Wall Street mogul Tom Lee: The crypto market correction may be nearing its end, and Bitcoin is becoming a leading indicator for the US stock market.

Wall Street veteran strategist Tom Lee believes that the continuously weak cryptocurrency market since October 10 may be about to complete its adjustment, and points out that Bitcoin and Ethereum have become leading indicators for U.S. stocks. This judgment is based on the cycle of balance sheet repair after crypto market makers suffered heavy losses in the large-scale liquidation event of 2022. On November 21, BitMine Chairman and former J.P. Morgan Chief Equity Strategist Tom Lee said in an interview with CNBC that the large-scale liquidation on October 10 "severely weakened market makers" who serve as the key liquidity providers in the crypto market, "almost equivalent to central banks." (Image source: CNBC) The Wall Street veteran compared the current situation to the crypto market liquidation in 2022. He said that in 2022, a similar event took eight weeks to be fully digested, whereas it has only been six weeks this time. This means that the market is still in a state of impaired liquidity and reflexive weakness. He also pointed out that during recent market volatility, Bitcoin often declined ahead of the stock market, reflecting the warning function of crypto market liquidity tightening for traditional markets. Tom Lee specifically mentioned that on October 10, Bitcoin turned down before U.S. stocks fell, confirming the leading role of cryptocurrencies for equities. Since October 10, Bitcoin’s price has plunged, dropping from its early October peak of $125,000 to around $82,000 currently. October liquidation event dealt a heavy blow to market makers Tom Lee explained in detail the market shock event of October 10. On that day, the price of a stablecoin within one exchange showed abnormal volatility, dropping from the pegged $1 to $0.65. This price deviation occurred only within that exchange, but it triggered an automatic liquidation mechanism called ADL (auto-deleveraging). This automated process is similar to a margin call and is executed automatically when account or collateral prices decline. Since liquidation cascades across exchanges, approximately two million crypto accounts were ultimately liquidated, even though those accounts were in profit just minutes before. Tom Lee attributed the root cause of this event to a "code error." He pointed out that the exchange relied on internal price quotations instead of inter-exchange pricing to set stablecoin prices, and this design flaw led to systemic risk. This round of liquidation caused major capital losses for market makers, forcing them to shrink their balance sheets. Vicious cycle of liquidity exhaustion After market makers’ capital was damaged, the market fell into a cycle of reflexive weakness. Tom Lee emphasized that market makers provide critical liquidity in the crypto market, a role "almost equivalent to the central bank of cryptocurrencies." When their balance sheets have gaps and need capital replenishment, they must reflexively shrink their balance sheets and reduce trading. As crypto prices fall, market makers need even more available capital, which forces them to further contract their balance sheets, forming a vicious cycle. Tom Lee stated that the sustained decline in the crypto market over the past few weeks is a reflection of this impaired market maker function. Trading volume declines have further aggravated the liquidity issue. In such an environment, even without new negative news, prices will continue to be pressured due to insufficient liquidity. Historical experience provides a timeframe: about two weeks to go Tom Lee compared the current situation to historic market crises. He mentioned the 1987 portfolio insurance-triggered market crash and the mortgage collateral issues in 2009 that caused the financial crisis, noting that each crisis led the industry to learn lessons and adjust mechanisms. Regarding the recovery time for the cryptocurrency market, Tom Lee cited the experience of 2022, saying that the large-scale liquidation then took eight weeks to be fully digested. Since it’s only been six weeks since the October 10 event now, it implies the adjustment may be ending soon. Tom Lee stressed that after this incident, the ADL mechanism and pricing method "will not happen again," and that the industry will learn from it. He believes that compared to the excessive regulation following traditional financial crises, the advantage of the crypto market is that "there will not be excessive regulation," but it still needs to deal with lingering effects of the liquidation. Crypto market becomes a stock market indicator Tom Lee also noted that Bitcoin and Ethereum “to some extent have become leading indicators for the stock market.” His team observed that during the market decline that day, Bitcoin turned downward ahead of U.S. stocks, confirming the leading nature of the crypto market. This leading relationship stems from the process of liquidity unwinding in the crypto market. Tom Lee said the current performance of equities "feels like an echo of the October 10 event." Because the crypto market is more automated and its liquidity mechanisms are more sensitive, it tends to react more quickly to systemic risk than traditional markets. Risk warning and disclaimer The market carries risk, and investment requires caution. This article does not constitute personal investment advice, nor does it take into account any individual user's investment objectives, financial status, or needs. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. If you invest based on this, you do so at your own risk.