The Bitcoin and the S&P 500 Index have historically shown a near-perfect correlation with net liquidity, a key market metric often overlooked in market analysis.
However, as of June 2023, this correlation appears to be waning, potentially signaling a significant shift in market dynamics.
Net liquidity is calculated by subtracting ‘current liabilities’ from ‘liquid assets.’ In the context of the Federal Reserve, it involves deducting the amount in the Treasury General account and the value of overnight reverse repurchase agreements from the Fed’s balance sheet. This metric provides a snapshot of the Federal Reserve’s market intervention scale and has been a significant market driver, especially since the 2008 financial crisis.
The Federal Reserve’s balance sheet size was a relatively unimportant indicator until the 2008 financial crisis. To combat the effects of the crisis, the Fed embarked on a historically unprecedented bout of quantitative easing, drastically increasing its balance sheet. This rapid increase in liabilities provided valuable insight into the scale of the Federal Reserve’s market intervention.
However, the correlation between net liquidity and asset prices changed in 2020. Despite the Federal Reserve nearly doubling the size of its balance sheet, adding $3.4 trillion between August 2019 and June 2020, the financial market in the U.S. quickly recovered from the historical crash in March 2020 and went on to post all-time highs. This led many analysts to hypothesize that the Fed lost its position as the U.S.’s primary market driver, replaced by the excess liquidity circulating in the economy.
However, contrary to historical trends, net liquidity hasn’t been the primary market driver of the S&P 500 recently. A select group of technology and AI stocks predominantly propelled the index’s performance. These stocks defied the overall bearish market trend, suggesting a changing dynamic in the market.
Yet, a closer examination of the index paints a different picture. Previous CryptoSlate analysis found that excluding these outlier stocks from the index reveals a relatively stagnant performance. This suggests that…
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