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Nothing comes out 'unscathed': Here's what inflation in downcycle means for Bitcoin - Coinbase's David Duong

Kitco News

(Kitco News) Inflation in a recessionary environment is an entirely different beast to deal with for all assets, and Bitcoin is not an exception, according to Coinbase's head of institutional research David Duong.

The crypto market saw a sharp selloff this week, with Bitcoin tumbling 32% in the last seven days and trading at $20,464. And Ethereum, the world's second-largest cryptocurrency, falling nearly 40% on the week and last trading at $1,083.

The initial trigger behind the latest massive crypto drop was the macro environment. First, a surprising hot inflation number from May caught markets off guard, and then a 75-basis-point hike from the Federal Reserve on Wednesday, which marked the biggest rate increase since 1994.

To get an outlook on what's to come at the Fed's July meeting, click here

The dramatic shakeout in crypto also garnered steam following contagion risks from within the crypto community itself after a lending company Celsius said it was halting all transactions on its platform. To learn more about that, click here

Inflation is a complicated measure, and its impact on the crypto space will depend on the economic cycle the financial space will be in towards the year-end, Duong told Kitco News on the sidelines of the Consensus 2022 conference held in Austin between June 9-12.

"Inflation works very differently in an upcycle versus a downcycle. Inflation rising in a positive growth environment isn't a bad thing because the economy is growing at the same time. The problem that we have right now is that inflation is rising in a potential recessionary scenario. That is what makes things really complicated," he explained.

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Nothing can perform well in a recession, and Bitcoin won't be an exception from stocks, Duong added.

"I don't know if Bitcoin can perform under that down environment. JPMorgan's Jamie Dimon recently referred to the current economic cycle as a hurricane blowing in. If there's a hurricane and my car is broken, and my house has the windows broken, I don't say to myself, 'it's a correlation between that broken car and the broken house.' I say, 'there's a hurricane.' That is what people are missing when it comes to these kinds of situations," he said.

The correlation between stocks, risk-on assets, and Bitcoin seems very high at the moment. "I don't think anything really comes out unscathed in that. And unfortunately, Bitcoin's not an exception to that rule," Duong noted.

In terms of finding the bottom and whether $20,000 could be that level for Bitcoin, Duong pointed out that it is challenging to distinguish how much of this downtrend is macro-specific drivers versus some internal and idiosyncratic things relevant only to crypto.

"Trying to separate that is the hardest problem when trying to figure out what the bottom is because they're moving in tandem," he explained. "To people who are telling me that it's $20,000, it's hard to be right on that because it's hard to know how much these factors contribute to the performance of an asset like that."

Some of the internal factors impacting Bitcoin's bull cycles are elements like the hash rate and the halving, which is a 50% reduction in bitcoin's mining reward that is programmed to cut the pace of supply expansion every four years. "It does matter for supply and how it impacts the price of this," Duong said.

Positive headlines to watch that are specific to crypto and Bitcoin include innovations and new technologies — layer 2s. Also, the regulatory space — whether it will give this oversight that "we can hang our hats on," Duong said.

"Headlines are important. They're key to this space. This is a long-duration speculative asset at the end of the day. That means that probably over the long term if we believe in secular technology, it has a good chance to increase in value," he described.

These developments will be essential in the year's second half, especially with the sweeping Lummis-Gillibrand crypto bill, Biden's executive order, and all the related digital asserts reports coming out in September and October, Duong highlighted. "Once we get that, then maybe we can start talking about spot Bitcoin ETF."

Also, Bitcoin miners' activity is key to keep a close eye on in this downtrend because they are important Bitcoin HODLers, who are facing rising electricity costs.

"As they're setting up shop in the U.S., they must reckon with higher energy costs. How are they handling this? Are they being forced to sell reserves? These are all major themes to be looking at because these are technical factors that impact things from the flow side," Duong elaborated.

Also, financing is critical, especially regarding available supply when people are getting called on margin. "Are there any fund liquidations that contribute to that? And is there enough supply to fill those requirements?" he asked.

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.