Are we in a crypto bubble?

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With recent fluctuations in cryptocurrency values, many investors are wondering what the future holds. Current investors may worry about losing money if a crypto bubble bursts, while new investors may be curious about whether it’s a good time to put in their money.

Crypto investors of all levels should consider the current state of cryptocurrency, how crypto bubbles work, and how to recognize these trends.

What is a crypto bubble?

A bubble occurs in a market when an asset is priced higher than its value. Generally, investments and assets are valued based on factors such as demand, earnings, growth potential and more. In some cases, however, the value of an asset will increase more than expected.

A crypto bubble is formed under the following circumstances:

1. Excitement over a specific asset leads to a rapid increase in price.
2. Investors notice the increase in value and invest in the asset, further increasing its price.
3. As more people invest, the asset’s price will exceed its intrinsic value.

Not all rapid price increases indicate a crypto bubble. For example, price jumps can occur during recovery periods after a recession. The main difference is that these price increases can be justified by the traditional factors used to value an investment.

Are we in a crypto bubble?

It is difficult to assess whether the value of various cryptocurrencies is justified or whether they are simply overvalued due to excitement. Traditional investments are valued based on business performance and other financial metrics, while cryptocurrency is primarily valued based on factors such as demand, production costs and competition.

Bitcoin, one of the most popular cryptocurrencies, has been said to have many bubbles over the years:

• In December 2017, the price reached over $13,000 before bursting.
• In 2019, the value rose from a low level close to $3,400 to over $12,000.
• In October 2021, after many dips and peaks, Bitcoin reached over $61,000.

While Bitcoin’s current price has since fallen to its current value of $21,450.54, as of August 23, 2022, this is still much higher than many skeptics had thought it would reach when cryptocurrencies were first introduced. It is difficult to determine what caused these fluctuations in Bitcoin’s value, since much of its value comes from speculation.

How crypto bubbles work

In any market, bubbles form and pop in similar ways:

1. Bubbles usually start with something that causes investors to change their perspective on a particular investment or investment vehicle. In this case, the invention of cryptocurrency may have been a catalyst for exciting new investment opportunities.
2. Investors will then begin to hear about potential gains from the investment in question.
3. Speculators will start taking their chances, increasing the price further and attracting even more investors. Using Bitcoin as an example, the growth period from 2017 to 2019 is indicative of this phase.
4. At the top, the bubble will attract many new investors who believe there is little risk and a lot to gain. They may make unjustified investment decisions, which will drive the price even higher.
5. Eventually, a few investors may lose money, which will then cause others to sell their shares. This causes a snowball effect and while some investors may come out with gains, those who are too late to sell may end up with significant losses and the investment price will fall back down.

While Bitcoin’s peak prices in 2021 were followed by sharp falls, it is unclear whether this is a true crypto bubble since the factors used to value cryptocurrencies are difficult to determine.

How to recognize bubbles

The best way to recognize a crypto bubble is to understand the market behavior outlined above. However, many investors will not recognize a bubble until it has popped. Also, identifying crypto bubbles is more complicated than bubbles in traditional markets.

With traditional investments, an investor may be able to predict a bubble if the price begins to rise above the actual value of the investment. Individuals can look at business performance, financial metrics and other factors to determine the actual value of the investment.

However, in the case of cryptocurrency, these traditional factors cannot be applied. An investor may be able to identify crypto bubbles by examining investor mentality. For example, if a sharp price increase occurs immediately after a viral post on social media, it could be that investors are excited about a new opportunity.

The future of cryptocurrency

The cryptocurrency market is expected to nearly triple by 2030. While more governments, businesses, and individuals are open to cryptocurrency, there is still a lot of skepticism around the value of cryptocurrencies and how to implement balanced regulations.

People investing in cryptocurrency identify benefits such as easy payment handling, accessibility and working more closely with other individuals than banks and large organizations. However, they worry about market volatility and keeping their assets safe.

Because of these factors, there are mixed feelings about larger companies investing in cryptocurrency and government regulation of the industry. Since many investors like the non-traditional system cryptocurrency uses, they are skeptical that it will become more corporate-oriented.

Going forward, governments, companies and individuals will need to work together to create a system that balances the need for regulation with the desire to retain the existing peer-to-peer structure of cryptocurrency.

Remove

It is difficult to determine whether a crypto bubble is building. Therefore, investors may be unsure whether to invest in cryptocurrencies or not.

When making investment decisions, individuals should consider the reasons behind wanting to invest money. For example, if a person invests in cryptocurrency just because they want to join the crowd, they might want to spend more time figuring out if the investment makes sense.

The information is accurate as of August 24, 2022.