I didn't plan on spending more time in today's Chart Advisor on bitcoin, but volatility in the cryptocurrency's price over the past 24 hours is worth some additional discussion. Even for non-crypto traders, this is important because it can affect the stock market in unexpected ways.
The bitcoin to U.S. dollar (BTC/USD) exchange rate dropped more than 12% today, with $1,800 of those losses happening last night over a period of 10 minutes. As I mentioned yesterday, the closer bitcoin gets to its prior highs between $14,000 and $19,000, the more likely it is for investors who have been holding losses to trigger a sell-off. This is a phenomenon we see frequently with penny stocks that periodically "go hyperbolic."
The overnight selling seems to have been potentially worsened by technical outages at Coinbase, Inc., one of the big bitcoin exchanges. I will admit to having a skeptical bias against bitcoin as a currency because volatility is so high. Ideally, a medium of exchange is best when it has a relatively stable and reliable value over the medium term.
Whether or not you are a fan of the central bank based monetary systems used by the major reserve currencies – the U.S. dollar (USD), euro (EUR), Japanese yen (JPY), British pound (GBP), etc., their fluctuations are much smaller and occur over a longer period than BTC. That doesn't mean cryptocurrencies aren't going to be adopted more widely for exchange eventually, but it will take a while before that happens.
Even if you aren't that interested in cryptocurrencies, the bitcoin rally should still be monitored. There are several companies in the stock market that are used as a proxy for bitcoin, including NVIDIA Corporation (NVDA) and Advanced Micro Devices, Inc. (AMD), that swing up and down with the currency. These companies make processors used by "bitcoin miners" to create more bitcoin supply, and their share price rises and falls like industrial equipment makers during the gold boom of 2001 to 2012.
I am not even going to bother discussing the several penny stocks who changed their names to capitalize on bitcoin mania over the past two years (cough, Long Blockchain Corp, cough), but they will also probably spike and crash with the currency.
The lesson here is that tech investors must include some analysis of the bitcoin market when evaluating any positions in the semiconductor sector. Even if not directly involved in the bitcoin mining process, other companies are likely to benefit or suffer along with NVIDIA and AMD as the market whipsaws.
As you can see in the following chart, NVIDIA has been following bitcoin closely through the big declines last year and has recently turned higher as bitcoin was able to get above the $8,000 mark, where many miners are able to get above breakeven. I have shown the chart as a percentage to better illustrate the relationship. If this round of crypto-frenzy collapses early, we could see semiconductors and processor makers correct very quickly, which increases the risk of the sector's recent performance.
Concerns about trade seemed to pull on the S&P 500 yesterday, leading to a negative close. Today's performance was a little better, but the talks between Chinese President Xi and President Trump at the G-20 meetings over the next two days are still the most significant X-factor influencing prices
While I remain cautiously bullish to neutral in my own bias as investors prepare for second quarter earnings season, I continue to be concerned that long-term yields have not turned higher yet. As you can see in the following chart, the S&P 500 and the 10-year Treasury yield's divergence over the past two months has been persistent. Because yields have been so stubborn, I am concerned that, without positive news on trade this weekend, the divergence will snap back into alignment through a drop in equity prices rather than a spike in yields.
Risk Indicators – Safe-Haven Currencies
One of the ways investors evaluate risk in the market is through safe-haven currencies like the Swiss franc or Japanese yen. If those currencies are rising in value, investors could be hedging and preparing for a downturn. Inversely, if safe-haven currencies are falling in value, they are either being used as a source of funds for risky assets or are just not in demand as a hedge. Either way, falling safe-haven currencies are usually a good sign for stocks.
Right now, it might seem difficult to figure out whether safe-haven currencies are rising or falling because they are usually compared to the dollar, which has been falling in value across the board since the Fed announcement last week. However, you can take another look at these currencies by "crossing" them with something other than the dollar.
For example, in the following chart, I compared the British pound (GBP) with the Japanese yen (JPY), and the trend is negative, which means the yen is strengthening against the pound. This is helpful because it removes the dollar from the analysis as much as possible and confirms that safe-haven currencies are still in demand.
In my experience, this kind of analysis is also helpful when timing a new bullish entry into stocks. Like bond markets, currency values will often lead a shift in stock prices. Therefore, if we start to see a change where the value of the yen or franc begins to significantly weaken versus other reserve currencies like the pound or euro, it could be signaling an early move into stocks.
Bottom Line – Trade Talks Could Trigger Buying
The market has been stable but choppy as the S&P 500 struggles against the resistance level of prior highs and small caps underperform. Measures of risk still signal prudent caution, and there is a lot riding on some progress in trade talks this weekend.
While the unknowns hanging over the market are substantial, I think keeping your options open (pun intended) right now makes sense. Growth is still positive, and if there is good news from the G-20 meeting, I expect investors to use that and the Fed's accommodative monetary policy as an excuse to buy back in soon.
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