In 2018, Bitcoin and other cryptocurrencies experienced a steady and painful decline that has since been referred to as a “crypto winter.”
During that last crypto winter, Bitcoin's price fell by 84% from its previous high. But fast forward to 2020, and Bitcoin was easily able to shake off those wintry icicles to soar to never-before-seen heights. In November 2021, Bitcoin reached an all-time-high of over $64,000.
But since mid-2021, there's been increasing concern that another crypto winter is coming.
Fast forward to today, and Bitcoin and Ethereum are both in free fall, Terra lost its peg and has been struggling to regain it, and Coinbase notified the SEC that if it goes bankrupt, some of their customers could lose their assets.
So is this just a temporary downturn or has a crypto winter officially arrived? And, if so, how should investors react? Here's what you need to know.
Cryptocurrency Markets Are in a Tailspin
Over the past 6 months, Bitcoin has fallen over 53% since its November 2021 high of over $64,000. And it has dropped over 16% in just the past five days of trading.
This morning, Bitcoin's trading price actually came dangerously close its realized price (currently around $24,000) for the first time. Soon after, Bitcoin began to rebound and is currently work its way back towards $30,000 again.
That provides some comfort. But, remember, crypto analysts long told us that $30,000 was a key resistance point that Bitcoin was unlikely to fall below. Now, it's just trying to claw its way back to that level.
Ethereum isn't faring much better. It's also down nearly 50% from its all-time high. And it's fallen 12% in just the past 24 hours. The cryptocurrency market, as a whole, has lost over $1 trillion in the past week.
Terra Lost Its Peg
Terra (UST) is a controversial stablecoin that uses algorithmic minting and burning of tokens to keep its value pegged to the US dollar. Other stablecoins, like USDC and UDST, are actually backed by fiat currencies or precious metals.
This week, Terra's trading price diverged from its US dollar peg. At its low, it was trading for just 26 cents. Its sister token, Luna, crashed as well. In just one week's time, the token lost 96% of its value.
Terra's creator, Do Kwon, has vowed to do the work that's necessary to return UST to its $1 peg.
2/ I understand the last 72 hours have been extremely tough on all of you – know that I am resolved to work with every one of you to weather this crisis, and we will build our way out of this.
— Do Kwon ? (@stablekwon) May 11, 2022
Still, the episode was yet another dramatic reminder that stablecoins may not be so “stable” after all.
Coinbase Says Customers May Lose Assets if It Goes Bankrupt
“Because custodially held crypto assets may be considered to be the property of a bankruptcy estate, in the event of a bankruptcy, the crypto assets we hold in custody on behalf of our customers could be subject to bankruptcy proceedings and such customers could be treated as our general unsecured creditors.”
Essentially, Coinbase is saying is that if it went bankrupt, its creditors could seize its customers' crypto assets and those customers would have no recourse (that's where the “unsecured creditors” part comes in). To be clear, this shouldn't be possible as cryptocurrencies you own should belong to you, regardless of where they're stored.
Coinbase contends that the alarm over this clause is overblown as it has “no risk of bankruptcy.” But, still, the fact that its customers cryptos could even be listed on its asset sheet during bankruptcy proceedings has many users feeling wary — and rightfully so. This is yet another reason for investors to consider moving their assets to their own crypto wallets.
Are These Just Hiccups? Or Are We Entering a Crypto Winter?
It's impossible for anyone to predict the future of the cryptocurrency market, or any other market for that matter. But would-be investors would be wise to keep two things in mind.
1. The Rapid Growth of Cryptocurrency Prices in 2020-2021 Always Showed Signs of Unsustainability.
Bitcoin surely had its ups and downs in the more distant past. But they were never the sort of extreme that we saw in 2020. Just look at the chart below to see what I mean.
Before the pandemic began, Bitcoin was trading below $10,000. So it could fall a lot further, yet still be a profitable investment for someone who began investing in February 2020.
2. Historical Evidence Indicates That Bitcoin Has Begun To Follow a Halving Cycle.
Bitcoin is unique in that its mining reward is cut in half every four years. And if we evaluate the coin's historical performance, it appears that it may be falling into a halving cycle of sorts. Let me explain.
The three halving events that have happened so far took place in 2012, 2016, and 2020. The price of Bitcoin has experienced a significant price increase in the months after each halving event. Those surges have, in turn, been been followed by extended pullbacks. And then the next halving event occurs, which effectively restarts the cycle.
We're now exactly halfway between our last halving event (2020) and the next one (2024). And when did the last crypto winter happen? Exactly halfway between the 2016 and 2020 halving events. So, by simply looking at how Bitcoin has behaved over time, it wouldn't shock me to see depressed prices until we draw closer to 2024.
Am I guaranteeing that? No. I'm simply saying that I wouldn't be surprised to see Bitcoin's price continue to trade below its $64,000 all-time-high for the foreseeable future.
This halving cycle phenomenon obviously only applies to Bitcoin. But we also know that Bitcoin has become an unofficial proxy for the crypto market as a whole. As Bitcoin goes, so tends to go the vast majority of other cryptocurrencies.
The Bottom Line
Whether we're entering a crypto winter or cryptocurrency markets hit new highs next month, one thing is clear. Cryptocurrencies are still wildly volatile assets.
That makes sense as most cryptos today still derive their value nearly entirely from demand rather than fundamental factors such as revenue or profits. In the future, cryptocurrencies could become increasingly useful for handling day-to-day transactions. But, for now, they're mostly a vehicle for speculation.
This latest crash is a poignant reminder of why it's so critical for investors to focus on diversification. And if you do decide to dabble in alternative investments, like crypto, make sure to confine them to a small portion of your overall portfolio.