well-received while a more modest 25bp reduction would not go down as well.

Second, with market participants having already displayed heightened sensitivity to the prospect of a recession… a 50bp rate cut would mean the Fed was implicitly acknowledging its concern about the underlying strength of the US economy (a negative for crypto and risk assets) and therefore a 25bp cut would be both appropriate and hence better received by investors.

For any noobs reading this, welcome to the weird and wonderful world of macro investing where such analytical and expectational quagmires are a lot more common than one is led to believe from reading economics textbooks. This is what makes it such an interesting and mentally challenging exercise!

The lack of clarity about the anticipated market reaction to the Fed rate cut to a large extent reflects the fact that the current situation in the US is, itself, a little confused. Macro indicators are displaying both signs of weakness and strength simultaneously meaning support could be found for both of the two aforementioned schools of thoughts.

For instance, some well-known recession indicators have been flashing red of late (see the previous monthly update). At the same time, US stock indices are at their all-time highs and the Atlanta Fed GDPNow growth estimate, a real-time measure of US economic activity, has rebounded by a full percentage point over the past month and is tracking around 3% at an annualized rate – see image. Neither of these hint at a sharp growth deceleration that one would naturally expect to see if a recession were imminent².

In light of such mixed messages from the macro data one might naturally expect the Fed to have proceeded cautiously because central bankers are, after all, rather risk-averse individuals who like to portray an aura of calm and unexcitability to foster investor confidence. That is why, for choice, the Fed (and other leading central banks) like to adjust interest rates (up or down) in clips of 25bp. However, rather than adopt a gradualist approach, Chair Powell and his colleagues opted in favour of the more aggressive 50bp cut. This was certainly a bold move on their part because, consistent with the second scenario above, investors could have considered their response dramatic, dare we even say crisis-like.

However, during the accompanying press conference Powell made it clear that the FOMC viewed the current US economic outlook as solid, arguing that the larger 50bp cut was simply an acknowledgment of the progress the Fed had been made towards satisfying their dual mandate (price stability and full-employment³) and a sign of their confidence that both objectives would continue to be met in the foreseeable future, ie the Fed believes it will be able to deliver a goldilocks-style economic soft-landing. While making it clear that future monetary policy changes would be data dependent, the dot-plot projections of individual FOMC participants pointed to an additional 50bp of easing by year-end, with a further 100bp of easing priced for 2025. So even though the future pace of monetary easing is likely to decelerate, the direction of travel for US short-term interest rates is clear.

Three’s A Party

If, as Powell and his FOMC colleagues predict, they are able to manoeuvre monetary policy such that the US avoids a hard economic landing/ recession⁴ then they are effectively giving investors the green light to go buy crypto, and risk assets more generally.

This is not only because they are in control of the monetary policy tiller of the largest economic and financial behemoth the world has ever known, and as such their actions have a huge impact on asset prices, but also because they are not acting in isolation. The ECB and other central banks like the BoC and the BoE have also been cutting interest rates (the sole exception was the Bank of Japan – I say was because their hiking cycle was paused (ended?) in early August for reasons I discussed at length in the previous monthly update). And, as the American pop artist Andy Warhol once quipped:

“But as I always say, one’s company, two’s a crowd, and three’s a party.”

Certainly, investors reacted to what could only be interpreted as a “bullish” rate cut by the Fed in an ebullient mood. Crypto prices as measured by the Trakx Top 10 Crypto CTI surged 5% in the 24 hours after the Fed announcement, while Wall Street marched to new cycle highs, as investors discounted the positive impact less restrictive global liquidity conditions would have on asset prices over the coming weeks and months– see chart. (The Chinese announcement of substantial fiscal stimulus on top of the earlier monetary stimulus announced by the PBoC also helped!).

Global Liquidity vs. Bitcoin Price

Source: Bitcoin Magazine (via X)

Halving Hiatus

Favourable seasonals and improving global liquidity conditions are not the only reasons for thinking that we may have have entered a more constructive crypto period. Let us also not forget that 2024 is a Bitcoin halving year. When the fourth halving took place back in April there was a lot of hype in the crypto media about its significance and likely bullish impact on prices. However, given the distinctly underwhelming post-halving price action seen so far this cycle – see chart below – this topic has definitely faded from view during the summer months.

Bitcoin Halvings (Index Price Performance)

Source: Ecoinometrics

That said, perhaps dismissing the current halving cycle is a little pre-emptive. After all, the bulk of the post-halving gains typically materialize 9-12 months after the event. In the current era, this equates to over the next 3-6 months. Hence, even having gotten off to a slow start there remains plenty of scope for the current halving to mirror the bullish price action seen in previous halvings.

It is entirely possible that this rally could materialize simply because investors begin to buy Bitcoin in anticipation of this delayed price response and this results in a self-sustaining bull cycle where price gains beget more buying (crazier things have happened in finance). Alternatively, and more likely in my opinion, it might require a catalyst. Fed easing cycle may be sufficient, but there is another rather obvious event looming on the near horizon that could be even more powerful – a Trump victory in the November presidential election.

Global (Crypto) Warming?

Unlike Kamala Harris, who has only half-heartedly pivoted⁵ towards a more favourable crypto stance when she recently announced her administration would “encourage innovative technologies like AI and digital assets” Donald Trump has continued to actively burnish his crypto credentials. Last month he become the first US political leader to make a public transaction in Bitcoin at a crypto-themed New York bar and he also managed to find the time, in between assassination attempts, to launch World Liberty Financial, a DeFi project that seeks to connect crypto lenders and borrowers without the need for a centralized intermediary.

A crypto-supporter like Trump in the White House would certainly make a welcome change relative to the past four years. Biden-nominated Gary Gensler would be ejected from his role as head of the SEC on day one and would be replaced by someone with a more constructive and supportive take on digital assets. Such a pivot would not only go down well with the crypto bros, it would also make the federal government more aligned with large US tradfi institutions, who have definitely warmed up to digital assets over recent quarters. The latest evidence of this institutional crypto warming is the publication of a paper by BlackRock last month outlining how Bitcoin’s characteristics make it uniquely placed to serve as a portfolio diversification tool. The arguments put forward in the paper may have not broken new intellectual ground for those already in the crypto world, but that is not the point. Coming from the world’s largest tradfi asset manager such narratives boost crypto’s credentials with a wider, more diverse investment audience, which is a necessary condition for increased adoption.

Immediately after the first assassination attempt on Trump, the odds of him winning the November election surged to almost 70%. However, with Biden having dropped out and been replaced by Vice President Kamala Harris, Trump’s support has faded away.

According to the latest polls Harris has a 3.4 percentage point lead over Trump – see image – so it is probably fair to conclude that a Trump victory is no longer the base case for most investors. (Interestingly, prediction markets where users get paid out dependent upon the final result, suggest the race for the White House is somewhat closer with Harris ahead by only two points at 50-48). Hence, if Trump can rally sufficient political support in the final six weeks of the campaign in the swing states and secure enough electoral college votes to become the 47^th POTUS, then it could well be the catalyst needed to fuel a year-end crypto rally.

US Presidential Poll Tracker

Source: FT and FiveThirtyEight

1 As I have noted in previous notes, I am not a particular fan of seasonals when it comes to financial asset prices because it runs contrary to my belief that there are always a sufficient number of rational investors in order to effectively arbitrage out any consistent (and hence predictable) price patterns. That said, there is very obviously a strong calendar effect at this time of year which crypto investors clearly discuss so it would be remiss not to mention it.

2 The rebound in the GDPNow indicator should not be considered a guarantee that the US economy will not slip into recession shortly, it just means that the Q3 GDP data are expected to show that economic momentum remains decent until to and including the end of September. As I outlined in the previous monthly, non macroeconomic data indicators paint a much less rosy near-term growth outlook – see:

3 Actually the Fed has a triple mandate, the third one being to promote “moderate long-term interest rates” as outlined in the Federal Reserve Reform Act of 1977 . Most people, including the Fed, ignore this third mandate because it harks back to a period in the Fed’s history when monetary policy was set in support of facilitating government borrowing in the aftermath of the Great Depression and during World War II and this exposes the myth of policy independence that central banks like to perpetuate. The cost to investors from ignoring this third mandate has been minimal over the past few decades because delivering low inflation was sufficient to keep nominal interest rates moderate in a world where government budget deficits were small and debt levels low by historic standards. However, this is a world we no longer inhabit. Prudent investors understand this and are calibrating their portfolios accordingly. There are not many effective hedges when governments force the hands of central bankers and make monetary policy subservient to fiscal solvency. Gold is one option, which is why its price has risen to new all-time highs recently. Another, thanks to the IT revolution is Bitcoin, the digital equivalent of the yellow metal.

4 I see little risk of an immediate hard landing, ie recession in the next couple of months, but I am distinctly less confident than the Fed when it comes to next year. Much will depend upon how aggressive they are prepared to get if the US macro data turns decisively lower, admittedly this something they clearly know more about than I or anyone else outside of the FOMC.

5This lack of crypto conviction is rather surprising because it does not make much political sense for reasons I pointed out in a previous monthly update – see: https://trakx.io/resources/insights/shuban/