Bitcoin is stuck below $38,000 as investors deposit a record $756 billion with the Fed.

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Bitcoin bulls took shelter when the Federal Reserve began paying interest rates on cash deposits through its reverse buyback programme.

Bitcoin (BTC) fell after a record quantity of cash was transferred into the Federal Reserve’s overnight facility after the central bank began paying interest on the money.

The U.S. central bank received $756 billion via its reverse repurchase program from nearly 70 market participants on Thursday. The stash is about $172B higher than the one deposited last week and roughly $235B more than on Wednesday, wherein only 53 investors tapped the facility.

A reverse repo facility takes in cash majorly from money-market funds and government-sponsored banks. Until Wednesday, the service offered eligible users a return interest of zero percent.

But after the Federal Reserve signaled faster and sooner interest rate increases — in 2023 instead of previously anticipated 2024, the facility moved its revere repo rate up to 0.05% and interests on excess reserves rates, which banks deposit 0.15% from 0.10%.

Fed’s rate tweaks supercharge demand. Source: FT, Federal Reserve, Bloomberg

Putting excess cash to earn interest

Primarily due to quantitative easing for the U.S. economy, excessive dollar liquidity has been pouring into money market funds that later invest this in short-term government securities. Higher demand for those securities has often sent their yields into negative territories.

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Total financial assets held in Money Market Funds before and after recessions (shaded). Source: FRED

Since March 2020, negative-yielding securities in reaction to the Fed’s quantitative easing have been one of the key positive triggers for Bitcoin and other digital assets. When compared to traditional debts, the cryptocurrency sector offered higher returns and, in certain circumstances, stable income from the developing decentralised finance business.

However, with the Fed throwing a curveball into the markets with its aggressive tones, conventional investors have started turning to facilities that appear to be less hazardous than Bitcoin or gold while yet promising a respectable income. As a result, the Fed’s repo market experiences its largest incoming cash influx.

“We appear to be seeing a growing inversely proportional correlation between the price of Bitcoin and the Reverse Repo market from the Fed,” said Petr Kozyakov, co-founder and CEO at crypto wallet service Mercuryo. He added:

“Many investors choose the more volatile Bitcoin as it promises higher returns. However, with the current market trends, some BTC investors are perhaps offloading their positions as the dollar outlook is vital at this point.

The U.S. dollar, also considered a haven against market uncertainties, rose to 92.70 against a basket of top foreign currencies this Friday. That marked the greenback’s highest level since mid-April. Bitcoin reacted negatively to a stronger buck.

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Bitcoin and the U.S. dollar index’s response to the Fed’s rate hike signal [so far]. Source: TradingView.com

Bitcoin shall overcome?

The rise of the dollar, according to Raoul Pal, founder/CEO of Global Macro Investor, has effectively destroyed the inflation story. Nonetheless, the macroeconomic researcher emphasised that the Fed’s tapering difficulties would not have a long-term impact on alternative hedging assets such as Bitcoin and gold.

He highlighted that the US government has a tendency to push through larger stimulus packages, which grow the Fed’s balance sheets. That implies the central bank will continue to acquire government debt, lowering bond rates. Pal stated:

 

“My view remains that H2 is weaker than expected and inflation fears subside for now, and growth looks patchy. That results in more stimulus (not tightening) in Q4.

U.S. 10-year Treasury note yield dropped after every recession since 1980. Source: Bloomberg, Global Macro Investor

The analyst added that the dollar’s recovery trend would stabilize in the second half of 2021. Eventually, the capital would start flowing back into gold and crypto markets.

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