Bitcoin (BTC) continues to build bullish momentum, hoping that financial stability risks and signs of economic slowdown will force the U.S. Federal Reserve to pivot away from aggressive liquidity withdrawal measures.
However, some observers are unconvinced the Fed will abandon or dramatically slow the so-called liquidity tightening anytime soon, and they expect renewed dollar strength.
The top cryptocurrency by market value reached a high of $20,150 soon before press time, registering a 2% gain for the day. The dollar index fell to a nine-day low of 11, having hit a two-decade high of 114.77 on Sept. 28.
Bitcoin buyers stepped in on Monday after the U.S. Institute of Supply Management (ISM) said its manufacturing purchasing managers’ index (PMI) dropped to 50.9 in September, the lowest reading since May 2020, from 52.8 in August. Notably, the index's new orders and employment measures contracted, strengthening the case for the Fed pivot.
"It’s been a case of ‘bad news is good news’ for equities, with the market treating the downside surprise to the ISM index as increasing the chances of an earlier Fed pause, seen as positive for risk assets," Bank of New Zealand's research team wrote in clients early Tuesday. Bitcoin tends to move more or less in line with equities and has halved this year in terms of market value, with the Fed raising rates by 300 basis points.
Expectations that the Fed and other major central banks would slow tightening gripped the market last week after the Bank of England (BOE) announced a bond purchase program, popularly known as quantitative easing, to ensure the orderly functioning of the government bond market.
"What the Bank of England did was a template for what others are likely to do," Ed Yardeni, president of Yardeni Research, told Bloomberg. "The soaring dollar has been associated in the past with creating financial crisis on a global basis. We have to have a global perspective on this."
Fed funds futures
Futures trading in federal funds suggests that traders are again pricing rate cuts from May 2023. And while the market still sees a high chance of yet another 75 basis point (0.75 percentage point) rate hike next month, the pricing for the terminal rate – the expected high point for this interest-rate-hiking cycle – has come down to 4.4% from 4.75%.
However, analysts at ING believe central banks' inflation fight is far from over.
"Markets are smelling blood in the water, but do they have enough evidence to price a policy turnaround? Not yet in our view," ING's analysts wrote in a note to clients. "The BoE’s reluctance to buy gilts [U.K. government bonds] is a sign that it hasn’t given up the fight against inflation."
While some Fed speakers have recently expressed concerns about the spillover effects of a stronger dollar, ING analysts are of the opinion that economic conditions don't warrant a pivot.
"Despite somewhat weaker-than-expected ISM manufacturing figures yesterday, the U.S. domestic story remains rather solid, leaving the Fed tightening prospects alive even if markets have recently revised the expected terminal rate to sub 4.50% levels," analysts said in a note explaining why the dollar pullback may not have legs.
Analysts added that Friday's non-farm payrolls (NFP) – the U.S. Labor Department's monthly jobs report for September – might trigger a hawkish or pro-tightening repricing of Fed expectations.
Swedbank's Chief FX Strategist Anders Eklof said in a daily note that the recent rally in risk assets is mainly a function of an oversold market benefitting from the BOE intervention, and it could falter.
"A U.S. NFP on the weak side is needed to keep the rally going. Best guess is dollar will soon be bought back," Eklof noted.