Over the past few months, the idea of a 50bps rate cut by the Federal Reserve (FED) seemed highly unlikely. Most of the crypto market had priced in a 25bps rate cut. 

However, yesterday, the market dynamics shifted. Suddenly, the probability of a 50bps rate cut surged from 14% to 47%. 

This surprising change is shaking up global financial markets. Logically, the crypto market is no exception.

The Reason For Yesterday's Pump

As the possibility of a larger rate cut surfaced, Bitcoin and the broader crypto market rallied immediately. 

The reason is apparent: lower interest rates stimulate economic growth, encouraging risk-taking in markets like stocks and crypto. 

Accordingly, Bitcoin has already seen a price surge as traders begin to price in the possibility of a 50bps rate cut. 

What's Driving the Shift in Sentiment?

Several factors have contributed to the rising expectations of a more significant rate cut. Let's go through them:

  • Producer Price Index (PPI) data for August showed only a slight increase, while year-over-year growth dropped to its lowest level since February. 

  • Unemployment claims came in higher than expected, signaling some cracks in the labor market.

  • These factors suggest that inflation may be under control, opening the door for the Federal Reserve to shift its focus to economic stimulation through rate cuts.

  • In addition, the Wall Street Journal and Financial Times also hinted that a more significant cut might be possible. Former Fed advisor Jon Faust commented that a 50bps cut is still on the table. He believes a more substantial rate cut would be more effective in jumpstarting the economy.

The Immediate Impact on Crypto & Bitcoin

In the short term, before the Federal Reserve's announcement next week, we can expect increased volatility and price appreciation for Bitcoin and other cryptocurrencies. 

Bullish Scenario: 50bps Rate Cut

A 50bps rate cut would likely fuel a strong rally across the crypto space, signaling that the Fed is prepared to stimulate the economy aggressively.

For Bitcoin, this could mean breaking key resistance levels and moving toward higher targets (70k). 

The influx of liquidity and favorable conditions for risk assets could push Bitcoin and altcoins into a bullish trend for the rest of September and possibly into the fourth quarter of 2024.

This cut would mark a significant pivot in monetary policy, catching many traders who had priced in only a modest cut off guard. Given the surprise factor, the reaction in the crypto market could be swift and decisive.

Bearish Scenario: 25bps Rate Cut

On the other hand, if the Fed sticks to the 25bps rate cut that the market initially expected, we might be disappointed. 

After the recent pump, a more minor rate cut could trigger a sell-off in Bitcoin and other cryptocurrencies, as traders who expected a more aggressive move could take profits. 

In this scenario, the crypto market could react negatively, with prices pulling back as traders adjust their positions based on the Fed's more conservative stance.

Other Risks to Consider: The Role of Carry Trades

There's also a growing concern that a 50bps rate cut could unexpectedly impact global markets, primarily through carry trades. These are investment strategies where investors borrow in low-interest currencies like the yen to invest in higher-yield assets, such as U.S. equities and bonds (those trades triggered the massive sell-off at the beginning of August).

As U.S. interest rates drop, carry trades could begin to unwind as investors look to cover their positions by repaying loans in increasingly expensive currencies like the yen. If the Fed does opt for an aggressive 50bps cut, we could see further market volatility due to the impact of these trades, which could ripple into the crypto market.

My Final Thoughts

The market is at a critical juncture. While a 50bps rate cut could send Bitcoin and the crypto market soaring, a 25bps cut might disappoint traders and lead to a pullback. 

With the Federal Reserve's announcement, all eyes are on the Fed and how they'll balance inflation control with economic stimulus. One thing is clear: Next week will be exciting!