JPMorgan predicts a short deleveraging cycle for the cryptocurrency market.

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Image Credit: DANIEL LEAL-OLIVAS

According to a report released on Wednesday by JPMorgan (JPM), the failure of cryptocurrency hedge fund Three Arrows Capital (3AC) shows that the effects of this year’s bear market in cryptocurrencies are still being felt.
The bank stated that while it is difficult to determine how much more deleveraging still needs to take place, its indicators suggest the process is already well along.
According to the report, the industry’s multiple failures shouldn’t come as a surprise given the deleveraging environment and the market capitalization of digital assets’ 70% decline since November.

The entities that employed higher leverage in the past are now the most vulnerable, the bank said. “Whether it is miners having borrowed to expand operations using their bitcoin as collateral, or corporates such as MicroStrategy (MSTR) having borrowed in the past to invest even more heavily into bitcoin, or hedge funds using futures to lever their positions, or retail investors borrowing via margin accounts to invest in various cryptocurrencies.”

The failure of 3AC is a manifestation of this deleveraging process, the note said, adding that the process seems well advanced, “making the bottom formation process in crypto markets more volatile.”

Bitcoin (BTC) miners are another source of stress for crypto markets, JPMorgan said, given the pressure to sell their tokens to deleverage or to cover the cost of their operations. Selling of bitcoins by miners intensified in June, and will likely continue into the third quarter, it said.

The weakest crypto companies, those with high leverage and lower capital levels, are the most challenged. Conversely, those with the healthiest balance sheets are most likely to survive and will emerge stronger once this current phase is over, the report said.

JPMorgan identifies two reasons to suggest that the cycle may not be very protracted: The fact that stronger crypto companies with more robust balance sheets are stepping in to help contain the contagion, and the continued healthy pace of venture capital (VC) funding, an important source of capital for the digital assets ecosystem.