Why Bitcoin Fails to Be an Inflation Hedge
In recent years, Bitcoin has been hailed as an inflation hedge, due to its stellar performance against other asset classes in general. In fact, there has been a growing debate about Bitcoin, an asset that is only 13 years old, being a better inflation hedge than Gold, an asset that has been around since the dawn of time and has earned the title of inflation hedge as many central banks race to store the asset in these times.
While so far, the year 2022 has seen Bitcoin fail to be an inflation hedge as the asset class is down 58.60% year-to-date (YtD), gold, while outperforming Bitcoin in recent times, has also falters on its promise as it is down 7.32% last year. In fact, Gold has had its worst quarterly performance in the third quarter of 2022, since the first quarter of 2021, when the appeal of riskier assets was better than today.
The most recent halving cycle (a block reward halving event that occurs approximately every four years on the bitcoin blockchain) coincided with the raging COVID-19 pandemic, cementing many people’s faith in the nascent technology as a true hedge against inflation and worldly ills. One year later, however, Bitcoin has lost 75% of its market value, and not many would agree with the inflation hedge theory.
During last year’s bull cycle, the likes of MicroStrategy, Tesla and a number of other public companies doubled down on Bitcoin’s inflation-hedging aspect by adding Bitcoin to their corporate coffers. MicroStrategy began buying Bitcoin when the price of the top cryptocurrency was trading in the sub-$10,000 price range and continued buying until the market peaked with a BTC price near $69,0000.
The decision looked very lucrative at first as Bitcoin’s price hit new highs every month, and many in the crypto community hailed the MicroStrategy chief as the crusader for Bitcoin’s “inflation hedge.” But public sentiment quickly changed with the emergence of the bear market, which only worsened with skyrocketing inflation caused by various geopolitical issues such as the war in Ukraine and subsequent food supply and energy crises.
Currently, inflation rates have reached new highs around the world, and many countries are struggling to avoid a recession. Bitcoin, like most other assets, is struggling to remain a lucrative investment option, but that doesn’t necessarily mean it has completely failed as an inflation hedge, some say.
Kasper Vandeloock, CEO of quantitative crypto trading firm Musca Capital, believes that BTC is still among the strongest assets despite the decline, but it depends on how you frame it. He explained: “Sure, it’s down 75%; but compared to the strongest asset out there if we compare it to currencies like the turkish lira it shows more strength. Also, it is not like other hedges such as gold which have never experienced big draws. One factor many people forget is that an inflation hedge is a kind of “insurance” thing like real estate, whereas gold is difficult to store and sell as it is illiquid. Bitcoin offers many advantages that these assets do not.”
Speaking of MicroStrategy’s role, Vandeloock believes the Fortune 500 company’s efforts have more than succeeded when it comes to MicroStrategy, “Since we can’t get an exchange-traded fund, how can we create a vehicle for others to speculate on the price of Bitcoin? That’s what MicroStrategy is trying to achieve, and they’ve succeeded.”
The idea of Bitcoin being a hedge against troubled financial markets is derived from the top cryptocurrency’s inherent characteristics of a fixed supply of 21 million with central control over monetary policy. Bitcoin supporters believe that a scarce supply added to growing acceptance in the mainstream will eventually make it a better inflation hedge than gold and other similar safe-haven assets. Others believe that the time frame will also play a key role, given Bitcoin is still a nascent asset class compared to others.
Why it fails
- Bitcoin’s precarious position as a hedge against market conditions can be attributed to several factors, including a number of macroeconomic ones. The current market downturn is not only due to the fragile financial market, in fact the market conditions have been worsened by several external crises such as the ongoing geopolitical tensions which in turn have led to financial instability.
- Experts are of the opinion that in times of geopolitical crisis, the US dollar becomes the primary hedge against inflation. Martin Hiesboeck, head of blockchain and crypto research at Uphold, told Cointelegraph that neither asset currently offers a hedge against inflation due to the USD’s strength. He explained, “We all thought that Bitcoin was going to be an inflation hedge, but it turns out that in times of war, the safe haven is still the US dollar, which projects military power more than decentralized computer networks like Bitcoin. Crypto has been damaged by the strong USD, as well as the amount of phishing scams and hacks that have occurred since the beginning of the year.”
- He added that Bitcoin’s truly decentralized nature reduces its appeal in times of conflict, as it is not backed by any government. Therefore, the main variables of concern are “the Russian war in Ukraine and the Fed’s view on inflation. Put these two together and we will see continued USD strength and in turn Bitcoin weakness.
- Other experts believe that Bitcoin’s inflation-proofing properties should be viewed in the long term rather than the current time frame. Bitcoin may not seem like a hedge at the moment, but if we take a 10-year time frame, BTC has definitely outperformed most of the assets. Alex Tapscott, managing director of Ninepoint Partners, explained that during the ongoing financial crisis, most stable and safe harbor assets have suffered equally. He added that Bitcoin could prove to be an inflation hedge in the long term, explaining: “During periods of extreme economic stress, the US dollar rises at the expense of all other assets. Most typical ‘stable’ investments such as government bonds, blue chip stocks and even gold has suffered, and Bitcoin has been no exception. However, Bitcoin remains a good addition to a well-diversified portfolio. Its historically low correlation and track record of outsized returns make it suitable for a long-term investor approach.”
- Over the past decade, Bitcoin has gone through many cycles of ups and downs, but what has remained constant is its compound growth in terms of value and as an asset class. The top cryptocurrency has been on a long journey from being considered an internet bubble to becoming a financial asset for Fortune 500 companies. However, Bitcoin is still a relatively young resource.
As inflation runs rampant, most retail traders are looking for valuable assets rather than a safe haven. This is one reason why the traditional inflation hedge of gold and even Bitcoin has become less attractive.
Nick Saponaro, CEO of crypto infrastructure provider Divi Labs, explained that BTC will continue to be a hedge against “the dangers of a centralized and failing economic structure. Bitcoin has remained the best-performing asset for over a decade, and regardless of the narrative, it will continue to be of interest to large-scale institutions and high street investors.” He went on to add that it’s not unusual for stores of value to “take a hit early in a recession with late-stage pullbacks. However, I wouldn’t be surprised to see commodities like gold and Bitcoin bounce back before most other assets when we’re deep in the recession.”
To conclude, it is important to note that Bitcoin’s growth as an inflation hedge has been significant on a long-term scale. However, the current macro conditions have affected financial markets across asset classes. It is not only BTC that has failed to show resilience against the burning inflation, even some of the most reliable asset classes such as gold or government bonds have failed to offer safety in the current market.
