Will The Bitcoin Crash Bleed Over Into The Stock Market?

Bitcoin has become a trade that can’t be ignored. It’s grabbing headlines once again, not for its rise — but this time for its rapid declines.

Why should we care? Well, as I said a couple of days ago, a good number of my readers are at least interested in cryptocurrencies (some have even dabbled in them). But even if that’s not you, it’s still worth noting because Bitcoin and other cryptocurrencies have almost become a gauge for sentiment.

The cryptocurrency fell more than 30% last Wednesday. That low was tested again on Sunday.

Source: Symbolik

The decline came despite the efforts of one of Bitcoin’s biggest backers.

Over the weekend, CNN reported, “Tesla CEO Elon Musk, whose tweets regularly influence the crypto market, on Saturday underscored his support for digital currencies, giving bitcoin a slight boost after a very rocky week. ‘The true battle is between fiat & crypto. On balance, I support the latter,’ Musk wrote Saturday morning. Bitcoin inched up above $38,000 but by Saturday night began falling again.”

Some blamed Musk for the downturn after he cited Bitcoin’s high environmental cost as reason for the decision suspending plans to accept the cryptocurrency as payment for electric vehicles, after months of being bullish on it.

“We are concerned about rapidly increasing use of fossil fuels for Bitcoin mining and transactions, especially coal, which has the worst emissions of any fuel,” Musk said in a note posted on Twitter Wednesday. “Cryptocurrency is a good idea on many levels and we believe it has a promising future, but this cannot come at great cost to the environment.”

That tweet came less than two weeks ago, on May 12. Since then, Musk seems to have realized he was creating downward pressure on Bitcoin.

Will This Spill Over Into The Stock Market?

For me, an important question is whether or not this will affect the stock market. There’s no clear answer to that question.

Some stocks will be affected. Back in February, Tesla (Nasdaq: TSLA) bought $1.5 billion in Bitcoin and will have to report losses if the decline continues. Microstrategy (Nasdaq: MSTR) also bought more than $1 billion in Bitcoin. And they’re not the only companies that have cryptocurrencies on their balance sheet.

Accounting rules require them to report any losses every quarter, but gains will not be reported in earnings. This asymmetric risk-and-reward ratio hopefully limits the number of companies speculating right now and should limit the fundamental impact on stocks.

Some traders might be forced to sell as the price declines. Historically, declines in any market have had spillover effects in the stock market. That’s an unquantifiable risk.

Sentiment is also an unquantifiable risk. If losses in Bitcoin keep capturing headlines, some investors might turn bearish on stocks and start selling. These risks can’t be ignored, but they also aren’t anything to act on right now. Our indicators will tell us when action is required.

The chart of the SPDR S&P 500 ETF (NYSE: SPY) shows us that we are at an important point in the market.

This is a candlestick chart again. In a candlestick, the open and close are marked by rectangles which are known as the “body” of the candle. The vertical lines in candlestick are known as “shadows” or “wicks.”

Again, we see a “doji” — a sign of indecision. This is the third doji in five weeks.

I’ve also drawn dashed lines showing support and resistance on the chart. A breakout from that range should result in a significant price move. In the chart above, I’ve included my Income Trader Volatility (ITV) indicator (red line) in the bottom panel. The indicator is above its moving average (blue line) last week. ITV is similar to VIX in that it rises as prices fall. Its current position is bearish.

Our last chart shows my Profit Amplifier Momentum (PAM) is also bearish. PAM is shown on the daily chart of SPY below.

PAM is designed as a short-term indicator. The weight of the evidence continues to be bearish. A break above resistance will negate that outlook. A break below support will reinforce that outlook.

As always, I’ll watch the price action as we near the resolution of what should be an important turning point.

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