Bear Market Shows Cryptocurrencies Are No Inflation Hedge

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Be careful ! This week, there was a convulsion in global financial markets. The main US stock index, Standard & Poor’s 500, has fallen more than 20% from its peak, the technical definition of a bear. US high-tech stocks fell much more. Cybercurrencies plunge even further, with the biggest, Bitcoin, falling by more than half this year, with some others now worthless.

And now we get the response from the central banks of the world. Today, the Federal Reserve is expected to announce a rate hike. The Bank of England is widely expected to do the same tomorrow, and the only question either way will be how big the rate hike will be.

In Europe, the situation is slightly different as the European Central Bank has not yet changed, but has only signaled that it will raise interest rates next month. But it was enough to trigger debt ruin for the eurozone’s weaker economies, particularly Italy. The ECB held an emergency meeting this morning and issued a statement to calm the markets.

What we can learn from these last days

So there’s a lot going on. Whenever markets are boiling, the problem is determining what is new and important and what is just hype, and then figuring out what investors should do in that situation.

We learned new things these last days. The first is that central banks, especially the Fed, are extremely serious about fighting inflation. They admit that their previous position that inflation would be temporary was wrong. So they will stop quantitative easing – in effect, printing money – and raise interest rates. This will affect both the loan amount and the price. Borrowing will be more difficult and will cost more. We don’t know how high interest rates will go, but they will be higher than markets expected just a week ago.

Boring investments do better

Then we saw that the riskier the investment, the steeper the decline. It’s not just that go-go stocks, even successful ones like Apple, have fallen more than slow and boring stocks. The search for strong profits has led to an increase in the value of strong but outmoded companies. Thus, Apple shares have fallen 27% this year, while Shell shares have risen 34%.

One of the side effects of this transition into distress is that in relative terms, the UK market hasn’t performed too badly. The FTSE100 index of the largest companies listed on the London Stock Exchange has fallen just 3% since the start of the year, compared with declines of 21%. for S&P500, 15%. for the German DAX index and 16%. for the French CAC index. However, the price of medium-sized companies in the UK has suffered badly and the FTSE250 index is down 19% compared to last December. So there is nothing to celebrate there.

We also learned that investors want dollars when they are scared. They may not want US stocks, but they want currencies. The dollar is currently at its highest level in 20 years against the basket of currencies. The pound has been hit by concerns over the UK economy, but this push to $1.20 is partly a function of the dollar’s appreciation against everything else. The American bank Wells Fargo estimates that the euro will fall to parity with the dollar, which has not been the case since 2002.

You can’t rely on cryptocurrencies

Finally, the simplest and most severe lesson of all. Cryptocurrencies are not an inflation hedge. It was a tempting idea that money from the private sector would be safer than the fiat currency created by governments. Crypto was supply-limited, decentralized, and immune to political pressures, all attributes that government money lacked. Now we know that was wrong. The traditional hedge against inflation, gold is not a perfect hedge, but it has performed better than any cryptocurrency. It was around £1,350 an ounce on January 1 and is now over £1,500.

How can these lessons of the last few weeks be applied? It’s a huge question, and everyone’s circumstances are different. The best answer is that investors should spread their risk. Bear markets typically last between nine and 18 months. We may not be at the bottom yet, but no one knows where it will be, and in the meantime, it has value. All over the world, there are decent and solid companies making profits and paying dividends. The current dividend yield on the FTSE100 is around 4%. Historically, stocks have offered protection against inflation. There may be a global recession that will hit earnings, but if it does, there will also be a recovery. There is such a thing as a business cycle, even though Gordon Brown thought he had endured boom and bust.

So we shouldn’t be afraid of a bear market, just as we shouldn’t be afraid of rising interest rates. I think we can get out of this without a recession this year. But if there is a recession, there will be a recovery and, in the meantime, there will be investment opportunities. Warren Buffett, the legendary American investor, said in 1986: “We just try to be afraid when others are greedy, and we only try to be afraid when others are afraid. This certainly applies as much today as it did then.

I need to know

What surprised me the most last week was the weakening of European bond markets. Financially, it was much bigger than the cryptocurrency crash because the markets are so much bigger. The total value of the Eurozone’s national debt is around $13 trillion, roughly the same as GDP. The total value of all cryptocurrencies is less than $1 trillion.

But bond markets still receive less attention than stocks or cryptocurrencies because they are less fashionable. As mentioned above, the ECB held an emergency meeting as the yield on Italy’s 10-year debt rose above 4%.

With Italy more indebted in absolute terms than any other European country after France, the danger of default comes from the unspoken fear of all European bankers.

Earlier this year, the yield on Italian 10-year sovereign debt was 1.2%. On Tuesday evening, it jumped to almost 4.2%. While Italy has been able to service its debt when interest rates are very low, as has been the case over the past decade, servicing 4% becomes much more difficult.

Markets are terrifying

True, not all debts that need to be refinanced will appear this year or next year. So for a while Italy, like any other borrower, was insulated from rising interest rates. In this sense, it is the same as a mortgage holder with a fixed interest rate for the next few years. But the markets are scared.

In any case, the assurance that the ECB was on the issue (even if the language was bland) reduced debt profitability. Yesterday it fell back to 3.8%. However, if global long-term interest rates continue to rise, pressure on weaker borrowers will persist. When it comes to the euro, Italy is the weakest link.

Italy will have to leave

But Mario Draghi is now Prime Minister of Italy and I noticed that one of his advisers said this week that the ECB made a mistake in raising rates. The Prime Minister’s Office said he was speaking as a private person, but it would be surprising if he said anything that Mr. Draghi did not agree with. In any case, the pressure from Italy on the ECB to keep rates low, thus easing the pressure on Italy, is already visible.

Where does it stop? I don’t know, but I see another euro crisis looming. I think Italy will have to leave eventually, but it’s impossible to guess how and when.

My new book on the future of the global economy, The World 2050, is available here. I would like to accept your thoughts on this.

This is Hamish McRae’s Armchair Economics, a subscriber-only newsletter from and If you want it delivered straight to your inbox, you can sign up here every week.

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