Analysis: The impact of continued rise in US debt on the cryptocurrency market

As U.S. Treasury yields continue to rise, it has undoubtedly posed a certain threat to global financial assets, and liquidity is gradually fading, which may first affect highly valued and highly speculative products.

In fact, the U.S. Treasury yields have bottomed out and rebounded since August 7 last year. At the Federal Reserve meeting on August 7, 2020, Federal Reserve officials collectively voiced their opposition to negative interest rates. Since then, the U.S. Treasury yields have been capped at the lower limit, and gold and silver have peaked. At this time, the rise in U.S. Treasury yields did not cause a big impact on the financial market. On the one hand, it was because of excess market liquidity, and on the other hand, it was because of the continued decline in U.S. Treasury yields. It was not until the Democratic Party unified both houses that U.S. Treasury yields began to rise sharply. A survey on January 2, 2021 showed that the two Democratic candidates had a slight advantage over the Republican candidates, which meant that the probability of the Democratic Party becoming the majority party in the Senate increased significantly, and the corresponding 10-year U.S. Treasury yield began to rise rapidly, as shown in Figure 1 below.

Figure 1

Bond traders have been betting since January 3 that the Democrats will gain control of both houses of Congress, as this means that subsequent large-scale fiscal stimulus is possible. Judging from Biden's policies, inflation levels will continue to rise. The current Fed policy goals also allow inflation to exceed 2% in the short term and an average of 2%, but if it exceeds 2% significantly, the Fed will inevitably intervene. Under this inflation expectation, Treasury yields have risen, but it should be noted that the increase in interest rates brought about by higher inflation expectations is achieved based on the market's expectations of the Fed's inflation management.

Based on this background, when Saudi Arabia announced a unilateral production cut in January, crude oil prices soared in February. The surge in crude oil prices led to a further rise in inflation expectations. Due to the impact of the 2020 epidemic, the shutdown of manufacturers led to a sharp decline in inventory. With the support of fiscal stimulus, some commodities have a supply-demand gap, resulting in a sharp rise in commodities, which further pushed up inflation expectations and pushed interest rates higher. It is also worth noting that the Fed's countercyclical regulation partially distorted the trend of Treasury yields. It was not until August 7, 2020 that the Fed collectively opposed negative interest rates. The change in the Fed's attitude led to the return of the Treasury market. Previously, the expectation of further easing by the Fed suppressed the upward trend of Treasury yields, and inflation was the first to react in the market. Now that inflation expectations have peaked, the sharp rise in interest rates corresponds to a sharp rise in real interest rates, and therefore we see a sharp drop in gold prices.

The sharp rise in the long-term Treasury yields has exerted great upward pressure on the near-term Treasury yields. From Figures 2 and 3 below, which show the trends of the 2-year U.S. Treasury yields and the 3-year U.S. Treasury yields respectively, we can see that the rise in the long-term has exerted great upward pressure on the near-term.

Figure 2

Figure 3

On February 25, the U.S. Treasury auctioned $62 billion in 7-year Treasury bonds, but the subscription multiple, which measures demand, hit a record low of only 2.04, and was far lower than the average subscription multiple of 2.35 in the previous six auctions. Since then, the yield on 10-year U.S. Treasury bonds has risen rapidly and exceeded 1.6%. This has reminded the market of the Fed's operation ten years ago, namely the "twist operation" - the Fed sold short-term and bought long-term to ease liquidity.

The rise in short-term interest rates is not friendly to highly valued and highly speculative products. For Bitcoin, we can see that it has risen five times since the outbreak. This is due to the involvement of both long-term investors and short-term speculators. High speculation will inevitably lead to high turnover rates. From the perspective of turnover rate, the average turnover rate of Bitcoin is roughly around 5%, and the impact of short-term interest rate increases on Bitcoin is limited, but attention should still be paid to changes in market liquidity. If a liquidity crisis occurs, the demand for additional liquidity brought about by the sharp decline in other assets will inevitably lead to the risk of concentrated selling of Bitcoin. This may be unbearable for the short-term liquidity of Bitcoin and may lead to larger-scale selling. But in the long run, this may provide retail investors with a good opportunity to get on board, because in the long run, Bitcoin still has value to hold. ( New Bloc)

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