The Fed Funds Rate has been hiked from 2.25 percent to 2.5 percent as of Dec. 19. The Fed Funds Rate is one of the most closely watched economic parameters since it determines the interest rate on interbank loans.
When the Fed Funds Rate is lowered, it makes cash more easily available and can help strengthen the economy, while an increase of the Fed Funds Rate can cause cash to become more scarce, which can have a detrimental impact on the economy.
since being lowered to 0 percent during the Great Recession of 2008, making this latest Fed Funds Rate hike not much of a surprise.
By November the market was expecting a rate hike after from its November meeting that indicated a rate hike was likely in December. Traders and investors began pricing in the rate hike early, with the Dow Jones Industrial Average (DJIA) declining 2,966 points (11.5 percent) since Dec. 3. The 1,200 points of this decline have occurred since the decision was announced on Dec. 19. The NASDAQ and S&P 500 have declined by similar amounts, and for a brief amount of time during trading on Dec. 21. The DJIA is now down on the year, and the chart actually looks quite similar to the trading that led up to the 2008 Great Recession.
It has been theorized that a downward moving stock market would cause Bitcoin to rally. This is because traders and investors can diversify into Bitcoin during times of stock market crisis, since Bitcoin is independent of the stock market and could, therefore, be considered a safe haven asset. In practice, this effect has not been consistently observed. That being said, the stock market has been in a strong and nearly continuous rally since Bitcoin launched in 2009, and the current stock market situation is one of the worst during Bitcoin’s lifetime.
Perhaps Bitcoin’s rally from $3,120 on Dec. 15 to $4,000 on Dec. 20 can be explained by stock traders and investors diversifying into Bitcoin as a safe haven due to the expectation that the Fed Funds Rate hike would be the straw that broke the camel’s back for the stock market. This speculation about the relationship between the Fed Funds Rate hike and Bitcoin is especially warranted since a large green candle from $3,750 to $4,100 occurred right after the Federal Reserve’s decision on Dec. 19.
Stocks have crashed before, and Bitcoin has not gone up, so we can speculate that this time is different. Perhaps numerous traders expect this to be the beginning of a serious stock recession the likes of which has not been seen since 2008, which is why we’re finally seeing this long-theorized relationship between the stock and crypto markets. Before now, stocks had been consistently rising or stable with no serious consensus that a stock recession was imminent, making Bitcoin an unneeded safe haven.
If this theory is true, perhaps the institutional investors that the crypto space has long been waiting for will finally come en masse, providing strong upward pressure on cryptocurrency prices. A positive feedback loop could easily take hold, where falling stock prices and rising cryptocurrency prices happen simultaneously, strengthening the outflow of capital from the stock market into the crypto space. Traders and investors will see that instead of losing money in the stock market, they could be making money with cryptocurrency. If this feedback loop reaches extreme levels, perhaps a powerful cryptocurrency rally could actually accelerate a stock collapse.