Crashing Gradually, Then Suddenly

By now, you have likely been inundated with headlines about today’s cryptocurrency crash.  As with many events of this type, the move in bitcoin is best summed up by paraphrasing Hemingway: “Gradually, then suddenly.”[1]

On Monday, we wrote:  “The 200 day moving average of bitcoin is in the 39,000 – 40,000 level.  Let’s see if we test that range in the coming days, and whether we see tweets that support a bounce if we get there.”  We made that statement because bitcoin had already been rolling over and in a bit of a short-term downtrend after moving more or less sideways for the prior few weeks.  Think of it this way, we don’t usually concern ourselves with downside support levels unless the product in question is in danger of testing them.  We had been writing at length about the cracks that had begun to form in bitcoin’s narrative, most recently about our skepticism that climate worries were the true reason for Tesla’s (TSLA) abrupt turnaround on accepting bitcoin as payment.

The proximate reason for today’s drop was a range of news reports that China was cracking down further on cryptocurrencies.  This should have surprised no one.  The Chinese government has never been a fan of bitcoin.  Cryptocurrencies are antithetical to a centrally controlled system, and the Chinese government has not been shy about exercising its influence over financial entities that attempt to flout its rules.  Yet another piece of negative news was exactly what the crypto markets did not need at this time.  A healthy market takes bad news relatively in stride.  An unhealthy market reacts poorly to bad news.  Bitcoin received the news while in a tenuous situation.

While we were correct in raising the possibility that Bitcoin would test its 200 day moving average, it was stunning to see how quickly that test failed.  The following chart tells the story better than I can.  The moving average support was pierced, and bitcoin quickly plunged to the 30,000 level that proved to be support earlier this year.  That represented about a 30% plunge on the day, so it was not surprising to see bargain hunting at that level:

One Year Bitcoin Chart with 50, 100, 200 Day Moving Averages

Source: Bloomberg

I find it fascinating that the prior dip culminated in late January – the same time that “meme stock mania” was at its peak.  I believe the two are not unrelated.  If one is the type to be enamored with meme-type narratives, cryptocurrencies offer a purer meme.  Cryptocurrencies are unencumbered by earnings, revenues and much of the regulation that encumbers even meme stocks.  I continue to assert that the decline in volume that we saw across equities (including penny stocks) and call options was largely because the most speculative traders – those who often conflate trading with gambling – had moved on to cryptos.

With equities broadly lower today, (though not to the degree of cryptos), it is tempting to assert that the crypto plunge is weighing on stocks.  To some extent that must be true.  Although the two markets are only intertwined tangentially, money is always intertwined tightly.  If one is losing money in any product, it affects the holder’s psychology in other products.  Money is money, no matter how it is invested.  But I think much of the reaction in stocks is related to an odd coincidence of timing.

This morning happened to be the one when VIX futures expired.  VIX futures always expire on the Wednesday before a Friday expiration.  I believe that nervousness or hedging ahead of this morning’s expiration was the cause of the unexpected late decline in the S&P 500 Index (SPX) yesterday afternoon.   The follow-through selling in overseas markets was already weighing on ES futures and SPX even before the full extent of the crypto collapse.   The crypto fiasco was simply piling on top of SPX.  In a microcosm, SPX was already falling gradually, then suddenly.

2 Day Intraday Chart of SPX

Source: Bloomberg

We are writing this ahead of this afternoon’s release of Federal Reserve Minutes.  Those will provide a fundamental basis to either buy this morning’s dip or whether the drop continues.  Dip buyers who bought the lows in bitcoin have already been rewarded, and we are trading off the lows in SPX.  If we see a bounce in SPX after the Fed minutes, we can say that it recovered gradually, then suddenly.

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[1] The quote “gradually, then suddenly” comes from “The Sun Also Rises” in response to a character being asked how he went bankrupt.  I’m not suggesting that any major players went bankrupt today, nor wishing that on anyone.