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A physical imitation of the Bitcoin cryptocurrency is depicted with a $ 1 banknote. Cryptocurrencies are plunging on a range of factors, including the impact of falling stock markets and fears of increased regulation. Martin Bureau / AFP via Getty Images hide caption
rock legend Martin Bureau / AFP via Getty Images
A physical imitation of the Bitcoin cryptocurrency is depicted with a $ 1 banknote. Cryptocurrencies are plunging on a range of factors, including the impact of falling stock markets and fears of increased regulation.
Martin Bureau / AFP via Getty Images
It has been a tough race for cryptocurrency investors lately. Bitcoin, the best-known of these virtual assets, is down nearly 40% since hitting a record high of just under $ 65,000 in mid-April.
So what is going on?
There are a handful of reasons why the value of digital currencies is plunging.
There is the massive sell-off that we are seeing on Wall Street due to overflowing inflationary fears. There are also concerns that regulators around the world, including the United States, are cracking down on these virtual assets. And then there’s Tesla CEO Elon Musk, whose comments continue to move cryptocurrencies like Bitcoin.
But perhaps the main reason is the simplest of all: They are risky and volatile investments, and this is how they behave.
Remember, Bitcoin is a young asset. It’s only been around for 13 years and you could buy it for a few dollars.
Here’s a look at the crazy cryptocurrency race:
Weren’t we just talking about a Bitcoin boom?
Yes, until recently we were. During the pandemic, novice and traditional investors began to buy digital currencies en masse.
A real life example: Over a year ago, Bitcoin was trading below $ 7,000, then peaked at almost $ 65,000 last month.
The same excitement that drove hobbyist Robinhood app traders to buy GameStop stocks has fueled the cryptocurrency frenzy.
For months, people were stuck in their homes, with free time. And for a while at least, it seemed like it was a sure thing: prices kept going up.
Ed Moya, senior market analyst at OANDA, called Bitcoin “easy trading” with “a one-sided move.”
Over the past year, many large institutional investors have also started adding cryptocurrencies to their portfolios, which has given them additional legitimacy.
According to Liz Ann Sonders, chief investment strategist at Charles Schwab, it was hard not to notice how much money was flowing into digital currencies.
“It feeds on itself,” she said.
So what’s going on now?
It turns out that cryptocurrencies are not insulated from what has been a massive sell-off in the markets.
The stock market has been hit hard since last week as a surge in consumer prices raised concerns about inflation.
Investors fear that prices will continue to rise and that the Federal Reserve may raise interest rates sooner than expected.
But wasn’t Bitcoin meant to be an inflation hedge?
This was the argument of Bitcoin enthusiasts, although many analysts do not believe this to be the case.
Moya from OANDA notes that cryptocurrencies remain a speculative asset, and when there is a sell-off in the market, Bitcoin and other virtual assets will also lose value.
In that sense, Moya argues, it’s not like gold, widely regarded as the ultimate hedge against inflation.
What about regulations?
This is another factor that hits cryptocurrencies.
Many devotees of virtual currency are deeply skeptical of the role that governments and central banks play in the financial system. The irony is that as investments in Bitcoin and other assets become more widespread, they will attract more regulatory control.
The Treasury Department announced Thursday that it will require companies that make transfers of at least $ 10,000 in cryptocurrency to report them to the IRS.
Gary Gensler, the new chairman of the Securities and Exchange Commission, has made it clear that digital currencies are something his agency will focus on.
And this week, China’s central bank banned financial institutions from participating in any transaction made up of cryptocurrencies.
What about Musk?
Musk has become closely associated with Bitcoin and other virtual currencies.
For example, the billionaire promoted a virtual currency called Dogecoin, which started out as a joke. This sparked a surge in prices, but the currency then collapsed after Musk called it “turmoil” when he hosted Saturday Night Live this month.
But Musk has been most closely associated with Bitcoin.
“He was Bitcoin’s greatest cheerleader,” Moya said. “The market is always sensitive to these influencers.”
Musk sparked a rally in Bitcoin after announcing in February that his automaker Tesla had bought $ 1.5 billion worth of Bitcoin and would accept payments in the virtual asset.
But Musk stunned investors this month by announcing that Tesla would stop accepting Bitcoin payments over concerns about the impact on the environment.
In doing so, he drew attention to something that has dominated digital currencies since their inception and that takes a lot of energy to mine.
So what about these environmental concerns?
The environmental impact is great.
Discovering Bitcoin, or mining, involves big computers working to solve very complex mathematical formulas (yes, it’s complicated).
It requires tremendous power, and it’s often done in countries like China that depend on dirtier energy sources like coal.
Researchers at the University of Cambridge in the UK, for example, have estimated that mining Bitcoin uses more energy each year than Argentina as a whole.
Several of Bitcoin’s competitors see it as a way to differentiate themselves from digital currency, and they assert their good faith more respectful of the environment.
So finally, what’s the big takeaway?
Simple: that cryptocurrencies like Bitcoin are incredibly volatile investments.
It can go through vertiginous rallies which are then followed by equally vertiginous falls, sometimes in a single day.
The markets experienced this on Wednesday. In the morning, Bitcoin fell more than 30%, only to turn around and rise by more than 30% in the afternoon.
This is why most analysts warn amateur investors against cryptocurrencies, although they say that assets can make sense if they are held as long-term investments or for professional investors. .
“It’s too volatile for most investors,” says OANDA’s Moya. “But I think for longer term investors, depending on when you entered, you might still feel calm and confident about your investment.”
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