Heard stories about people who have lost their life savings because the cryptocurrency market crashed? Are you worried that it may happen again and wipe out your investments?
It should be noted that the prices of cryptocurrencies have always been volatile. That is part of their appeal, and the risk is what makes the potential for profit possible.
On your part however it is important that you understand cryptocurrency crashes – and the reasons that they happen.
Causes of Cryptocurrency Price Drops
A cryptocurrency crash can be caused by several different factors. The worst often involve a number of them affecting the price in tandem.
Some of the common causes of cryptocurrency price drops are:
- Profit taking
At various points trader and investors will want to cash out some of their gains – which is only normal. It may be triggered by a specific event, such as breaking a price target, or a recent announcement.
If the profit taking is widespread and its scale is large, it will cause the price of the cryptocurrency to drop. Generally that price drop will eventually be corrected to match the trend, but in some cases it may be the trigger for a crash.
- Breakouts
The price of cryptocurrencies is often ‘supported’ at certain levels that stop it from falling too fast. However once the price breaks through a support level, it can start to plummet quickly due to the tremendous selling pressure.
If it breaks with force it could lead to a crash that actually bottoms out the market – like what happened in 2018.
- Knock-on effect
Cryptocurrencies are not tied to real world assets, which makes them very vulnerable to speculation. That is why very often its price drops end up cascading as traders and investors panic due to the selling pressure that is put on them.
The knock-on effect can cause the rate of the price drop to increase exponentially and is difficult to contain. It is often triggered by profit taking, and can be acerbated by breakouts that breach support levels.
- Poor results
Many cryptocurrencies are startup projects and as a result are vulnerable to poor results. Sometimes all it takes is a single piece of bad news, or a small misstep and that could cause the currency’s price to crash.
The fact of the matter is that right now there are about 2,000 cryptocurrencies out there, and about half of them are dead and have no value.
All of these common causes can make the price of a cryptocurrency drop – but in most cases that won’t end up in a crash. However at times a combination of them acting together will be enough to get the ball rolling and send the price spiraling downwards.
“Is it a Bubble?”
Whenever cryptocurrencies crash, the one question that people often ask is: Has the bubble finally burst?
Skeptics have often argued that cryptocurrencies are a bubble that will eventually burst, and most (if not all) cryptocurrencies will lose their value. However up till now that hasn’t been the case, and cryptocurrencies have continued to grow and thrive.
If anything in recent years cryptocurrencies have started to become less volatile and the price fluctuations haven’t been as bad as they were in the past. After the 2018 crash Bitcoin and other major cryptocurrencies have gradually stabilized, and seem to have matured.
It is impossible to predict if or when the next crash will happen, or how big it will be. New steps to regulate cryptocurrencies and legalize crypto exchange platforms may help to ensure that it isn’t as precipitous as it has been in the past.
Suffice to say while cryptocurrency may be a ‘bubble’ of sorts, it is starting to be no different from any other free market. Given time it may even end up being more stable than some, assuming it continues to grow.
Disclaimer: This content does not necessarily represent the views of IWB.