Given the continued economic uncertainty, crypto investors can expect more price volatility.
- The Federal Reserve raised interest rates by 0.50%, the biggest increase since 2000.
- Cryptocurrencies are struggling in the current economic and geopolitical climate and that doesn’t look likely to change in the near future.
The Federal Reserve just raised its key interest rate by 0.50%, the biggest increase since 2000. As The Economist points out, the last time it happened, “Bill Clinton was in the White House and the dotcom stock bubble had yet to burst.” Cryptocurrencies didn’t even exist.
Not only is this the biggest jump in a while, there’s a good chance this is only the first such jumbo rate rise. Some analysts expect further increases of 0.50% in June and July, with additional rate rises in the following months. Importantly, Fed Chair Jerome Powell ruled out an even bigger hike of 0.75% in the future, which some analysts had feared.
Why is the Fed raising rates?
The Fed’s job is to keep the economy as stable as possible, and raising or lowering interest rates is one tool in its arsenal. During the pandemic, the Fed introduced various measures designed to keep the economy going. Now, with inflation at 8.5% — and climbing faster than it has in 40 years — the Fed wants to put the brakes on.
At heart, raising rates makes it more expensive to borrow money. The idea is to slow spending and bring down inflation without triggering a recession, but that’s a hard line to walk. The idea is that the Fed can achieve what’s called a “soft landing,” which would mean cutting inflation without inflicting significant economic pain.
Rate rises aren’t the only economic tightening measure being used by the Fed. It is also selling off bonds to reduce its $9 trillion balance sheet. This essentially means there’s less money sloshing around the economy, and may help get inflation and spending back under control. But it also dampens demand for higher-risk assets such as crypto.
What it means for crypto investors
Put simply, aggressive rate hikes are not good for crypto prices and we can expect the current choppiness to continue in the short term. One of the reasons cryptos have struggled to gain any momentum this year is that people are pulling away from high-risk assets in response to a hawkish Fed.
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Cryptocurrency prices increasingly seem to follow equities, especially tech stocks, all of which are floundering. This is disappointing for those in the industry who view Bitcoin (BTC) as a hedge against inflation. So far, rampant inflation has not pushed huge numbers of people to buy more cryptocurrency.
What’s difficult to know is the degree to which the market has already priced in these rate increases. Today’s increase of 0.50% was widely expected. Bitcoin’s price increased slightly immediately following the announcement, probably because Powell said a 0.75% hike is unlikely. The real question is what will happen next — and how many more rate increases we can expect in the coming months and years.
Some fear a repeat of the crypto winter of 2018, but others argue that the cryptocurrency industry is in a very different position now than it was four years ago. That may be the case, but it’s also clear that we’re not in the same economic and geopolitical climate today as we were last year. It’s unlikely we’ll see altcoins pumping by over 5,000% as they did last year. Indeed, there’s still a chance that the price of Bitcoin and other cryptos may fall further.
Bitcoin is currently trading at over 40% lower than its all-time high, which can be difficult to stomach, especially for new investors. It won’t be easy to hold your nerve if it does fall further, and some investors may be tempted to cut their losses and sell. But if you sell at a loss, you won’t be able to benefit if prices go back up again — you’re locking in those losses.
The Fed’s activities are not the only unknown factor to impact crypto prices, we’re still awaiting more regulatory clarity, and the market is still in its infancy. This is one reason it’s important to only invest money you can afford to lose, especially with high-risk assets. If you don’t need the money in the short term, it is easier to wait out even significant periods of market volatility.
What matters is your long-term perspective on cryptocurrency. If you believe Bitcoin may be the digital money of the future, or that blockchain technology could transform whole industries, hold on to that rationale. None of us can predict the future, but as long as your thinking still holds true, it will be easier to weather what’s likely to be an ongoing crypto price slump.
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