Overreaction to speculation about interest rates?

The release of the US Jobs and Labor Turnover Survey (JOLTS) rocked the cryptocurrency and stock markets early Tuesday. Prices fell sharply, with major cryptocurrencies such as Bitcoin, Ethereum or Dogecoin seeing a 5-8% drop within a day, with other altcoins unable to avoid the repercussions.

According to the JOLTS report, job opportunities exceeded expectations of 7.730 million, reaching 8.098 million jobs. This sign of a healthy job market is usually viewed as good news. In theory, a strong economy should boost investor confidence and push markets higher. However, the response of the cryptocurrency market was quite the opposite, with over $200 million worth of crypto assets liquidated in just one hour. Was this an example of over-selling fear?

Strong US employment data has caused a sell-off in the market because investors are now anticipating steady inflation and the possibility of the Federal Reserve cutting interest rates anytime soon. They are relevant because interest rate cuts are taken into account Bullish for BitcoinMonetary easing weakened the US dollar and increased demand for high-risk assets. The digital asset market has benefited greatly from lower interest rates, as cryptocurrencies often exhibit more volatile price fluctuations. After the US central bank raised interest rates sharply in 2022 to fight inflation after the Covid-19 pandemic, Bitcoin became less attractive to investors.

Even with the Federal Open Market Committee meeting in two weeks to set interest rates, strong fundamentals in a healthy economy usually encourage market rallies. However, a negative market response to a positive economic indicator, especially from major financial institutions like Wisdom Tree, seems counterintuitive. What is behind this behavior?

Excessive reliance on liquidity

Not cutting interest rates means less liquidity for riskier markets, including cryptocurrencies and stocks. As a result of higher-than-expected US jobs data, and thus stricter Fed policies, cryptocurrency traders are following the assumption that lower capital inflows will lead to downward trends. However, this focus on liquidity may not be as reliable a measure as many traders believe.

Liquidity is important for several reasons: smoother trading, better price valuations, or maintaining price stability. However, as economist Alex Krueger points out, there is no strong evidence that increased liquidity directly affects riskier assets; Market participants focus on predicting what will happen in the short or long term. Just because a stock has deep liquidity doesn’t mean the company’s financial health doesn’t matter to its pricing.

In other words, when financial markets prioritize liquidity analysis over the broader landscape, positive economic news can turn the chart negative.

Bigger macroeconomic picture

The resilience of the US economy remains top of mind for many investors, with inflation persisting and monetary easing not being on the table at the moment. While these dynamics create a challenging environment for cryptocurrencies and other risk-exposed markets, a shift in political leadership could be catalyst enough. With Bitcoin reserve plans and a pro-crypto administration, investors are anticipating bullish momentum as Donald Trump enters the White House on January 20.

Was this selling excessive fear then? Considering the significant 7.6% decline in the market capitalization of all cryptocurrencies due to liquidity expectations that lack empirical evidence to impact markets like stocks, this could actually be interpreted as excessive.