Since 2017, both institutional and retail investors have become more interested in the relationship between cryptocurrencies and traditional equity markets. It's important to make clear that, despite what may at first appear to be a correlation, market movements are actually a reflection of how the market views and deals with cryptocurrencies rather than a direct correlation.
The apparent relationship between cryptocurrencies and stocks is more a reflection of how virtual currencies are perceived and their changing role in the larger financial system.
What Elements Impact the Price of Stocks and Cryptocurrencies?
A few variables influencing stock prices are listed below.
- Supply and Demand
It is common knowledge that supply and demand determine price changes across a wide range of markets, including those for goods, services, stocks, and even cryptocurrencies like Bitcoin.
Consider Bitcoin as an example. There will only ever be 21 million Bitcoins in circulation, as is well known. The amount of Bitcoin that is available is progressively decreasing over time, but demand for it is still rising. Over time, this dynamic tends to push its price upward. The laws of supply and demand also apply to other cryptocurrencies.
- Expectations and Sentiments of Investors
Investor sentiment in the equity market is centered on the expectations of the market as a whole. Typically, investors can be divided into two groups: those who are bullish about future price increases and those who are more pessimistic. These outlooks play a major role in guiding their investment decisions.
Particularly the more well-known cryptocurrencies, such as Bitcoin, are very sensitive to investor mood. Particularly since its launch, Bitcoin has seen significant gains, which has raised investor expectations. In situations that occur in real-time, this phenomenon is visible.
- Economic Conditions
The economy, which is frequently measured by metrics such as GDP, naturally fluctuates over time according to its own internal cycles. Nonetheless, the economy may be compelled to enter specific stages of these cycles by external macroeconomic events.
The global disruption brought on by the COVID-19 pandemic in 2020 served as a striking example of this. The unanticipated crisis resulted in a severe economic contraction, a brief recession, and a precipitous drop in stock market values.
- Monetary Policies
Monetary policy changes, particularly those pertaining to interest rates, have the potential to cause a cascade effect in the investing world. For example, if central banks decide to cut interest rates, bond investments will see a decline in yields. Consequently, investors tend to become less interested in this because they believe there are other opportunities with higher returns.
Prices of Cryptocurrencies Compared to Stocks
Around late 2016, interest in Bitcoin and cryptocurrencies as an investment class began to grow. This was followed by consistent price increases until 2017 when Bitcoin crossed $1,000. Prices surged to a peak of almost $17,000 due to increased media coverage, but they eventually leveled out between $3,000 and $10,000.
Investors were alarmed by the 2020 COVID-19 pandemic, which caused businesses to close and economies to slow. Asset reallocation resulted from the S&P 500's brief decline as a result of this. Eventually, the U.S. economy recovered, and the market gained confidence as stock prices more than doubled.
Investors were persuaded by Bitcoin's tenacity during the pandemic that it was a valuable asset class that could generate returns even in difficult circumstances. Numerous businesses began to invest in cryptocurrencies. The pandemic cemented Bitcoin's transition from a niche asset to a popular class of investments, resulting in a dramatic change in the way traders and investors view the cryptocurrency.
Crypto Price Correlation
The development of Bitcoin as an asset class attracted a lot of attention. Brokers and other institutions introduced investment opportunities such as exchange-traded funds (ETFs) linked to bitcoin in partnership with regulators. Investor confidence in cryptocurrencies appeared to increase as a result of this move toward well-known investment instruments.
Prices for cryptocurrencies fluctuated in a manner similar to that of stocks from late 2021 to early 2022 but with more volatility. These price changes were displayed in a comparison chart between November 2022 and November 2023 for Bitcoin, the S&P 500, and the Nasdaq Composite. Even though Bitcoin's price fluctuations were more pronounced, the general pattern indicated that traders and investors were treating it much like a conventional stock.
This newfound correlation in cryptocurrency prices does not prove that stocks and Bitcoin are directly related. Instead, it highlights the unintentional ways in which traders and investors are causing this correlation. They contribute to this developing connection by treating Bitcoin using the same trading principles as they do more familiar asset classes.
Since its modest beginnings as a payment method, Bitcoin has advanced significantly. Regulators, enthusiasts, and investors continue to argue over classification and regulations, but cryptocurrencies continue to show that they are a currency, an investment asset, and a novelty all at once. Because traders and investors treat it like any other asset, its price only sporadically correlates with stock market prices.