Darius Dale is the founder and CEO of 42 Macro, an investment research firm that aims to disrupt the financial services industry by democratizing institutional-level macro risk management processes.

Key points to remember

Short term (less than a month): Our market signaling process indicates a continuation of the challenging environment for risky assets. While a downside surprise in the April CPI data from the US provided some reprieve, we at 42 Macro don’t think a widely anticipated negative inflection rate of change will do many in isolation to catalyze a sustainable bottom in stocks or bonds given our analysis. second-round inflation dynamics and the latest forecasts from the Federal Reserve and the European Central Bank.

Medium term (three to six months): We continue to see downside risk to around $3,200-$3,400 for a sustainable low in the S&P 500 – which would likely catalyze another 30-50% decline in bitcoin once correlation risk between assets would come into play. While this range may turn out to be 200–300 points too low once the Fed put option is factored in, we believe it is important for every investor to understand the risk that we continue to be seen on an ex ante basis.

Our baseline scenario calls for the US economy to return to inflation in April 2022 and May after a brief stint in reflation before settling into persistent deflation by June. Inflation and deflation are the two components of Macro 42 “GRID regimes” that exhibit high volatility and covariance across asset classes. Given this high risk condition of the portfolio, it is likely that we are only in the middle of the bear market(s) in high beta assets that we have been anticipating since the fall.

The Fed is unlikely to get signals from the labor market or inflation statistics to stop tightening monetary policy for at least another quarter (maybe two or three), it is likely that financial conditions need to tighten considerably to force an accommodating pivot. While U.S. and global growth momentum does not yet allow for such an unfavorable outcome, we believe that simultaneous deteriorations in the liquidity cycle, growth cycle and earnings cycle will continue to perpetuate a prolonged and widespread breakdown in the risk appetite.

The balance of risks surrounding the outcome of our model is balanced. On what we believe to be a low-probability bullish case, risk inflation is peaking and decelerating much faster over the next two to three months than we, consensus economists and the Fed are anticipating. currently, which will lead to a sharp downward price revision from the predicted path. for the federal funds rate in money markets. Such a sharp deceleration in inflation would also inflate real incomes and delay a more significant slowdown in growth by perpetuating a growth and inflation soft landing (“Goldilocks”) in the United States and across broad swaths of the economy. of the world economy. Goldilocks is an extremely bullish regime for bitcoin, with an annualized expected return north of 400%.

On what we believe to be a low-probability bearish case, deterioration on the geopolitical front amid gradual supply chain disruptions resulting from China’s “Zero COVID” policy could keep inflationary momentum going. ongoing for another two or three months. This leads Fed officials to take incremental steps (relative to market prices) to tighten financial conditions in the face of the steeper deceleration in growth that our models have persisted through 2H22E. The resulting deflation would likely be deeper and more prolonged, perpetuating jump conditions in recession probability models. Deep deflation – as evidenced by a growth delta (two sigma) is bad enough for bitcoin. This regime presents a negative annualized expected return of 64% for the digital asset.

This is a guest post by Darius Dale. The opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc. or Bitcoin Magazine.