Crypto Market Retreats Amid Record Liquidity and Signs of Froth

The U.S. money supply has climbed to a record high, but crypto markets continue to extend their decline, moving against a tide of rising liquidity.

The M2 money supply in the U.S. surged 4.5% year-over-year in June to a record $22.02 trillion, the Kobeissi Letter wrote in a tweet on Thursday.

The broad measure of money in circulation often correlates with asset prices, as increased liquidity tends to flow into markets, driving up inflation and valuations along with it.

So what gives?

Derek Lim, head of research at Caladan, a crypto market-making and trading firm, told Decrypt that U.S. liquidity is “currently pooled, not deployed.” 

A significant portion of the $22 trillion is “sitting in money markets or short-duration Treasuries, not in risk assets,” essentially “dry powder” that hasn’t been converted into “risk-on capital” yet.

While it is a popular belief that Bitcoin tracks this metric, the crypto market capitalization has shed $117 billion since Wednesday, dropping from its peak of $4.05 trillion.

Analysts Decrypt previously spoke to are urging caution in the short term, attributing current volatility to market fatigue and profit-taking.

“We’re seeing elevated options activity and increasing liquidation risk,” Daniel Liu, CEO of Republic Technologies, told Decrypt. “Small price shifts can now trigger cascading liquidations or short squeezes depending on the direction.”

A cascading liquidation is a chain reaction of forced selling. A short squeeze occurs when there’s a rapid price increase that forces traders betting on a price drop to buy back, thereby further accelerating the direction of the price.

Altcoin leverage

Caladan’s Lim pointed to a “huge amount of leveraged longs, especially in altcoins,” as the major contributor to the ongoing selling. The expert said XRP’s single-day “$89 million long liquidation” was a clear example of “forced selling” accelerating. 

“Even with loose liquidity, risk sentiment is cooling,” Lim said, adding that traders “are likely waiting for clarity before putting their money back to work.”  

Bitcoin’s 3% slide since Thursday’s peak has caused major altcoins such as Ethereum, Solana, and XRP to shed 4.8%, 6.2% and 7.1%, respectively, CoinGecko data shows.

Ethereum faces a “$260 million in ask-side supply,” or the total volume of sell orders available at various prices on exchanges, that needs to be cleared for a clean break above $4,000, says Liu. 

The uptrend could slow down as “profit-taking continues,” he added. 

Solana, on the other hand, is more “fragile” with increased risk of liquidation as “leverage is currently outpacing spot demand.”

Despite the warning signs, Lim said it “looks more like a healthy correction, with no evidence of a cycle-ending breakdown yet.” 

Echoing that sentiment, Liu suggests the current market decline amid the record surge in U.S. liquidity could be ephemeral. 

“We’ve just come off a massive price rally, and the market needs time to consolidate,” he explained. “Expect short-term volatility across the board, but the long-term thesis remains intact.”