How the Cryptocurrency and Financial Markets Are Connected [June 2022 Scholar]

Cryptocurrency is the latest form of money. However, is the crypto market connected to the traditional money market? This paper finds that stablecoins link them together.

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Executive Summary

This month’s scholar report summarises the key findings of the research paper titled “How the Cryptocurrency Market Is Connected to the Financial Market”.

• Stablecoins, particularly reserve-backed stablecoins, are the medium linking both cryptocurrency and traditional financial markets.
• Reserve-backed stablecoin issuers manage short-term money-like safe assets such as commercial paper and Treasuries in their reserve to maintain price stability.
• Up until November 2021, the issuance of stablecoins (i.e., USDT and USDC) created an excess demand for commercial paper. That resulted in an increase in commercial paper issuance and a decrease in its yields the following day.
• Conversely, a one standard deviation of market capitalisation growth in coins (i.e., BTC, ETH, and BNB were studied in the paper) decreased commercial paper issuance and increased its yields the following day.

Key Highlights

Stablecoins are the medium linking both cryptocurrency and traditional money markets, while coins indirectly affect the latter via stablecoins.

• The positive effect of stablecoin (i.e., USDT and USDC) issuance on the commercial paper issuance is statistically significant for commercial paper with maturities ≤ 4 days. This suggests that stablecoin issuers pursue liquidity because they purchase commercial paper with the shortest period of maturities.

• The negative effect of market capitalisation growth in coins (​​e.g., BTC, ETH, and BNB were studied in the paper) on commercial paper issuance is mainly driven by those with maturities ≤ 4 days. This result implies an inverse effect on commercial paper issuance compared to what’s seen on that of stablecoins.

• Since the reduction of commercial paper holding in USDT’s reserve in the fourth quarter of 2021, the effect of stablecoin issuance on commercial paper issuance has become statistically insignificant.

Read the full scholar article: How the Cryptocurrency and Financial Markets Are Connected

Authors

Henry Hon PhD, CFA (Head of Research & Insights)

Yeu De Lim (Research Analyst)