The recent growth in demand for US Treasuries reflects investors’ expectations of a prolonged downward trend in inflation. An event that coincides with the yield of these bonds reaching their highest level in the last 3 months can lead to the elimination of the inverse correlation between the price of Bitcoin and these assets.
According to Cointelegraph, US government bonds, or Treasuries, have a significant impact on all financial markets, including Bitcoin and Ethereum. For this reason, calculating the risk of financial markets such as loans, mortgages and even derivatives of digital currencies will be relative and depends on the cost of capital (Cost of Capital) of the US dollar.
Assuming a worst-case scenario in which the US government defaults on its debt, what will happen to the individuals, businesses and countries that have invested in these bonds? Inability to pay interest debt (bond interest payments) will likely cause a global shortage of the US dollar and create a cascading effect.
History has shown us that digital currencies can be a solution to avoid risk during periods of economic instability. For example, during the trade war between the United States and China in May 2021 (May 1400), Bitcoin far outperformed traditional assets that are purchased with the goal of preserving wealth. The price of Bitcoin grew by 47% between May 5 and May 31 (May 15 to June 10) of the same year, while the Nasdaq index fell by 8.7 percent.
With more than $29 trillion in the public’s capital, US Treasuries are generally considered the least risky financial product available. However, the price of these government bonds, or the interest paid, will vary depending on the maturity of the contract. Considering the assumption that there is no counterparty risk for this category of assets, the only important factor in their pricing is inflation expectations.
Based on what we have said so far, we will examine whether the price of Bitcoin and Ethereum will be affected by the increase in demand for US Treasuries.
Decline in government bond yields as demand grows
If an investor believes that inflation will not be contained anytime soon, they are likely to seek higher profits when trading Treasuries. On the other hand, if the US government actively devalues its currency or if inflation is expected to increase, investor demand for US Treasuries will increase, causing their yields to fall.
Note how the yield on 5-year treasury bonds reached 4.05%, its highest level in the last 3 months, on June 22 (July 1). This growth happened while the US consumer price index, the inflation rate, reached 4 percent in May, the lowest growth rate since March 2021.
The 4.05 percent yield suggests that investors don’t expect inflation to fall below the Federal Reserve’s 2 percent target anytime soon, but it also suggests that the peak of 9.1 percent in June 2022 has been passed. However, Treasuries are not priced this way; Because investors prefer to give up more profit in lower risk and safety of their capital.
US Treasury yields are a great tool for comparing the debt of other countries and companies, although not in absolute terms. These government bonds will reflect the inflationary expectations, which in the form of their profits will decrease sharply with the increase in the probability of a global recession.
The usual inverse correlation between the price of Bitcoin and US Treasury yields has become invalid over the past 10 days, most likely because investors are aggressively buying government bonds to keep their capital safe, even if their yields are lower than Inflationary expectations.
The S&P 500 index, which measures the performance of the US stock market, reached 4,430 on June 16, just 7.6 percent below its all-time high. This could also explain the higher yield. While investors typically seek rare, inflation-protected assets before periods of economic turmoil, their appetite for overvaluation of dividends has waned.
The negative impact of recession risks on returns
The only thing that can be said with certainty right now is that investors’ expectations for a recession are becoming more apparent. Apart from Treasury yields, the US Conference Board’s main indexes have declined from their 14-month trend. Charlie Bilello explained about this:
We forecast the US economy to contract in the third quarter of 2023 through the first quarter of 2024. The reason for the continuation of the recession will probably be the contractionary monetary policies of the Federal Reserve and the reduction of government spending.
This prediction will disappoint those who bet that the recent invalidation of the inverse correlation between the price of Bitcoin and US Treasury yields will quickly reverse. The data confirms that government bond yields are higher than usual due to increased expectations of economic recession and the coming economic crisis.