Consensus Lab: The end of interest rate hikes is approaching, optimistic about Q2's upward fluctuations

Author: Consensus Lab

TLDR:

• Interest rate hikes are nearing their end, liquidity is marginally improving, and macro conditions are getting better, expecting the market to fluctuate upward.
• On-chain liquidity is declining, and the altcoin season lacks narratives, holding Bitcoin may be a better choice.
• Regulatory events are short-term bearish and long-term bullish, the Crypto industry will continue to face challenges.

In March, we experienced multiple negative events including the SVB collapse, USDC de-pegging, Credit Suisse being acquired, and the US regulatory authorities suing Binance. Bitcoin briefly fell below $20,000 but surged back to around $28,000 in just a week. In our research report published on March 3, titled "Seizing Q1 Pullback Opportunities, Waiting for the Clouds to Part and the Moon to Shine," we emphasized that a deep pullback would provide good layout opportunities. Looking ahead to Q2, we believe interest rate hikes are nearing their end, macro conditions continue to improve, and we are optimistic about Bitcoin's upward fluctuations; regulatory events may occasionally disturb the market, but in the long run, they will benefit the healthy development of the industry, and short-term bearishness will also bring bottom-fishing opportunities.

Macroeconomic Environment: Interest Rate Hikes Nearing Their End, Marginal Liquidity Improvement

To address the banking liquidity crisis, the Federal Reserve introduced liquidity tools like BTFP, reopening the "tap." In just a week, Bitcoin soared from $20,000 to $28,000, and gold rose from $1,800 to $2,000, with the speed and magnitude of this increase being hard to believe. In our previous research report "Seizing Q1 Pullback Opportunities, Waiting for the Clouds to Part and the Moon to Shine," we stated that the Federal Reserve is likely to stop raising rates by mid-year. The March banking liquidity crisis provided the market with a reason for investors to buy in ahead of the Fed's shift to easing.

Figure: Bitcoin and gold surged after the SVB incident

However, combating inflation is not easy, and the Federal Reserve's determination in this regard should not be underestimated. In February, the US core CPI rose by 0.45% month-on-month, slightly above market expectations and the previous value (0.4%). This was mainly due to rising prices in services, and recent data shows that used car prices in the US are rebounding. Therefore, the CPI in March may be slightly higher than expected. Inflation remains one of the main concerns for the market, and significant fluctuations may occur when important inflation data is released.

Figure: US core CPI month-on-month growth remains strong

In the March FOMC decision, the Federal Reserve raised interest rates by 25 basis points as expected and emphasized that there would be no rate cuts this year, dispelling overly strong market expectations for rate cuts. Bitcoin briefly fell below $27,000 that evening. It is worth noting that the Federal Reserve removed the phrase "sustained rate hikes" from the economic projections summary, replacing it with "some additional policy tightening."

Due to the potential for banking risk events to lead to credit tightening, the impact on the economy is equivalent to raising interest rates, so there is less need for monetary policy to act. The Federal Reserve will maintain high rates for a period to suppress demand and curb inflation. This means that interest rate hikes are nearing their end.

Figure: The Federal Reserve's interest rate hikes may be nearing their end

Although Powell has repeatedly emphasized high inflation and a strong job market, the Federal Reserve's swift actions regarding banks indicate that inflation risks have given way to financial risks. If significant risk events occur, the Federal Reserve will continue to provide support. While liquidity tools like BTFP differ from traditional quantitative easing policies, "injecting liquidity is still injecting liquidity, and liquidity improvement will also boost asset prices.

Figure: The Federal Reserve has resumed releasing liquidity

In summary, the macro environment is shifting in a favorable direction, which will drive risk assets to fluctuate upward. The Federal Reserve has relaxed its tightening stance and is willing to support liquidity risks, indicating that the macro environment has quietly changed. Although the decline in inflation may not be smooth, if important data like CPI exceeds expectations, the market may adjust in the short term, but it will quickly regain optimism. Considering that interest rate hikes are nearing their end and liquidity is marginally improving, we expect assets like Bitcoin and gold to benefit, with the overall trend for the year being upward fluctuations.

Bitcoin Shines Alone, Altcoins Lack Highlights

Despite Bitcoin rising over 30% in March, the total market capitalization of stablecoins continued to decline, indicating that no new funds are entering the market. The banking liquidity crisis has once again made people aware of Bitcoin's safe-haven properties, driving its significant rise, while altcoins have performed mediocrely. We believe this reflects a lack of liquidity, with on-chain funds only able to support Bitcoin's rise.

Figure: Total market capitalization of stablecoins continues to decline

From Kaiko's liquidity indicators, Bitcoin's market depth has fallen to a 10-month low. Binance stopped waiving trading fees for BTC/USDT spot trading on March 22, exacerbating the liquidity deterioration. When market depth declines, the amplitude of market fluctuations may increase, making false breakouts and false breakdowns more common.

Figure: Bitcoin's market depth has fallen to a 10-month low

Additionally, the token issuance of Arbitrum has also impacted market liquidity. The total value of Arbitrum's airdrop exceeded $1 billion, and some professional airdrop studios gained considerable profits from it, but they need to withdraw these funds to pay for rent, salaries, and bonuses, which may permanently exit the market, further weakening liquidity.

Figure: Professional airdrop studios gained a large amount of $ARB

Of course, the amount of funds needed to drive altcoins up is not large; as long as Bitcoin fluctuates within a range, funds may flow into altcoins. However, in the absence of narratives, only a few altcoins can rise, and their rise in magnitude and sustainability is difficult to grasp. The Ethereum Shanghai upgrade will bring considerable selling pressure to the market, and Ether's performance has also been relatively weak recently. At this stage, holding Bitcoin may be a better choice, patiently waiting for the next narrative to emerge.

Futures: Short-term Bullish Sentiment is High, "Buying Low" is Better than "Chasing High"

Currently, GMX's long positions amount to $154 million, while short positions are $71 million, with long positions accounting for nearly 70%. Compared to early February, when long positions accounted for over 80%, this is a relatively high level, but there is still potential for an increase. Considering the decline in liquidity and the increase in false breakout scenarios, "buying low" has a better risk-reward ratio than "chasing high."

Figure: GMX long and short position ratio

Regulatory Events are Short-term Bearish, Long-term Bullish

In March, US regulatory agencies took consecutive actions, including the SEC suing Justin Sun, issuing a Wells Notice to Coinbase, and the CFTC suing Binance. In the short term, the final outcomes of these events are difficult to predict, and market sentiment will be negatively affected. However, these industry giants have strong legal teams and ample preparation to negotiate with US regulators, and the outcomes may not be as bad as we imagine.

On March 22, the US Securities and Exchange Commission (SEC) officially sued Tron founder Justin Sun, accusing him of illegal securities sales, fraud, and market manipulation, and also charged him with separate violations related to his celebrity supporters in the crypto assets space.

On March 22, the SEC issued a Wells Notice to Coinbase, the largest cryptocurrency exchange in the US, planning to take enforcement action against it.

On March 27, the US Commodity Futures Trading Commission (CFTC) filed a lawsuit against Binance and its founder and CEO Changpeng Zhao, accusing them of providing illegal derivatives trading for the sake of rapid growth and concealing violations.

In the long run, the gradual improvement of regulations will help more institutions and retail investors participate in the market, preparing for larger capital inflows. Regardless of the final outcomes of regulatory events, the cryptocurrency market will continue to develop and innovate, facing various challenges.

Conclusion: Q2 Outlook is Optimistic for Market Fluctuations Upward

Looking ahead to the second quarter, interest rate hikes are nearing their end, and macro conditions will become more favorable. Bitcoin may continue to lead the way, while the altcoin season still lacks a good story. On-chain liquidity is declining, and false breakout scenarios are increasing, making "buying low" preferable to "chasing high." Although US regulators seem to have set their sights on the Crypto industry, in the long run, the improvement of regulations will benefit larger-scale users and capital entering the market. We are optimistic about the market performance in Q2, expecting Bitcoin to continue fluctuating upward.