The recent crypto crash has many people discussing whether cryptocurrencies are a viable investment instrument and technology.
Although this isn’t the first time that a crypto crash has occurred, the recent crash does have some peculiarities that make it particularly worrying. Bitcoin is down almost half its value compared to its November peak, and investors lost almost U$600 billion in a single week.
Because of how massive the recent drop has been and the fact that it has affected nearly all of the top 10 cryptocurrencies, there are speculations about whether this could have future rippling effects in the market.
The main question that emerges from the current situation is whether this is the perfect time to stay and buy the dip or a warning to quit cryptocurrency investments altogether. Here’s what you need to know about the recent crypto crash and what to do moving forward.
Why did the Crypto Markets Crash?
There isn’t a single explanation for what’s causing the crypto crash. There are multiple causes for the recent dive in the crypto prices, some of which are inherent to the way in which cryptocurrencies work and some of which were influenced by external factors.
To no one is it a secret that cryptocurrencies are a particularly volatile investment, prone to steep ups and downs.
This is exacerbated by the inherent attractiveness of crypto, whose promises of decentralization surround it with an aura of novelty and excitement that is especially interesting for younger, less experienced investors.
Aside from the inherent risk and volatility of the crypto markets, the recent crash is almost unprecedented and can be attributed to the following:
High Fiat Currency Inflation
The economic pressure of COVID19 led many central banks around the world to create liquidity through credit emissions, creating high inflation in many of the main global currencies, including the dollar and the euro.
This initially led cryptocurrencies to increase their value, as many investors saw them as a way to protect their money from the effects of high inflation.
However, as measures were taken to mitigate inflation, such as a general increase in interest rates in both central and private banks, many crypto investors have been liquidating or transferring their money toward other more stable assets.
Global Economic Uncertainty
The necessity for assets with higher stability isn’t just related to the fact that the dollar’s inflation has been relatively mitigated. Due to their volatile nature and the fact that many of its investors employ high leverage, cryptocurrencies are a very high-risk investment.
During times of economic uncertainty due to factors like the war in Ukraine and the possible resurgence of the COVID19, investors tend to prefer less risky alternatives such as high-yield saving accounts, bonds, index funds, and dividend-paying stocks.
Stable Coins Lack of Stability
Stablecoins are a type of cryptocurrency whose value is pegged to that of a specific fiat currency such as the dollar or the euro. Some of the most popular stablecoins include TerraUSD, Tether, and USDC.
The main functions of stablecoins are to provide less volatile alternatives for people wishing to buy and sell products using cryptocurrencies, as well as to provide a bridge between the world of fiat-based assets and crypto.
Stablecoins achieve their stability is by having their value backed by reserves of different financial assets, which may include fiat currencies as well as commodities and other cryptos, employing algorithms to balance these reserves with the stable coin’s emission.
Because of the role that stablecoins fulfill in connecting cryptocurrencies with other financial assets, when they fail to retain their price at the same level as the cryptocurrencies, this causes a rippling effect of fear in the markets.
The destabilization of some of the most important stablecoins, such as TerraUSD and UST in recent months had a large effect on the crypto markets, as they led to a lack of trust which led to a halt in crypto transactions. This greatly contributed to the recent crash.
Possible Effects of the Recent Crypto Crash
When thinking about the possible future effects of the recent crypto crash, one must think of the various possible scenarios that can come and look at similar occurrences from the past, taking a look at how the markets have adapted and changed when they’ve occurred.
This isn’t the first time that the crypto markets have seen a downfall. As it has been stated, the crypto market is one with particularly high volatility, in which investors tend to go for aggressive, high leverage strategies, making the crypto market highly risky and unstable.
In June 2011, the largest cryptocurrency in the market, Bitcoin, saw a 99% decline in value in just a day. In 2012, the same crypto saw a 56% fall in a few weeks. In the 2013 crypto crash, there was an 83% dip, followed by another 50% fall in the same year. Then, in the 2017 crypto crash, the cryptocurrency fell by 84%, in March 2020, by 50%, and in May 2021, by 53%.
Best Case Scenario
The most recent crypto crash saw a 40% decline in Bitcoin prices since November of last year. Compared to previous instances in which cryptocurrencies have crashed, this is arguably not as alarming.
Despite some of the previous crypto falls having been proportionately much worse, the markets managed to recover, eventually seeing new heights in the price of Bitcoin, regaining the trust of its most fervent believers and bringing entirely new investors into the space.
In the best-case scenario, the prices will cease to drop soon, and the recent downfall will just have been another bump in the road in crypto’s way towards mass adoption. Because many innovative cryptocurrencies are emerging, in many cases with better technology, efficiency, and scalability than Bitcoin, this is likely to be the case.
Worst Case Scenario
Crypto markets have managed to recover from unbelievable crises before, and while the recent downfall might not seem as daunting as some of the previous ones, there is much more at stake today, with crypto having made its way into many mainstream investments institutions and markets.
Because of the higher adoption and influence of cryptocurrencies, the recent crypto crash could negatively affect other markets. These broader effects come largely from the aforementioned relationship between the price of stablecoins and other regular cryptocurrencies such as Bitcoin.
Stable coins are backed by other financial assets and instruments, including bonds and diverse fiat currencies.
As crypto holders look for ways to liquidate their assets, this could eventually reach the bottom of the pile, affecting the markets for those assets, especially as large crypto investors, who are often owners of large companies, try to look for a way out of the crypto market.
Likewise, since many crypto investments are based on high leverage, the debt that comes from that leverage on failed investments could create huge financial gaps that could impact the overall global economy in the worst-case scenario.
When Will the Next Crypto Crash Happen?
Whether we’re talking about crypto, stocks, real estate, commodities, or any other financial asset, markets are always bound to unpredictable factors. Hence, it’s very difficult to predict if and when another crypto crash will take place.
Nevertheless, some experts argue that the latest crypto crash is different and could lead to some very early sequels, leading up to losses outside of the crypto market.
For one, the crypto market is bigger than ever, with a wide variety of digital coins and tokens across countless different platforms, in which investors of all sizes manage assets with very high summed value.
For two, the latest crypto crash occurred during a time of general economic turmoil around the world. Not only did a pandemic affect the global economy last year, leading to high inflation across all of the world’s major currencies, but the war in Ukraine is affecting markets everywhere.
Due to these reasons, it is likely that the crypto markets could see another dip before the year ends. Although this shouldn’t mean that crypto-assets should be abandoned, investors across all financial markets need to be wary.
How to Stay Sane During the Crypto Crash
For those who’ve invested a serious amount of money and assets, it might not be that easy to figure out how to stay sane during the crypto crash. However, panicking will only make things worse, so it’s important to stay put and take some time to assess the situation.
There isn’t a single way to react to complicated situations when it comes to investments and finances. The decision each individual takes should ultimately depend on how much risk they’re willing to tolerate and when they assess it’s time to cut losses and move on.
If you’re a small and beginner investor who recently got into crypto and is now losing as a result of the crash, this is possibly a good time to reevaluate the reasons why you’re in this market and assess what the value you see in it is.
Cryptocurrencies are often mistaken for easy money, and while they can be a viable investment if properly studied and strategized on, the reality is that they have a high risk and should be only invested on by people who understand the potential of their underlying technology and care about its inherent value over simple ROI.
With the recent crash, many people have seen immense losses. However, not everything is negative. Even though all cryptocurrency prices are correlated, there are more diversification alternatives today for crypto-focused portfolios, making the markets more stable overall.
The new downfall could create incentives for innovation in blockchain technologies and invite many new curious investors to get it by benefitting from “buying the dip.”