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Everything you need to know about crypto decoupling

Everything you need to know about crypto decoupling

Everything you need to know about crypto decoupling
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By CNBCTV18.com Jul 5, 2022 3:39:22 PM IST (Published)

As the name itself suggests, decoupling means the dissociation of two different elements. Coupled assets show similar movement on the charts. Decoupling occurs when the NASDAQ (or S&P 500) and Bitcoin move in a separate direction, independent of one another.

In finance, when two assets become coupled with each other, it means that their price movements are usually corelated with one another. It’s a phenomenon that is increasingly being observed between the decentralised and traditional finance ecosystems.

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Cryptocurrencies like Bitcoin were initially designed to create a payments system that was trust-less, permission-less, and decentralised. However, over time, blockchain technology is gradually being absorbed into traditional finance. Instead of transforming the present financial framework with a decentralised one, we are now monitoring the price movements of cryptocurrencies, just like we would with stock or any form of the mainstream finance industry.
Experts believe that despite having been created to transform finance and not depend on it, cryptocurrencies also move according to the overall state of the economy. Even the interest rate hikes by the US Federal Reserve are influential enough to move the crypto markets. This increased correlation was not anticipated at the time of releasing the Bitcoin whitepaper.
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So, if cryptocurrencies were never created to benefit traditional finance or depend on it, how can they be steered back towards their true purpose? Here’s where decoupling comes in.
Decoupling:
Bitcoin is becoming increasingly correlated with the US stock market and is beginning to follow stock price movements more closely. This means that the two asset classes are becoming more 'coupled.'
Following the Russia-Ukraine war, four-decade high inflation levels in the USA, and the most recent Terra tokens crash, both markets have been correcting. For this reason, investors have been hoping for a 'decoupling’ to happen. If decoupling does happen, it will allow investors to use Bitcoin as a 'hedge’ against their equity investments.
As the name itself suggests, decoupling means the dissociation of two different elements. Coupled assets show similar movement on the charts. Decoupling occurs when the NASDAQ (or S&P 500) and Bitcoin move in a separate direction, independent of one another.
Coupling and decoupling are measured on the correlation scale that ranges between -1 (non-correlated) and 1 (completely correlated). The present correlation value between Bitcoin and the S&P 500 stands at 0.63 after having gone as high as 0.75 in May 2022. Albeit for a brief period, decoupling was observed on the charts at the end of May 2022 when equities performed, but Bitcoin fell.
Why decoupling happens:
All markets rely primarily on investor sentiment and can move either way, depending on how the feelings change. When crypto gets decoupled from traditional indices, it is because the investors lost faith in one of the two asset classes at that time.
Diminished investor confidence can stem from multiple causes such as geopolitical tension, regulatory clampdowns or new legislation, economic performance, etc.
For example, experts believe that the brief decoupling at the end of May 2022 happened due to the Terra fiasco. Tech stock investors were also dabbling in some speculative crypto assets before the crash shook their confidence and caused them to stop investing in crypto altogether. That caused Bitcoin to fall while equities continued their upward trajectory.
Coupling or decoupling can also be with altcoins. But as the most dominant and oldest crypto, Bitcoin prices have absorbed more information over the years. It, therefore, represents the correlation with equities most accurately, which is why it is so closely followed.
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